How To Respond To IRS Letter 3612 And Protect Your Status
Summary:
The IRS Letter 3612 is issued to tax-exempt organizations when potential issues arise concerning unrelated business income (UBI). This notice warns that excessive UBI could jeopardize the organization’s tax-exempt status. It outlines the IRS’s findings and provides steps the organization can take to address the concerns, correct discrepancies, and maintain compliance with federal tax laws.
Receiving IRS Letter 3612 can be concerning for any tax-exempt organization. This notice indicates that the IRS has identified excessive unrelated business income (UBI), which might compromise the organization’s tax-exempt privileges. Responding promptly and effectively is critical to resolve the issue, avoid penalties, and ensure continued compliance. In this article, we’ll walk you through what IRS Letter 3612 entails, its potential impact, and the steps you need to take to address it effectively.
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What is IRS letter 3612?
The IRS Letter 3612 is a formal notice sent to tax-exempt organizations when the IRS believes that the organization’s unrelated business income exceeds allowable limits. Tax-exempt entities are generally exempt from federal income taxes on activities related to their exempt purpose. However, engaging in unrelated business activities beyond specific thresholds can lead to penalties or even loss of tax-exempt status.
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Unrelated business income explained
Unrelated business income refers to income from activities not substantially related to the organization’s exempt purpose. Common examples include:
- Renting property to for-profit entities.
- Selling merchandise or services unrelated to the organization’s primary mission.
- Operating facilities for commercial purposes.
Pro Tip
Engage a qualified tax professional to review your unrelated business income annually. They can help identify potential issues and keep your organization compliant with IRS regulations.
How IRS letter 3612 affects your organization
When your organization receives IRS Letter 3612, the potential consequences can be significant if left unaddressed. Here are the primary ways this notice may impact your operations:
Threat to tax-exempt status
Excessive unrelated business income can lead to a review of your organization’s eligibility for tax-exempt status. If the IRS determines that UBI activities outweigh exempt-purpose activities, your organization may lose its tax-exempt designation.
Financial penalties
Failure to report or properly account for UBI may result in fines or penalties. These penalties can quickly add up, impacting your organization’s financial health.
Audit risks
Receiving IRS Letter 3612 may increase the likelihood of an audit, leading to more in-depth scrutiny of your organization’s activities, records, and compliance measures.
What to do if you receive IRS letter 3612
If you receive IRS Letter 3612, take the following steps to address the issue:
Step 1: Review the notice carefully
Examine the letter thoroughly to understand the IRS’s concerns. Identify the specific activities or income streams flagged by the IRS as unrelated business income.
Step 2: Gather supporting documentation
Collect records related to the activities or income streams in question. This may include:
- Detailed financial statements.
- Contracts, agreements, or invoices related to flagged activities.
- Documentation showing how the income supports the organization’s exempt purpose.
Step 3: Assess compliance
Evaluate whether the income in question aligns with IRS guidelines for unrelated business income. If discrepancies exist, determine whether corrective action is necessary.
Step 4: Respond to the IRS
Follow the instructions in IRS Letter 3612 to provide the requested information or dispute the findings. Include:
- A cover letter explaining your organization’s position.
- Supporting documents that demonstrate compliance.
- Any corrective actions your organization plans to take.
Step 5: Consult a tax professional
Consider seeking advice from a tax attorney, CPA, or tax-exempt organization expert to navigate the complexities of unrelated business income rules and respond effectively to the IRS.
Pro Tip
Keep detailed records of all income-generating activities and clearly differentiate unrelated business income from tax-exempt activities to avoid IRS scrutiny.
Preventing future issues with unrelated business income
Taking proactive steps can help your organization avoid receiving IRS Letter 3612 in the future. Here’s how:
Monitor unrelated business activities
Regularly review and document income-generating activities to ensure compliance with IRS regulations. This includes segregating unrelated business income from mission-related income in your records.
Maintain transparency
Clearly communicate the relationship between income and your organization’s exempt purpose. Ensure all financial activities are well-documented and auditable.
Consult with experts
Work with tax professionals to review your organization’s activities annually. They can identify potential compliance issues before they escalate.
Consequences of ignoring IRS letter 3612
Failing to address IRS Letter 3612 can have significant repercussions for your organization. Here are the primary consequences you may face:
Loss of tax-exempt status
One of the most severe outcomes of ignoring Letter 3612 is the potential loss of your organization’s tax-exempt status. If the IRS determines that unrelated business income is excessive or improperly managed, your organization may no longer qualify for its tax-exempt designation. This can lead to increased tax liability and impact your ability to operate.
Financial penalties
Organizations that fail to comply with IRS regulations may face fines or penalties. This includes penalties for failing to report unrelated business income, underpaying taxes, or filing incomplete or inaccurate forms. These penalties can add up quickly and strain your organization’s finances.
Increased audit risks
Ignoring Letter 3612 can raise red flags with the IRS, increasing the likelihood of an audit. Audits can be time-consuming and stressful, requiring significant resources to address and potentially uncovering additional compliance issues.
Damage to reputation
Losing your tax-exempt status or facing IRS enforcement actions can damage your organization’s reputation. Donors, supporters, and partners may hesitate to contribute or collaborate, impacting your organization’s mission and long-term success.
Seeking professional help
Navigating the complexities of IRS Letter 3612 and unrelated business income regulations can be challenging. Seeking professional assistance can make a significant difference in resolving the issue effectively. Here’s how professionals can help:
Tax attorneys
A tax attorney can provide legal guidance and represent your organization in disputes with the IRS. They can help you craft a strong response to Letter 3612 and ensure your rights are protected throughout the process.
Certified public accountants (CPAs)
CPAs specialize in financial and tax compliance. They can review your organization’s financial records, ensure that unrelated business income is accurately reported, and recommend strategies to reduce compliance risks.
Nonprofit consultants
Nonprofit consultants with expertise in tax-exempt organization compliance can help assess your operations and identify activities that may trigger IRS scrutiny. They can also provide tailored strategies to maintain your tax-exempt status.
IRS taxpayer advocate service
If you’re unable to resolve the issue on your own, the IRS taxpayer advocate service is available to help. This service provides free assistance to organizations experiencing difficulty navigating IRS processes or facing undue hardship.
Pro Tip
Respond to IRS notices like Letter 3612 promptly. Delays can result in penalties, audits, or jeopardize your organization’s tax-exempt status.
When to seek help
Consider seeking professional help if:
- You are unsure about how to respond to Letter 3612 or the findings in the notice.
- Your organization has complex unrelated business income activities.
- You’ve faced similar IRS notices in the past or have unresolved compliance issues.
What outcomes to expect after responding
Once you respond to IRS Letter 3612, several outcomes are possible:
- Resolved issue: If you provide adequate documentation, the IRS may close the case without further action.
- Corrective measures: The IRS may recommend changes to your organization’s activities to maintain tax-exempt status.
- Penalties assessed: In some cases, fines may still apply if discrepancies are found.
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Frequently asked questions
What is considered unrelated business income by the IRS?
Unrelated business income refers to income generated from activities that are not substantially related to the organization’s exempt purpose. For example, operating a gift shop, renting out property for commercial use, or selling advertisements can qualify as UBI. The IRS requires organizations to report such income and may impose taxes on it if it exceeds allowable thresholds.
How does the IRS determine if unrelated business income is excessive?
The IRS evaluates whether the unrelated business income is substantial enough to outweigh the organization’s tax-exempt activities. If the income and effort devoted to unrelated business activities represent a significant portion of the organization’s overall operations, the IRS may consider it excessive and review the organization’s tax-exempt status.
Can unrelated business income jeopardize an organization’s tax-exempt status?
Yes, if unrelated business income becomes a primary focus of the organization or is not properly reported and taxed, it can lead to penalties or even revocation of the tax-exempt status. The organization must ensure its exempt-purpose activities remain the primary focus to maintain compliance.
How can an organization dispute the IRS’s findings in letter 3612?
Organizations can dispute the findings in IRS Letter 3612 by providing a detailed written response. This should include supporting documentation, such as financial records or contracts, to demonstrate compliance with IRS rules. Consulting a tax professional can help ensure the dispute is handled effectively.
Need help understanding other IRS letters and notices? Visit our comprehensive guide to IRS Letters and Notices or search for the document you received in the table below.
| CP01 | The IRS verified your claim of identity theft and will monitor your account. |
| CP01H | The IRS received a tax return with a social security number that belongs to a dead person. |
| CP02H | Money is due on an amended return based on a grant received due to Hurricane Katrina, Rita, or Wilma. |
| CP03C | You received the First-Time Homebuyer Credit for a house you purchased. |
| CP04 | You may be eligible for tax deferment because either you or a spouse served in a combat zone, a qualified contingency operation, or a hazardous duty station during the tax year specified on your notice. |
| CP08 | You may be entitled to additional money due to the Additional Child Tax Credit. |
| CP10 | Your tax return changed due to a miscalculation, and the refund you wanted to apply to an estimated tax payment has changed. |
| CP10A | Your tax return changed due to a miscalculation of the Earned Income Credit, and the refund you wanted to apply to an estimated tax payment has changed. |
| CP11 | You owe money because the IRS amended your return due to a miscalculation. |
| CP11A | Your tax return changed due to a miscalculation of the Earned Income Credit, and the refund you wanted to apply to an estimated tax payment also changed. |
| CP11M | Your tax return changed due to a miscalculation of the Making Work Pay and Government Retiree Credit, and the refund you wanted to apply to an estimated tax payment has changed. |
| CP12 | You are due a bigger refund because the IRS corrected one or more mistakes on your tax return. |
| CP12A | The IRS made changes to correct the Earned Income Credit (EIC) claimed on your tax return. |
| CP12E or CP12F | The IRS corrected a miscalculation on your return. |
| CP12M | The IRS made changes to the computation of the Making Work Pay and/or Government Retiree Credits on your return. |
| CP12R | The IRS made changes to the computation of the Rebate Recovery Credit on your return. |
| CP13 | The IRS made changes to your return due to a miscalculation. There is no refund or amount due. Your balance is zero. |
| CP13A | The IRS made changes to your return due to a miscalculation of the Earned Income Credit. There is no refund or amount due. Your balance is zero. |
| CP13M | The IRS made changes to your return due to a miscalculation of the Making Work Pay credit or the Government Retiree Credit. There is no refund or amount due. Your balance is zero. |
| CP13R | The IRS made changes to your return due to a miscalculation of the Recovery Rebate Credit. There is no refund or amount due. Your balance is zero. |
| CP14 | You owe money on unpaid taxes. |
| CP16 | The IRS made changes to your return due to a miscalculation. The refund you were due was applied to other tax debts. |
| CP21A | You owe money due to the changes you requested that the IRS make on your tax returns. |
| CP21B | You are due a refund due to the changes you requested that the IRS make on your tax returns. The money should arrive within 2 to 3 weeks. |
| CP21C | The IRS made the requested changes to your tax return. You will not receive a refund, and there is no tax due. Your balance is zero. |
| CP21E | As a result of your recent audit, the IRS made changes to your tax return, and you owe money as a result of those changes. |
| CP21I | The IRS made changes to your tax return relating to the Individual Retirement Arrangement (IRA) taxes. You owe money due to the changes. |
| CP22A | The IRS made the changes you requested, and you owe money as a result. |
| CP22E | As a result of your recent audit, the IRS changed your tax return, and you now owe money. |
| CP22I | The IRS made changes to your tax return relating to the Individual Retirement Arrangement (IRA) taxes. You owe money due to the changes. |
| CP23 | The IRS changed your return because there was a difference between the amount of estimated tax payments listed on your tax return and the amount actually posted to your account. You owe taxes due to these changes. |
| CP24 | The IRS changed your return because there was a difference between the amount of estimated tax payments listed on your tax return and the amount actually posted to your account. This resulted in an overpayment of estimated taxes. |
| CP24E | The IRS changed your return because there was a difference between the amount of estimated tax payments listed on your tax return and the amount actually posted to your account. This resulted in an overpayment of estimated taxes. |
| CP25 | The IRS changed your return because there was a difference between the amount of estimated tax payments listed on your tax return and the amount actually posted to your account. You are not due a refund, nor do you owe any money. Your balance is zero. |
| CP31 | You need to update your address because your refund check was returned to the IRS. |
| CP45 | The IRS was unable to apply your overpayment to your estimated tax as you requested. |
| CP49 | The IRS used all or part of your refund to pay a tax debt. |
| CP53 | Your refund check will be sent by mail because the IRS can’t provide your refund through direct deposit. |
| CP57 | The bank declined your payment, so the IRS was unable to draft funds from your bank account. |
| CP71 | A reminder of the amount you owe in tax, penalty, and interest. |
| CP71A | A reminder of the amount you owe in tax, penalty, and interest. |
| CP71C | A reminder of the amount you owe in tax, penalty, and interest. |
| CP71D | A reminder of the amount you owe in tax, penalty, and interest. |
| CP88 | The IRS is holding your refund because you haven't filed one or more tax returns, and it believes you will owe tax. |
| CP90 | The IRS is notifying you of its intent to levy certain assets for unpaid taxes. You have the right to dispute the levy in a Collection Due Process hearing. |
| CP91 | The IRS will levy up to 15% of your social security benefits for unpaid taxes. |
| CP120 | The IRS needs documentation of your tax-exempt status. |
| CP120A | Your organization’s tax-exempt status has been revoked because it failed to file a Form 990 series return for three consecutive years. |
| CP130 | You may no longer need to pay the Alternative Minimum Tax (AMT) because your tax return filing requirements changed. |
| CP152 | The IRS received your return. |
| CP153 | The IRS will send your refund by mail because your direct deposit did not go through. |
| CP161 | You have an unpaid balance due to the IRS. |
| CP166 | Your monthly payment to the IRS did not go through due to insufficient funds in your bank account. |
| CP178 | You may no longer owe excise tax because your tax return filing requirements changed. |
| CP231 | You need to update your address because your refund was returned to the IRS. |
| CP259 | You did not file the business tax return identified in the notice. |
| CP259A | You should have filed these forms but did not – Form 990/990-EZ, Return of Organization Exempt From Income Tax, or Form 990-N (e-Postcard). |
| CP259B | The IRS requires you to file these forms but did not – Form 990-PF, Return of Private Foundation or Section 4947(a)(1) Nonexempt Charitable Trust Treated as a Private Foundation. |
| CP259C | The IRS believes that you are a private foundation, but did not file the required Form 990-PF, Return of Private Foundation or Section 4947(a)(1) Nonexempt Charitable Trust Treated as a Private Foundation. |
| CP259D | You must file this form, but you did not – Form 990-T, Exempt Organization Business Income Tax Return. |
| CP259E | You should have filed this form, but you did not – Form 990-N (e-Postcard) or Form 990/990-EZ, Return of Organization Exempt From Income Tax. |
| CP259F | The IRS requires you to file this form but did not – Form 5227, Split-Interest Trust Information Return. |
| CP259G | The IRS requires you to file this form, but you didn’t – Form 1120-POL, U.S. Income Tax Return for Certain Political Organizations. |
| CP259H | As a tax-exempt political organization, you must file this form, but you did not – Form 990/990-EZ, Return of Organization Exempt From Income Tax. |
| CP276A | You submitted your tax liability schedule incorrectly. The IRS typically charges a Federal Tax Deposit (FTD) penalty for this but did not this time. |
| CP276B | The IRS did not receive the correct amount of tax deposits. It normally charges a Federal Tax Deposit (FTD) penalty but did not this time. |
| CP297 | The IRS is notifying you of its intent to levy certain assets for unpaid taxes. You have the right to dispute the levy at a Collection Due Process hearing. |
| CP297A | The IRS has levied your assets for unpaid taxes. You have the right to dispute the levy at a Collection Due Process hearing. |
| CP298 | The IRS notifying you of its intent to levy up to 15% of your social security benefits for unpaid taxes. |
| CP501 | You have a balance due on one of your tax accounts. |
| CP503 | You have an unpaid balance on one of your accounts, and the IRS has not heard from you. |
| CP504 | You have an unpaid amount due on your account. If you do not pay immediately, the IRS will levy your state income tax refund to apply it to the amount you owe. |
| CP504B | You have an unpaid amount due on your account. If you do not pay immediately, the IRS will levy certain property or rights to property to apply it to the amount you owe. |
| CP521 | A reminder that you have an installment agreement payment due. |
| CP523 | You have defaulted on your payment agreement. Therefore the IRS is terminating the agreement and will levy your assets. |
| CP601 | Usted tiene un saldo pendiente de pago (dinero que le debe al IRS) en una de sus cuentas contributivas. |
| CP603 | No hemos recibido respuesta de parte de usted y todavía tiene un saldo sin pagar en una de sus cuentas contributivas. |
| CP604 | Usted tiene un saldo sin pagar en su cuenta. De no pagar esta cantidad inmediatemente, el IRS embargará cualquier reembolso de impuestos estatales al que tenga derecho y aplicarlo al pago de su deuda. |
| CP604B | Usted tiene un saldo sin pagar en su cuenta. De no pagar esta cantidad inmediatemente, el IRS embargará ciertas propiedades o derechos de propiedad y lo aplicará al pago de su deuda. |
| CP621 | Este aviso es para notificarle que usted tiene un plan de pagos a plazos vencido. Por favor, envíe el pago inmediatamente. |
| CP623 | Este aviso es para informarle nuestra intención de cancelar su plan de pagos a plazos y confiscar (embargar) sus bienes. Usted incumplió en su acuerdo. |
| CP711 | Nosotros realizamos cambios a su planilla debido a que entendemos que hubo un cálculo erróneo. Como resultado de estos cambios, usted adeuda dinero por sus contribuciones. |
| CP721 | Hicimos el(los) cambio(s) que usted solicitó a su declaración de impuestos para el año tributario que aparece en su aviso. Como resultado de éste(estos) cambio(s) usted debe dinero en sus impuestos. |
| CP722 | Hicimos el(los) cambio(s) que usted solicitó a su declaración de impuestos para el año tributario que aparece en su aviso. Como resultado de éste(estos) cambio(s) usted debe dinero en sus impuestos. |
| CP771 | Usted recibió este aviso para recordarle sobre la cantidad que adeuda en contribuciones, multas e intereses. |
| CP772 | Usted recibió este aviso para recordarle sobre la cantidad que adeuda en contribuciones, multas e intereses. |
| CP773 | Usted recibió este aviso para recordarle sobre la cantidad que adeuda en contribuciones, multas e intereses. |
| CP774 | Usted recibió este aviso para recordarle sobre la cantidad que adeuda en contribuciones, multas e intereses. |
| CP959 | Usted no radicó su planilla de contribución de negocios identificada en este aviso. |
| CP2000 | The income or payment information on file doesn’t match your tax return. The discrepancy may result in an increase or decrease in your tax due. |
| CP3219A | The IRS has received information that is different from what you reported on your tax return. This may result in an increase or decrease in your tax. |
| CP3219N | The IRS didn’t receive your tax return, so it calculated your return based on the information received from employers, financial institutions, and others. If you want to challenge the proposed tax, you have 90 days from the date of this notice. If you are outside the country, you have 150 days. |
| Letter 0012C | The IRS needs additional information to process your tax return. |
| Letter 0484C | The IRS wants a completed |
| Letter 0525 | Updates you on proposed changes after an IRS examination. Any changes are explained and details the refund due or taxes owed. |
| Letter 531 | IRS Notice of Deficiency. The information the IRS received about you was different from what you reported on your return. |
| Letter 0668D(LP 68) | The IRS released their levy. |
| Letter 0549C | Your tax bill was paid. |
| Letter 0681C | The IRS accepted your payment proposal. However, this is not a formal Installment Agreement. |
| Letter 0757C | You did not adhere to the terms of your Installment Agreement. |
| Letter LT 11 | The IRS plans to seize your property or rights to property. |
| Letter 1058 | The IRS has not received your payment. It plans to seize your property or rights to property. |
| Letter 1615 (LT 18) | You must respond to the IRS within 10 days of this notice regarding past due tax returns. |
| Letter 1737 (LT 27) | Complete and sign Form 433F, Collection Information Statement. |
| Letter 1961C | Your application for a Direct Debit Installment Agreement was declined. It explains why and what you need to do to qualify. |
| Letter 1962C | Your application for a |
| Letter 2050 (LT 16) | The IRS is trying to collect unpaid taxes from you from returns that have been filed or from returns that have not been filed. |
| Letter 2257C | The IRS is providing the payoff amount that you requested. |
| Letter 226-J | An IRS letter to large employers notifying them that they may be liable for an Employer Shared Responsibility Payment (ESRP). |
| Letter 2271C | A request for an Installment Agreement has been approved. It explains the fees and how to qualify for a Low Income Fee Reduction. The letter may also request missing information. |
| Letter 2272C | An IRS letter explaining why your request to pay the balance due in installments was declined. |
| Letter 2273C | A confirmation letter of your request to pay the balance due in installments. It contained the amount to pay, fees charged, and where to send payment. Instructions on how to apply for the Low Income Fee Reduction included. |
| Letter 2318C | A response to a request to pay taxes due to payroll deductions. It also explains the fees that are charged. |
| Letter 2357C | The IRS is admitting that it did not send you the balance due notices that it should have. |
| Letter 2603C | The IRS accepted your installment agreement. The IRS will file a Notice of Federal Tax Lien on your personal property. |
| Letter 2604C | The IRS has accepted your request for installment payments. This IRS letter provides the monthly payment, the address where to send it, and the fees charged. The letter also provides instructions on how to apply for the Low Income Fee Reduction. |
| Letter 2761C | The IRS is requesting your combat zone service dates to ensure that it provides you with the special provisions and protection of the combat zone deferment. Copies of military orders or other documentation to support your time served may be requested. Civilians working in support of the Armed Forces may be required to provide a Letter of Authorization or a letter from their employer. |
| Letter 2789C | An annual reminder notice, as required by law, of the balance due to the IRS. It explains that penalties and interest continue to accrue until the balance is fully paid. |
| Letter 2840C | Confirms your Installment Agreement request and includes the payment amount and due date. This IRS letter explains the fees charged for paying monthly and explains how to apply for the Low Income Fee Reduction (if you qualify). |
| Letter 3030C | Provides an explanation of the tax, penalty, and interest still due on your account. |
| Letter 3127C | A confirmation of your request to make a change to your Installment Agreement. This IRS letter explains the fees for the change. Changes can be to the payment amount or due date, or it can include additional liabilities. |
| Letter 3174 | A reminder of taxes due after the IRS has sent a Notice of Intent to Levy. |
| Letter 3217C | The IRS has accepted your request to pay the balance in installments. This IRS letter provides your payment amount, the due date, and fees charged. The letter also provides instructions on applying for the Low Income Fee Reduction (if you qualify). |
| Letter 3228 (LT 39) | A request to pay the balance due within 10 days using the envelope provided. |
| Letter 3500 | The IRS has received your documents, and it needs additional time to review them. |
| Letter 3572 | Your Federal Income Tax Return has been selected for examination. The IRS auditor requests that you call to schedule an audit appointment. |
| Letter 4883C | The IRS received your federal income tax return but needs more information to verify your identity in order to process your tax return accurately. |
| Letter 4903 (LT 26) | You must file your tax returns immediately. The IRS has previously contacted you, but it did not receive a response. |
| Letter LP 47 | The IRS is trying to locate the person identified in the letter and is requesting that you provide their new address. |
| Letter LP 59 | The IRS has not received a response to the notice of levy it previously sent. |
| Audit Letter 2205 | The IRS manages audits either by mail or through an in-person interview to review your records. The interview may be at an IRS office (office audit) or the taxpayer’s home, place of business, or accountant’s office (field audit). |
| Letter 915 | You recently underwent an audit, and the IRS informs you that you now owe taxes. |
Key takeaways
- IRS Letter 3612 highlights excessive unrelated business income that may threaten tax-exempt status.
- Act promptly by reviewing the letter, gathering documentation, and responding to the IRS.
- Monitor unrelated business activities to prevent future compliance issues.
- Consult a tax professional for guidance in responding effectively and avoiding penalties.
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