Under the exemption provided under paragraph 149(1)(l) of the Income Tax Act, non-profit organizations arent required to register and many unincorporated nonprofit organizations don’t even have to file tax forms. These rules made it difficult for the CRA to understand how nonprofit organizations complied with the Acts provisions, so it began the Non-Profit Organization Risk Identification Project in 2009. During the NPORIP, the CRAs staff audited some organizations for compliance, published its findings, and made improvements to help NPOs better understand the rules.
The NPORIP was mainly concerned with how nonprofit organizations complied with provisions defining eligibility for an exemption under paragraph 149(1)(l) of the Income Tax Act. These provisions require that organizations claiming this exemption are:
- A club, society, or association
- Not a charity
- Organized and operated exclusively for civic improvement, social welfare, pleasure, recreation, or any purpose except profit
- Not operated to generate income for the personal benefit of a proprietor, member, or shareholder.
The CRA found a small number of cases in which nonprofit organizations claiming the exemption did not qualify under paragraph 149(1)(l) because they were in fact charities. In some of these cases, organizations registered as charities erroneously filed nonprofit organization information returns, while other organizations operated as common-law charities without ever registering as such. In addition, the CRA identified some cases where organizations articles of incorporation, letters patent, or by-laws indicated that they werent organized exclusively for a purpose other than profit. Making a profit doesnt preclude an nonprofit organization from taking the exemption under the tax exemption under paragraph 149(1)(l), if these profits are incidental and result from activities undertaken to meet non-profit objectives. However, the project found a large number of cases in which organizations werent operated exclusively for a purpose other than profit. Many of these organizations had disproportionately large capital or operating reserves generated by non-incidental profits. The NPORIP found some cases where organizations made their income available for the personal benefits of proprietors, members, or shareholders in violation of the Income Tax Acts provisions. Some disallowed benefits included items such as shareholder loans, certain dividend payments, and guarantees of personal loans on behalf of proprietors, members, or shareholders.
Broadly speaking, the CRA concluded that violations of paragraph 149(1)(l) of the Income Tax Act stemmed largely from insufficient education by nonprofit organizations about the regulations. The NPORIP encountered widespread and erroneous belief among nonprofit organizations that as long as profits are used to further their purpose, the source of the funding doesnt matter. In addition, it discovered that non-specialist volunteers administer many organizations, and that although typically these non-specialists want to comply with the rules, they may not fully understand them.
To improve how organizations comply with paragraph 149(1)(l) of the Income Tax Act, the CRA is stepping up its outreach activities, improving client service, and providing better educational materials. In addition, the CRA provided its findings to the Department of Finance Canada for consideration in making changes to the legislative framework. Consider sharing the CRA’s findings with your nonprofit organization’s employees to help your organization remain in compliance and avoid audits and penalties.