Once the IRS recognizes an organization's tax-exempt, public charity status, subsequent reporting requirements vary. Most religious organizations are not required to file annual information returns, nor are organizations whose gross receipts are less than $25,000 per year. The majority of recognized charities fall into one of these two groups. All other organizations are required to file an annual information return:
- IRS Form 990 (for organizations with annual receipts of more than $100,000 or total assets more than $250,000) or
- IRS Form 990-EZ (for organizations with annual receipts of less than $100,000 but at least $25,000 and total assets less than $250,000).
About one-third of the charities recognized by the IRS must file one of these two forms.
IRS Form 990 is a public document. This reminder to organizations completing the form is printed on the document:
Form 990 is available for public inspection and, for some people, serves as the primary or sole source of information about a particular organization. How the public perceives an organization in such cases may be determined by the information presented on its return. Therefore, please make sure the return is complete and accurate and fully describes, in Part III, the organization's programs and accomplishments."However, many consider the Form 990 a poor choice for a person's "primary or sole source of information about a particular organization." The form was not designed primarily for the use of the general public, but rather as a document to help the IRS and state charity regulators to ensure that organizations remain true to their charitable purposes, and that private individuals do not enrich themselves at the expense of those purposes.
General Observations on Form 990Form 990 is useful for understanding some aspects of an organization's mission, programs, and finances. However, a number of cautions are in order:
- Financial information is more meaningful if viewed over a period of several years. Organizations typically change over time. A single year's Form 990 provides only a snapshot in time. Organizations are required by law to make available copies of their three most recent 990 filings for a modest fee.
- Financial indicators, such as the percentage spent on fundraising or on programs, are often misleading. Such indicators depend on several factors, including the age and size of an organization, as well as the field and types of programs it provides. Comparing the financial indicators of very different organizations probably doesn't provide any useful information to the potential donor.
- The best test of a public charity is how effectively and efficiently it achieves its stated purpose. Form 990 does not address this. The committed donor must seek additional information on charities, preferably from the charities themselves.
Form 990, Part I—Revenues, Expenses, and Changes in Net Assets or Fund BalancesPart I details sources of revenue and summarizes an organization's expenditures.
- Line 1a, Direct Public Support—contributions received directly from individuals and foundations.
- Line 1b, Indirect Public Support—contributions received through federated fundraising campaigns such as the United Way or the Combined Federal Campaign. Also included here are monies received from affiliated organizations (parent, subordinate, or supporting organizations).
- Line 1c, Government Contributions (Grants)—contributions from federal, state or local governments that are considered to provide a direct benefit to the general public. These contributions are distinct from monies received from government contracts or fees for services, which are included on Line 2 (see below). The distinction can be tricky. For example, suppose that a local government gives a rural health clinic $5,000 to support its operations. The clinic decides to use this entire amount to provide free Lyme disease inoculations to county residents. This is a government grant. If the $5,000 was given to the clinic in order to inoculate government workers against Lyme disease, and stipulated that the money be used for that purpose alone, it would be considered a government contract.
- Line 2, Program Service Revenue—revenues received by an organization while charging for the services for which it received tax-exemption. Examples include tuition received by schools, admissions received by an art museum, and patient payments for medical services at a hospital, as well as government contracts as described above.
- Line 13, Program Services Expenses—expenses incurred by an organization while performing its tax-exempt activities.
- Line 14, Management and General Expenses—expenses related to the day-to-day operation of an organization. Included are items such as personnel, accounting, and legal services, general insurance, and office management.
- Line 15, Fundraising Expenses—costs of soliciting the contributions reported on Lines 1a, 1b, and 1c. GuideStar® researchers suspect that fundraising expenses are inconsistently reported. A recent internal GuideStar® study of 83,947 organizations showed that although 68,689 (82%) reported contributions on their Form 990, only 21,386 (25%) reported any fundraising expenses.
- Line 18, Excess (or deficit) for the year—this information seems to show how much more an organization took in than it spent, but it can be misleading. Under the accounting conventions that most organizations use, a multi-year grant is to be reported in the year it is pledged, whether or not all of the money is received in that year. For example, suppose a foundation offers an organization an unconditional 3-year grant of $150,000, with annual payments of $50,000 made to the organization in each of three years. An organization following generally accepted accounting procedures will report the entire present value of the grant, not merely the $50,000 it receives the first year, even though the remainder of the money is not available to the organization until subsequent years.
Form 990, Part II—Statement of Functional ExpensesPart II shows expenditures by category and major function (program services, management and general, and fundraising). Many organizations tend to lump a high percentage of their expenses into the "Other Expenses" category, and detail those expenses on an attachment, even though most "other expenses" fit neatly into one of the categories provided. It is worth looking for this attachment.
At the bottom of Part II is a section "Reporting of Joint Costs." Organizations may report joint costs when they conduct a fundraising solicitation (usually via mail or telephone) that includes an educational component (a pamphlet or other material that furthers the exempt purpose of the organization). Only a very small percentage of organizations conduct joint education-fundraising campaigns, and for most of them it is only a small part of their overall program. However, donors should be aware that some organizations pursue joint campaigns that account for all or most of their program service expenses. In those cases, assess the educational, as opposed to the fundraising, importance of the campaign.
Form 990, Part III—Statement of Program Service AccomplishmentsIn Part III an organization describes the activities performed in the previous year that justify the organization's tax-exempt status. In this section, an organization is asked to state its primary exempt purpose, and to describe in detail its four costliest programs.
The space allotted for Part III on the Form 990 is not sufficient for many organizations to detail their program information, and the IRS instructions discourage organizations from including an attachment. Therefore, many organizations do not take full advantage of this potentially valuable section.
Form 990, Part IV—Balance SheetsPart IV details an organization's assets and liabilities. Assets are the economic resources that an organization has at its disposal. Liabilities are the outstanding claims against those assets. An organization cannot survive long if its assets do not exceed its liabilities (the amount by which assets exceed liabilities is found in Line 73, Total Net Assets or Fund Balances). Also note Lines 48c (Pledges Receivable) and 49 (Grants Receivable). These can give provide insight into the amount of income that was reported on Line 1d, but was not available for spending during the year.
The net assets are divided into three categories:
- Line 67, Unrestricted Assets—assets currently available for an organization to fulfill its tax-exempt purpose. Note that they are not necessarily liquid assets (i.e., cash and assets easily turned into cash). For example, land, buildings, and equipment bought with unrestricted funds fall into this category.
- Line 68, Temporarily Restricted Assets—assets currently available for use, but only for specific purposes indicated by the donor, or as part of an implicit promise by the organization. For example, if a donor sends an organization money solicited to help the victims of a particular natural disaster, then the organization is expected to spend the money in that manner unless the donor is informed otherwise.
- Line 69, Permanently Restricted Assets—assets with donor-imposed restrictions that do not expire. For example, a donor might make a contribution with the stipulation that investment proceeds from the contribution may be spent, but not the principal.
Form 990, Part V—List of Officers, Directors, Trustees and Key EmployeesPart V lists those people who are responsible in whole or in part for the operations of an organization. Entries should include titles and compensation, if any. A "key employee" is essentially an employee who exerts a significant influence on an organization's finances or activities.
Compensation is a controversial topic. This may be even truer in the nonprofit sector than in the for-profit sector. Often donors feel that money paid to employees takes away from money that could be spent on the charitable purpose of an organization. It is important to remember that the most important asset of any organization is its people. In today's tight job market, nonprofits must offer increasingly competitive compensation packages in order to attract qualified employees.
Note that an organization will occasionally decline to provide compensation information, and state its objection on the form (this also applies to Schedule A, Part I). Organizations have no legal right to withhold this information.
Form 990, Part VI—Other InformationThis section contains a number of questions regarding the operations of an organization during a past year. Pay particular attention to "Yes" answers and their explanations for Lines 76, 77, 79, 80, 88, and 89. Line 90b gives the number of paid employees for the organization as of March 12 of the return year.
Form 990, Part IX—Information Regarding Taxable SubsidiariesMost donors are surprised to discover that nonprofits may own all or part of a for-profit business. Although not common, this is perfectly legitimate, and might even make good business sense. For example, an organization that spends a large part of its budget on printing services might find it more efficient to start its own printing company, which can handle the organization's printing needs and use its excess capacity to generate business that will become a source of funds for the nonprofit.
Form 990, Bottom of Page 6An officer of the organization should sign the Form 990. This signature indicates, under penalty of perjury, that the signing officer believes the return to be "true, correct, and complete." A recent study of 401 returns examined at GuideStar found that 10% of the forms were not signed. This is, if nothing else, extremely bad form.
Schedule A, Part I—Compensation of the Five Highest Paid Employees Other Than Officers, Directors, and TrusteesOrganizations are only required to complete this section if they have employees whose compensation is greater than $50,000. Note that employees already listed on Part V of the Form 990 need not be listed again here. Also, the total number of employees paid more than $50,000, but not listed, is requested at the bottom of Part I.
Schedule A, Part II—Compensation of the Five Highest Paid Independent Contractors for Professional ServicesAgain, organizations complete this section only if they have paid an independent contractor more than $50,000.
Schedule A, Part III—Statements About ActivitiesLine 2 asks a series of questions about financial transactions between an organization and individuals in a position to influence the organization. Answers of "Yes" to any of the questions 2a - 2e should definitely be noted. Organizations are required to attach detailed explanations for any "Yes" answers. Note, however, that if an organization compensated any person listed on Part V of the Form 990 more than $1000, it would have a "Yes" answer on Line 2d. As long as all such persons are listed in Part V, an organization may simply check "Yes" and add "See Form 990, Part V."
Schedule A, Part IV—Reason for Non-Private Foundation StatusThere are certain legal and operating advantages to a "public charity" classification versus a "private foundation" classification. In this section, organizations indicate why they continue to deserve recognition as a public charity. Organizations that check one of the boxes 10 through 12 are also required to complete Schedule A, Part IV-A (see discussion below).
Organizations that check box 13 are called supporting organizations. They typically raise funds for a pre-determined selection of other tax-exempt organizations. Those organizations should be listed in this section.
Schedule A, Part IV-A—Support Schedule
An organization that is required to complete this section must meet certain public support tests in order to maintain its status as a public charity. This status test is extraordinarily complicated and well beyond the scope of this article. The support schedule is of interest to the donor because it provides data on an organization's revenue sources for as many as four years. This schedule provides an opportunity to examine how an organization's various sources of revenue have increased or declined. Note that the definitions of revenue for the purposes of the support schedule are not directly comparable to Part I of the Form 990.
The preceding is a guest post by Chuck McLean, a founding employee of GuideStar. Chuck is responsible for conducting research for GuideStar and for customers interested in nonprofit sector data. He also works to identify new data sources and ways to present data effectively to GuideStar users. Chuck produces the annual GuideStar Compensation Report, which analyzes the salary and benefits of thousands of nonprofits throughout the country.