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By Angie Joya

“What do you mean I have to pay taxes on all this? I have the IRS letter right here! We are putting on a huge event this weekend. I don’t understand. I thought we did everything we needed to in order to buy church supplies tax free.”

This is an incredibly common scenario for pastors who are wanting to do good in the community. It seems logical that once you have 501(c)(3) approval from the IRS, you don’t have to pay any taxes, right? Wrong. So, what is the difference between federal tax exemption and state tax exemption? Do I even need state tax exemption?

State vs. federal

Before we dive in, it’s important to distinguish between the two types of exemptions. 

Federal tax exemption allows an organization to be free from paying income taxes on funds and money that were donated.

State tax exemption, also known as sales tax exemption, is the exemption on tax that is collected from an individual or business for the sale of merchandise or service, enforced by the state government.

Simply put, the government functions on two planes: the state level and the federal level. Furthermore, just because you have one type of exemption does not necessarily automatically grant you the other. 

Considerations when applying

Another difference between state and federal exemption is that federal tax exemption is available to all charities that apply and meet certain requirements, but not all states offer state tax exemption. There are a few things to keep in mind when considering applying for state tax exemption:

1. Determine what exemption your state offers.

Currently, over 30 states offer sales tax exemption. Some states, like California and Utah, offer only franchise tax exemption, whereas Texas offers a combination of the two!

2. Determine what the requirements are in your state.

Different states have different requirements. Most often, at minimum, the requirements for applying are:

  • Articles of incorporation: The articles of incorporation always contain a purpose statement explaining the charitable and/or religious functions of your church or ministry. This document will help serve as proof that the organization has incorporated with the State and will define its nonprofit status.
  • FEIN -(Tax ID number): The Federal Employer Identification Number is obtained from the IRS and is required for banking purposes, both for businesses and nonprofit corporations. When applying for sales tax exemption, the FEIN of the church needs to match the name that appears on your articles of incorporation.
  • Bylaws: The bylaws are the official set of rules, guidelines, and regulations designed to influence and govern the daily affairs of the organization and those involved with it.
  • Financial information: Most states require a copy of a church’s latest financial statement. This is so that the state can monitor the financial activity of the church to see that its intended purpose is truly that of a nonprofit.
    • If your church is less than one year old, we recommend that you submit a financial statement covering the time from incorporation until the present, along with a projected budget for the following year. This is so that the state can see how the church intends to use sales tax exemption, if approved.
  • Federal Determination Letter: This letter is also known as an “approval letter” for 501(c)(3) status. Many states require nonprofits to obtain their 501(c)(3) status with the IRS before applying for sales tax exemption.  This is because the states recognize that the IRS has certain requirements that nonprofits must meet before becoming federally tax-exempt. The states’ requirements often mirror those of the IRS, allowing the state to rely on the IRS’ determination of an organization’s tax-exempt status.

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3. Determine if you’re ready to apply for sales tax exemption. 

As previously discussed, different states have different filing requirements. Some states, such as Illinois, require that a church be meeting in a public facility and not in a home in order to apply, while Virginia requires that the church’s administrative expenses not be more than 40% of their total income when they apply.

Though you may feel ready, the state filing requirements may require you to meet certain specifications that you are not ready to meet. 

4. Determine what the necessary forms are with the state.

The states that offer sales or franchise tax exemption have a form that can range from one page to 20 pages. To find our more about your specific state, give us a call, 877-494-4655! 

Add 7% back to your budget

By obtaining state sales tax exemption, you are actually adding an average of 7% to your yearly budget. I always encourage pastors and leaders of churches and ministries alike to apply for sales tax exemption help them make the most of the finances they steward. Imagine filing one form and saving your church thousands of dollars in its annual operating budget!

Whether you’re not sure if you qualify, you’re uncertain of the requirements, or you’re not even sure if your state offers this benefit, StartCHURCH is here to help. For more information on sales tax exemption offered in your state, or any other exemptions that could be saving your church or ministry hundreds or thousands of dollars, contact one of our church plant specialists at 877-494-4655!

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