Raffles can provide big payoffs for your nonprofit, but can be tricky to execute. There are several tax rules that govern raffles, and while state tax laws vary a great deal, there are some basic federal tax laws that every organization can benefit from learning about. These laws concern unrelated business income, reporting obligations, and withholding requirements and when navigated skillfully with the help of nonprofit tax services, don’t have to get between you and your raffle.
A way around UBI
Unrelated business income, or UBI, can be a common pitfall for nonprofits in general, and particularly in the case of raffles. Any income a nonprofit receives that does not pertain to its tax-exempt purpose is subject to income tax. A common example of this is real estate holdings not used by the nonprofit that generate income through rent, but raffles also often qualify as UBI. However, one workaround available to you is if the raffle is conducted by volunteer labor. If “substantially all” or 85% or more of the labor used to hold the raffle is done by volunteers, the raffle income can be exempted from UBI tax. When using this strategy, it is important to thoroughly document the work and time donated to the raffle by your volunteers.
Reporting raffle winnings
Both raffle winners and your nonprofit must report raffle winnings as “Certain Gambling Income” after a particular threshold. If the amount won is $600 (less the cost of the raffle ticket) or at least 300 times the cost of the raffle ticket, your nonprofit will need to file Form W-2G with the IRS as well as provide a copy to the winner to show reportable winnings with the related income tax withheld, if applicable. In order to complete the form, collect the winner’s name, address and Social Security number.
Apply the appropriate tax withholding
If the proceeds of the winnings, which is the difference between the winnings and the cost of the raffle ticket, is $5,000 or greater, it is necessary to withhold income tax from the payout. If the winnings do not come in the form of cash, such as a with car or a trip package, determine the fair market value of the prize and deduct the cost of the raffle ticket from that amount. For some non-cash raffle prizes the fair market value may not be obvious, so be sure to have the prize valued before the drawing. Additionally, for non-cash prizes, you can offer to pay the withholding tax on behalf of the winner, or they can opt to reimburse your nonprofit for the tax.
Ernst Wintter & Associates LLP specialize in California non-profit audits and tax preparation. Contact us today for help with your non-profit audit or tax prep needs.