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Do nonprofits that engage in online fundraising activity as their principal activity qualify for tax-exempt status under IRC Section 501(c)(3)?  The IRS recently said no to three nonprofit applicants, denying their requests for tax-exempt status.^[1] One applicant operated an online retail store, with profits from sales going to the charity of the buyer’s choosing.  The other two applicants obtained most or all of their funding by charging fees for their fundraising services to nonprofit organizations.

Many nonprofit organizations that engage primarily in fundraising activities have historically qualified for Section 501(c)(3) status, including “Friends Of” organizations that send charitable funds raised to foreign programs, nonprofits that raise money for special causes such as medical research, and organizations that operate “donor advised funds” (DAFs) by which donors direct payments to other charitable organizations.  What went wrong for the online fundraising organizations here? 

The three IRS decisions have sparked dialogue in the nonprofit tax arena about whether fundraising by itself constitutes a qualified charitable activity for purposes of 501(c)(3).  Here’s what all nonprofit leaders can learn from the IRS rulings. 

First Key Requirement:  Tax-Exempt Purpose

First, in all three denial letters, the IRS focused on the organizations’ substantial commercial activities, noting the absence of any other significant activities.  To qualify as tax-exempt under Section 501(c)(3), an organization must be primarily “organized” and “operated” for certain purposes, such as religious, educational, or charitable purposes.  The IRS asserts that raising money – by itself – is not inherently a religious, educational, or charitable activity.   Consequently, the IRS and courts have consistently ruled that organizations engaging primarily in commercial activities will not qualify for tax-exempt status merely because they turn over their profits to charity.