This Insights blog hovers over non-exclusive tax and legal considerations that a Texas religious organization that is exempt from federal income taxes pursuant to 26 U.S.C. § 501(c)(3) maybe should evaluate when deciding whether and to what extent third parties may use the organization’s real property.
Non-Exclusive Considerations for the Texas Religious Organizations Property Tax Exemption
If the organization’s property is exempt from property tax under the religious organization exemption of the Texas Tax Code, the organization should maintain a record of all third-party uses and should document whether the use was for religious worship or for secular uses (i.e., non-religious worship). The organization should also document whether the third-party user is a religious organization (as defined in the Texas Tax Code). Any secular uses (i.e., not for religious worship) should be only “occasional.”
Pursuant to the religious organization exemption in the Texas Tax Code, “[u]se of property that qualifies for the [religious organization] exemption . . . for occasional secular purposes other than religious worship does not result in loss of the exemption if the primary use of the property is for religious worship and all income from the other use is devoted exclusively to the maintenance and development of the property as a place of religious worship.” Tex. Tax Code § 11.20(d) (emphasis added).
If the organization’s property is used more than occasionally for secular purposes, then the property tax exemption is placed in jeopardy, may be revoked, or, if re-application is required, denied.
For an overview on this subject, see Insights blog Texas Religious Organization Property Tax Exemption.
Non-Exclusive Considerations for the Federal Income Tax Exemption
From a federal income tax exemption perspective, the organization must be both organized and operated exclusively for one or more of the purposes specified in section 501(c)(3) of the Code. See 26 U.S.C. § 501(c)(3); 26 C.F.R. § 1.501(c)(3)-1(a)(1). If the organization fails to meet either the organizational test or the operational test, the exemption is jeopardized, if not destroyed. The organization will be regarded as operated exclusively for one or more exempt purposes only if the organization engages primarily in activities that accomplish one or more of the exempt purposes specified in section 501(c)(3). See 26 C.F.R. § 1.501(c)(3)-1(c).
If the organization allows for-profit organizations (which includes individuals) to use the organization’s property for the for-profit organization’s benefit, such use may not advance an exempt purpose, and the organization should technically charge a use fee that is fair and reasonable. Allowing for-profit organizations to use an exempt organization’s property for free or for other than a reasonable, market-based fee, then the organization may be allowing a private benefit to the for-profit user. If the private benefit is more than insubstantial, the organization’s exemption from federal income tax is placed in jeopardy. Also, such business-promotion or individual use of the property would likely be “secular,” thus placing the property tax exemption in jeopardy, if the property is used more than “occasionally” for secular purposes. See above discussion about the Texas religious organization property tax exemption.
If the organization allows a control party or another organization that is owned or controlled by a control party or a family member of a control party (i.e., a disqualified person for federal income tax purposes), then the arrangement should probably be reviewed and approved in accordance with the organization’s conflict of interest policy or, in any event for the Texas nonprofit corporation, in accordance with section 22.230 of the Texas Business Organizations Code accessible at https://statutes.capitol.texas.gov/?tab=1&code=BO&chapter=BO.22&artSec=22.230. The terms of use should be fair and reasonable in all respects to the property owner organization in order to avoid private inurement and/or an excess benefit transaction under federal tax laws.
Depending on the particular use of the organization’s property, the fee or rent paid or revenue generated for such use of the organization’s property may constitute unrelated business income to the organization; such income may be taxable and reportable (or the revenue may be an exception or modification to the unrelated business income rules). The unrelated business income rules are complex and case-by-case specific, a determination on which may hinge on one fact in a sea of facts.
For an overview of the unrelated business income tax considerations, see 3-part Insights blog at Tax-Exemption and Unrelated Business Income Rules.
For an overview of excess benefit transactions, see Insights blog We Did What? Now What? Nonprofit Organizations and Excess Benefit Transactions.
Non-Exclusive Considerations for Sales Tax Obligations and Exemptions
Under the Texas Tax Code, a sales tax is imposed on each sale of a “taxable item” in Texas. See Tex. Tax Code § 151.051(a). A “taxable item” includes “tangible personal property.” Id. at § 151.010. “Tangible personal property” is defined to mean personal property that can be seen, weighed, measured, felt, or touched or that is perceptible to the senses in any other manner[.]” Id. at § 151.009. “An exempt organization that sells taxable items must obtain a sales tax permit and is responsible for collection and remittance of tax on all sales of taxable items that the organization makes, unless otherwise provided by this subsection or unless such sales are otherwise exempt from the tax.” 34 Tex. Admin. Code § 3.322(h)(1).
Under the Texas Tax Code and the Texas Administrative Code, a religious, educational, charitable, or eleemosynary organization may have two one-day tax-free sales or auctions each calendar year. During a tax-free sale or auction lasting only one day, the organization is not required to collect sales tax on the sales price of taxable items sold for $5,000 or less. Additionally, a taxable item may be sold tax-free during a one-day tax-free sale or auction regardless of price if the item is manufactured by the organization or is donated to the organization and is not sold to the donor. See Tex. Tax Code § 151.310(c); 34 Tex. Admin. Code § 3.322(h)(2).
The two one-day tax-free sales situations would apply to yard sales engaged by an exempt organization on the exempt organization’s property. If the exempt organization allows individuals to host their personal yard sale on the exempt organization’s property, then the two one-day exceptions will likely not apply, and sales tax is likely required to be collected and remitted in accordance with Texas law.
Certain organizations may sell prepared food tax-free. These tax-free sales are not counted against the two one-day, tax-free sales allowed under section 3.322 of the Texas Administrative Code. For example, “[s]ales of food, prepared food, soft drinks, snack items, or candy by a church or at a function of the church are exempt.” 34 Tex. Admin. Code § 3.293(g)(1). If food sales are engaged by individuals or organizations that are not exempt from collecting and remitting sales tax, then sales tax is likely required to be collected and remitted.
Non-Exclusive Insights
The above are non-exclusive considerations that should be evaluated when a Texas religious organization desires to allow third parties to use the religious organization’s real property for the user’s purpose or benefit. In all third- party use circumstances, it is advisable to have a facility use agreement that sets forth the rules, rights, and expectations for the third party’s use of the property, the terms of which, if properly structured, may protect the owner organization’s property tax exemption and federal income tax exemption, being two of the most valuable assets of the tax-exempt owner organization.
