The Internal Revenue Service has issued new guidance (in the form of Revenue Procedure 2014-11) for small nonprofits looking to regain lost tax-exemption. The process outlined in the Rev. Proc. significantly changes the reinstatement process…mostly for the better.
Under the old procedure, nonprofits that had their 501(c)(3) status revoked due to failure to file Form 990 for 3 consecutive years had a difficult time establishing sufficient reasonable cause, i.e., a good reason why they missed filing their Form 990 3 years in a row. Reasonable cause was necessary to have their reinstatement be retroactive to when they lost their status. If they could somehow manage to establish reasonable cause, they also had to prepare and file Form 990-EZs for each of the years missed, even if one or two of those years only required Form 990-N originally. This proved to be a very time-consuming and expensive process.
Nonprofits could choose to forgo retroactivity, but had to settle for a new 501(c)(3) effective date that matched the postmark date of the reinstatement application. The big problem with that scenario was the creation of a taxable “gap” period between the date the nonprofit first lost its tax exemption and when it got it restored. For example, if a nonprofit lost its 501(c)(3) status effective May 15, 2012 and could not establish reasonable cause for retroactive reinstatement, and filed a new 501(c)(3) application on July 15, 2013, they would have a taxable gap of 14 months. It is my belief that the nightmare of having to deal with 2 short-year for-profit returns and 2 short-year Form 990s for the same organization is what gave rise to the new procedure. No matter the reason, it is better for the nonprofits in question.
Now, small nonprofits, defined as those whose Form 990 requirement was either Form 990-N or Form 990-EZ, can apply for retroactive reinstatement by filing a new Form 1023, along with Form 990-EZs for those years in which it was required, but missed. If any or all of the missed years required Form 990-N, they do not have to be filed in arrears. Reasonable cause will now be assumed and not required to be articulated in writing. In addition, late filing penalties for the prior year Form 990-EZs will be abated. This is no small change to the process and one that should benefit thousands of small organizations dealing with lost exemptions.
It should be noted that this Revenue Procedure does not change the requirements for larger nonprofits seeking reinstatement of tax-exemption. They will still be required to provide definitive reasonable cause and will not have late filing penalties waived.