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Welcome to Frequently Asked Questions about 501(h) election.
General Information on the 501(h) Election:
What is the 501(h) election?
Essentially, the 501(h) is a section of the Internal Revenue Code outlining an objective expenditure test for measuring an eligible 501(c)(3) organization’s lobbying expenditures in accordance with federal law. As opposed to the uncertainty associated with the subjective “substantial part test,” the 501(h) election is well-defined and offers explicit limitations and restrictions.
Why would a charity make the 501(h) election?
The 501(h) election provides a charity with a definitive amount which can be spent on lobby each year. Absent such an election, a charity is restricted from engaging in “substantial” lobbying activities. What constitutes substantial lobbying activities is determined based on the facts and circumstances of each case. A charity will not know for certain if its lobbying activities have crossed over from insubstantial to substantial, which could put its tax-exempt status at risk.
Who can make the election?
The following organization can make the election: educational institutions; hospitals; medical research organizations; organizations supporting government schools; organizations publicly supported by charitable contributions; agricultural organizations; organizations publicly supported by admissions, sales, etc.; and organizations supporting certain types of public charities
Who is prohibited from making the election?
The following organizations are prohibited from making the election: church or a convention or association of churches; an integrated auxiliary of a church or of a convention or association of churches; a member of an affiliated group of organizations which includes the above disqualified organizations; a private foundation; a testing for public safety organization; and a supporting organization for civic leagues, social welfare organizations, labor unions or business leagues.
How does a 501(c)(3) organization elect 501(h) status? Is it difficult or complicated to make the election?
By completing the simple single page IRS form 5768. The form only requires the organization’s id, address, and the first tax year to which the election will apply. There is no need to re-file annually; the form stays in effect until the organization self-revokes the election.
See form and instructions: https://www.irs.gov/pub/irs-access/f5768_accessible.pdf
What is lobbying under the 501(h) election?
At the most basic level, lobbying consists of communications that are intended to influence specific legislation. For 501(h) electing charities, there are two kinds of lobbying communications: (1) direct lobbying and (2) grassroots lobbying.
IRC § 501(h)(2)(A), (C):https://www.law.cornell.edu/uscode/text/26/501
IRC § 4911(d): https://www.law.cornell.edu/uscode/text/26/4911#d
What is direct lobbying?
Any attempt to influence any legislation through communication with any member or employee of a legislative body; or any government official or employee (other than a member or employee of a legislative body) who may participate in the formulation of the legislation, but only if the principal purpose of the communication is to influence legislation. The communication must refer to the specific legislation and reflect a view on such legislation.
Tres. Reg. §56.4911-2(b)(1):https://www.law.cornell.edu/cfr/text/26/56.4911-2
What is grassroots lobbying?
Any attempt to influence any legislation through an attempt to affect the opinions of the general public or any segment thereof. The communication must refer to specific legislation, reflect a view on such legislation, and encourages the recipient of the communication to take action with respect to such legislation.
Tres. Reg. §56.4911-2(b)(2):https://www.law.cornell.edu/cfr/text/26/56.4911-2
Expenditure Test Calculation
What are the lobbying restrictions for a charitable organization with a 501(h) election?
There are two separate, but related limits on the amount of lobbying expenditures made in a given year. First, there is an annual cap that applies to a charity’s total lobbying expenditures. Second, there is an annual cap on a charity’s grassroots expenditures.
What is the total amount a charity can spend on lobbying under 501(h)?
The amount a charity can spend on lobbying is based on a percentage of the organization’s total exempt purposes expenditures for the year. If the charity’s total expenditures for the year does not exceed $500,000, then 20% of its expenditures may be for lobbying. Once the charity’s expenditures exceed $500,000 the allowable percentage gradually decreases from 20% to 5%. Allowable lobbying expenditures is then capped at $1,000,000 once the charity’s total expenditures exceed $17,000,000.
How much can a charity spend on grassroots lobbying?
The amount a charity can be spend on grassroots lobbying is equal to 25% of its allowable lobbying amount.
What does “exempt purpose expenditures” mean? Why is it important?
Exempt purpose expenditures are the amounts a charity spends (including its lobbying expenditures) in furtherance of its exempt purposes. The amount of allowable lobbying expenditures and grassroots lobbying expenditures is based on a percentage of the charity’s exempt purposes expenditures. Exempt purpose expenditures include:
1. The total amount paid or incurred for religious, charitable, scientific, literary, or educational purposes, or for the prevention of cruelty to children or animals, or to foster national or international amateur sports competition (not including providing athletic facilities or equipment, other than by qualified amateur sports organizations described in section 501(j)(2)),
2. The allocable portion of administrative expenses paid or incurred for the above purposes,
3. Amounts paid or incurred to try to influence legislation, whether or not for the purposes described in 1 above,
4. Allowance for depreciation or amortization, and
5. Fundraising expenditures, except that exempt purpose expenditures do not include amounts paid to or incurred for either the organization’s separate fundraising unit or other organizations, if the amounts are primarily for fundraising.
What is a charity’s lobbying nontaxable amount?
The lobbying nontaxable amount is the total amount a charity can spend on lobbying for a given year. The amount is calculated based on a percentage of the charity’s total expenditures for the year.
What is a charity’s grassroots nontaxable lobbying amount?
The grassroots nontaxable lobbying amount is the total amount a charity can spend on grassroots lobbying for a given year. The amount is equal to 25% of the charity’s lobbying nontaxable amount.
What happens if the charity’s lobbying expenditures exceeds the nontaxable amount?
The charity must pay a tax equal to 25% of the amount that exceeds the nontaxable amount
• Assume a charitable organization makes the following expenditures for the year
• Operational expenditures: $300,000
• Lobbying expenditures: $100,000
• Is the charity subject to a penalty?
• Total exempt purposes expenditures: $400,000 ($300,000 + $100,000)
• Lobbying nontaxable amount: $80,000 ($400,000 x 20%)
• Excess lobby expenses: $20,000 ($100,000 - $80,000)
• How much is the penalty?
• Answer: $5,000 = $20,000 x 25%
Normally Makes Test Calculation
What happens if a charity normally makes lobbying expenditures in excess of its lobbying ceiling amount or grassroots lobbying expenditures in excess of its grassroots ceiling amount?
The charity will lose its tax-exempt status.
When does a charity normally make expenditures in excess of its lobbying ceiling amount?
A charity normally makes lobbying expenditures in excess of its lobbying ceiling amount if the sum of its lobbying expenditures for the base years exceeds 150% of the sum of its lobbying nontaxable amounts for the base years. The base years consists of the determination year and the three taxable years immediately preceding the determination year.
Example: Assume the following
|Year||Exempt Purpose Expenditures||Lobbying Expenditures||Lobbying Nontaxable Amount||Grassroot Expenditures||Grassroots Nontaxable Amount|
Steps to determine if the charity “normally” makes expenditures in excess of its lobbying ceiling amount:
• Sum up the total lobbying nontaxable amounts for 2015 – 2018: $580,000.
• Multiple that amount by 150%: $870,000.
• Compare 150% figure ($870,000) with the total lobbying expenditures for the period of 2015 – 2018 ($470,000).
• Result: Because the total lobbying expenditures of $470,000 is less than that figure, the charity is deemed NOT to normally make expenditures in excess of its lobbying ceiling amount.
• The same is true for the grassroots expenditures. The total amount of grassroots expenditures ($190,000) is less than $217,000 (which is 150% of the grassroot nontaxable amount of $145,000).
When does a charity normally make grassroot lobbying expenditures in excess of its grassroot ceiling amount?
A charity normally makes grassroot lobbying expenditures in excess of its grassroot ceiling amount if the sum of its grassroot lobbying expenditures for the base years exceeds 150% of the sum of its grassroots lobbying nontaxable amounts for the base years. The base years consists of the determination year and the three taxable years immediately preceding the determination year.
How does the calculation work in the first three years?
Normally, the term “base years” includes the determination year and the three taxable years immediately preceding the determination year. If the 501(h) election has been in effect for three years or less, only years where the election has been in effect are included in the base year calculation. For example, if the 501(h) election has been in effect for two years, the base years would only consist of Year 1 and Year 2.
What is the penalty for making lobbying expenditures in excess of the lobbying nontaxable amount?
The charity must pay a tax equal to 25% of the amount in excess of the lobbying nontaxable amount.
What is the penalty for making grassroot lobbying expenditures in excess of the grassroot nontaxable amount?
The charity must pay a tax equal to 25% of the amount in excess of the grassroot nontaxable amount.
If charity make lobbying expenditures in excess of the lobbying nontaxable amount and grassroots lobbying expenditures in excess of the grassroots nontaxable amount, is the 25% tax calculated on the both excess expenditures?
No. The 25% tax is based on whichever excess amount is greater. For example, if the lobbying excess amount is greater than the grassroots excess amount, then 25% tax is calculated only on the lobbying excess amount.
How is the tax calculated?
The tax is calculated on Part II-A of Form 990 Schedule C. The tax must then be reported on Form 4720 which is filed separately from the charity’s Form 990.
When is the tax due?
Form 4720 and the applicable tax is due by the due date (not including extensions) for filing the charity’s Form 990.
What is the penalty for normally making lobbying expenditures expenses in excess of the lobbying ceiling amount?
The charitable organization will lose its tax-exempt status.
How to Make the Election
How is the election made?
The election is made by filing Form 5768.
When is the election effective?
The election is effective as of the beginning of the year the election is filed.
Can the election be revoked?
Yes, the charitable organization may voluntarily revoke a 501(h) election by filing Form 5768. The revocation is effective with the beginning of the first taxable year after the taxable year in which the notice is filed.
Can a charity re-elect 501(h) status if it has previously voluntarily revoked a 501(h) election?
Yes, the charity can make another 501(h) election. The election is effective no earlier than for the taxable year following the first year for which the revocation is effective.
Why is record keeping important?
Organizations must report their lobbying to the IRS each year, therefore they must have an efficient system which accurately keeps track of their numbers throughout the year. In addition, exceeding lobbying limits leads to financial penalties and jeopardizes the organization's tax-exempt status-- accordingly, if you do not keep track of spending you may be subject to major loss. Going hand in hand, record keeping also allows organization's to lobby without fear and raise more funds because donor's are more likely to trust an organization that demonstrates excellent record keeping skills. Efficient record keeping further provides a barrier from false accusations, and acts as an exemplary management tool.
What lobbying records are required?
An organization keeps its lobbying records according to one of two tests it choses to best fit its organization. These tests are the Insubstantial Part Test or The 501(h) Expenditure Test. The Insubstantial Part test imposes limits on an organizations lobbying based on activities and not expenditures (this includes unpaid lobbying activities such as the use of volunteers as well.) The 501(h) Expenditure Test is based on the money an organization spends on lobbying and offers more of a hardline rule. Under this test, the limit on an organizations lobbying is set as a certain percentage of their overall annual expenditure, which can be up to 20% for small organizations and decreases and organization size increases. The IRS has placed a max cap of $1,000,000 on an organizations annual lobbying expenditure.
Which test best fits your organization? (Should we move this to another section?
Some organizations will benefit more from the lobbying limits under the 501(h) Expenditure Test because it offers clearer and more generous lobbying limits than the Insubstantial Part Test. Review the tests and consult with your attorney to determine what is the best fit for your organization.
What are some suggested methods of record keeping?
The law does not require an organization to use particular procedures in their record keeping processes. However, it is recommended that an organization have a designated record keeper who has the job of tracking the annual lobbying expenditures. They will track the organizations staff time (including time spent preparing for lobbying and the act of lobbying itself,) direct costs of lobbying, and over-head expenses. Record keeping systems may be different for each organization as they should be unique to what is reasonable and affordable to each organization all while fulfilling their legal obligations.