As Trustees and Directors of libraries are faced with the rising costs of operations and the need for new or expanded services and facilities, they are faced with the need to explore new sources of revenue. Donations from foundations typically require a grant proposal and, sooner or later, Trustees are confronted with the question of whether the library or a related group has 501(c)(3) status. Some foundations restrict their donations to 501(c)(3) organizations. Whether and how this designation may be attained; what the status means for the library and its donors; and when and where to apply and file annual reports are questions that should be discussed with legal counsel. Some basic information and materials are readily available, however, and may be a helpful first step in understanding this complex area of the law.

501(c)(3) status refers to the section of the Internal Revenue Code of 1986 that provides recognition of exemption from federal income tax to certain organizations. To qualify for the exemption, an organization must be organized for one or more of the purposes specifically designated in the Code. Generally, the organization may qualify if it is organized exclusively for charitable, religious, educational, scientific, or literary purposes. In order to obtain official recognition of 501(c)(3) status, an organization must apply in writing, using the appropriate forms, directly to the Internal Revenue Service.

The Internal Revenue Service has published a helpful booklet that should be required reading for anyone seeking 501(c)(3) status for an organization or anyone managing an organization that already enjoys that status. Publication #557: "Tax-Exempt Status for Your Organization" is free of charge from the service. The booklet provides necessary information on the application process, filing requirements and disclosures, and descriptions of qualifying organizations. The publication will indicate to the reader the necessary forms for application and reporting requirements and appropriate addresses for IRS offices. An order blank is also provided.

One of the thorniest questions in this area is whether a library is a qualifying organization. Some guidance on this issue is given in Publication #557, Section 3, where the distinction between units of local government and instrumentalities is discussed. A state or municipality itself does not qualify for exemption under this section of the Code. Units of government are exempt from federal income tax under Section 170 of the Code. Under certain conditions, however, an instrumentality of government may qualify under section 501(c)(3) if it is organized as a separate entity and does not enjoy governmental powers. The question comes down to whether the library is a unit of local government or an integral part of that unit or an instrumentality of local government. This determination needs to be discussed with the library's attorney.

Ordinarily, Friends of the Library have no difficulty qualifying for 501(c)(3) status. Many such organizations have incorporated as Michigan non-profit corporations as the first step in the process of attaining 501(c)(3) status. There are distinct advantages in having this determination, not the least of which is the assurance that contributions to Friends of the Library will qualify as charitable deductions for the donors. The advantages and disadvantages of seeking 501(c)(3) status should be discussed with an attorney.

Some libraries feel comfortable with the Friends of the Library taking a very active role in fund-raising and in procuring grants for library purposes that are available only to 501(c)(3) organizations. Some libraries, on the other hand, establish funds, separate and apart from its other funds, for the express charitable purpose of supporting a special project. This type of fund may qualify for tax-exempt status. There may be distinct advantages of using this mechanism rather than asking a Friends organization to assume a large fund-raising project.

Like most legal options, 501(c)(3) status is not a difficult concept to understand. It is, however, complex in application. Trustees should consult local legal counsel for detailed information and an analysis of the advantages of such status for library-related activities.

Updated 04/27/2006