When forming a flying club, you may want to explore applying for tax-exempt status. Although flying clubs don’t exist to make a profit, if revenue exceeds expenses, that income is taxable in the eyes of the IRS. So if your club maintains an engine reserve or has cash on hand for maintenance, capital improvements, or insurance, you can expect to pay taxes on that money when your club files its annual tax return.
Establishing the club as a tax-exempt entity generally allows the club to avoid paying income taxes if revenues exceed expenses. It takes a bit of groundwork, but the returns last forever.
Tax-exempt status is obtained federally with the IRS, and is not executed on a state level. This makes the application process fairly consistent regardless of club location, as opposed to the formation of an LLC or corporation, which varies state to state.
There are two types of tax-exempt organizations that a club may consider. Most flying clubs qualify as a 501(c)(7), which is a social or recreational organization. In a few unique cases a club can qualify for 501(c)(3) status as a charitable, scientific, educational, or religious organization.
The IRS recognizes social clubs as tax-exempt organizations under section 501(c)(7) of the Internal Revenue Code. These organizations are typically referred to as "(c)(7)” exempt organizations. To operate as a (c)(7), a flying club must be organized for “pleasure, recreation, and other non-profitable purposes” and no part of the net earnings may benefit any private individual. The club members also must have regular personal contact and social activities. Simply owning an aircraft and having an annual holiday party is not enough, but regular meetings and get-togethers for things like safety seminars and social events would likely fulfill the requirement for a (c)(7) exemption. It is also important that the club not have a written policy of discrimination prohibiting membership based on race, religion, or color.
To apply for tax-exempt status, you’ll need to fill out IRS Form 1024. It requires some detailed information, including a narrative outlining your operational activities, either an anticipated budget for the first few years or financial statement for the past few years, and copies of the club’s bylaws and articles of incorporation. It’s important that the narrative demonstrates the social and recreational nature of the club. The application fee is currently $850.
It is possible, although very rare, for a flying club to gain 501(c)(3) status, which is an organization that is generally based around educational purposes and can not be operated for the benefit of private interest. This usually occurs at clubs that seek to educate youth on aviation science. Rarely do 501(c)(3) clubs have a traditional fleet with members who join for the purposes of aircraft availability. More information can be found on the IRS website.
The advantage of being a (c)(3) is the ability to receive tax-deductible donations to help fund the charitable organization’s mission. A (c)(7) cannot receive tax-deductible donations. However, one notable characteristic of a 501(c)(3) is that in the event of liquidation, assets remaining after all liabilities are fulfilled must be donated to another 501(c)(3). This means that clubs members cannot receive their stakes in the organization back in monetary form upon liquidation.
If your club desires to attain a tax exemption, it must first incorporate on a state level then file for the exemption from the IRS. Clubs should make a decision about whether or not to pursue tax-exempt status before establishing articles of organization or incorporation and bylaws. Once the decision has been made to become a tax exempt organization, appropriate wording emphasizing your tax-exempt nature should be used throughout all club legal paperwork, as well as mentioned on the club’s webpage. The IRS will review both your legal paperwork and your web presence (if available) when considering your application for tax-exempt status.
Note: Just because you receive federal tax-exempt status does not mean you receive state tax-exempt status. Every state has its own tax structure and your club should consult a legal and/or accounting professional to explore possible, state specific exemptions of sales and use taxes.