Sales tax exemption can be very valuable to a nonprofit organization, especially in a city like Chicago with a 9.25% tax. In Illinois, many nonprofit organizations qualify for state and local sales tax exemption. Sales tax exemption is by no means a slam-dunk, however, simply because an organization has an IRS determination letter in hand. The following guidance is for 501(c)(3) organizations operating in Illinois to qualify for, obtain, and retain state sales tax exemption.
What does the Illinois exemption cover (and not cover)?
The sales tax exemption for nonprofit organizations exempts the organization from paying both state and local sales and use tax on retail purchases of tangible goods, such as program materials, office equipment, and even food. This means that, upon showing a vendor its sales tax exemption letter, the organization can buy items in the state tax-free.
Securing exemption in Illinois does not mean the organization will be able to buy tax-free items in other states, so be careful if your organization operates on the border or in multiple states. The organization may need to secure exemptions in additional states, and qualification requirements vary from state to state as noted below.
The exemption also does not apply when the nonprofit organization is the party selling the items, rather than buying them. A nonprofit that regularly sells goods in conjunction with its exempt programs is generally responsible to collect and remit sales tax for those transactions.
What organizations can get the exemption?
To qualify for sales tax exemption in Illinois, a nonprofit organization must be organized and operated “exclusively” for charitable, religious, or educational purposes. Typical organizations that qualify for exemption include churches and other religious institutions, schools, traditional social service organizations, and other charitable organizations. Note, however, that the state sales tax exemption standard is stricter than the IRS’s federal income tax standard. Illinois requires the applicant to demonstrate its qualification by “clear and convincing evidence” and with “all debatable facts resolved against exemption.” That can be a steep hill to climb! Consequently, the following types of applicants may find it a challenge to get the exemption: nonprofits with significant fee-based programs; nonprofits with revenues of nearly all government funding (and only inconsequential charitable contributions); nonprofits with highly unusual programs; and organizations that don’t fall neatly into only one of the three “exclusive” categories of organization (religious, educational, or charitable).
How does an organization obtain the exemption?
The Illinois Department of Revenue (DOR) is the government agency that approves and monitors state sales tax exemptions. There is no specific form to file to request exemption from sales tax. Rather, the organization must submit documentation such as its organizing documents, its IRS tax-exempt determination letter (or information demonstrating why it is not needed, such as a church’s automatic tax-exempt status), and a brief narrative explaining the organization’s purposes, functions, and activities. Additionally, most organizations must submit their most recent revenue/expense statement. Religious organizations are not legally required to do so, but DOR representatives sometimes expect them even from such groups.
Specific requirements for documentation submission are available on the DOR’s website, http://tax.illinois.gov. Talk to a knowledgeable nonprofit law attorney about the information your organization should include in the narrative. Ask about additional documentation that would help the reviewer to understand your organization’s religious, educational, or charitable nature. Such a conversation is particularly needed where the organization falls under one of the problematic categories mentioned above.
Is the exemption renewable?
Yes. Once the Department of Revenue has approved the organization’s exemption, the organization will receive a letter to that effect. The letter will state an expiration date, which is approximately five years from the date of the letter (the first day of the month following the fifth anniversary). To renew its exemption, the organization must submit documentation similar to that provided in its original request. The organization should be prepared to do so approximately four months in advance of the expiration date so that the DOR has time to review the documents and approve the renewal.
What about other states?
Other states vary widely regarding the types of organizations that qualify for sales tax exemption and the method for obtaining recognition of exemption. Some states exempt any organization that has an IRS 501(c)(3) determination letter, while others require that the organization meet a very strict definition of charity. Some require a simple form, while others require extensive documentation.