An organization will lose its public charity status starting in its sixth year of existence if it cannot pass the public support test for two consecutive years. If the organization cannot meet the public support test for two consecutive years, it will be reclassified as a private foundation as of the start of the second consecutive year. In order to avoid unexpectedly losing your public charity classification, you should keep careful track of your public support information through out the year instead of waiting until the end of the tax year when you are preparing your Schedule A.
What is the public support test for a public charity?
There are two public support tests for public charities: one for organizations described in sections 509(a)(1) and 170(b)(1)(A)(vi) of the Internal Revenue Code, and one for organizations described in section 509(a)(2). Both tests measure public support over a five-year period.
Generally, the 509(a)(1) test requires that the organization receive at least one-third of its support from contributions from the general public, or meet the 10 percent facts and circumstances test.
Generally, the 509(a)(2) test requires that the organization receive more than one-third of its support from contributions from the general public and/or from gross receipts from activities related to its tax-exempt purposes. Under the 509(a)(2) test, an organization can receive no more than one-third of its support from gross investment income and unrelated business taxable income.
More details on the public support tests under sections 170(b)(1)(A)(vi) and 509(a)(2) are set forth in the instructions to Form 990, Schedule A.
What happens if an organization is reclassified as a private foundation?
The organization is still exempt as a 501(c)(3) organization, but it will be subject to the excise taxes that apply to private foundations. It will also file a Form 990-PF, Return of Private Foundation, instead of a Form 990, Return of Organization Exempt from Income Tax.
DISCLAIMER: This information is not intended to provide legal or accounting advice, or to address specific situations. Please consult with your legal or tax advisor to supplement and verify what you learn here.