Do Nonprofit Employees Pay Taxes? Key Facts to Know

Nonprofit organizations operate differently from for-profit businesses, but their employees are not exempt from taxes. While nonprofits may qualify for tax-exempt status, their workers still have financial obligations to the government.

Understanding how taxes apply to nonprofit employees is important for both workers and employers, as tax responsibilities vary based on employment classification, income type, and location.

Distinctions From Volunteer Roles

Employees of nonprofits receive compensation, while volunteers do not. Wages, salaries, and stipends are taxable income, whereas volunteer work does not generate taxable earnings. The IRS defines an employee as someone who performs services under an employer’s control in exchange for payment, while volunteers offer their time without financial compensation.

Nonprofits may reimburse volunteers for expenses like travel, meals, or supplies. As long as these reimbursements are directly related to volunteer duties and properly documented, they are not taxable. However, if a volunteer receives a stipend or honorarium exceeding their actual expenses, the excess may be taxable. For instance, if a nonprofit provides a $1,000 stipend to a volunteer with documented expenses of $600, the remaining $400 could be subject to income tax.

Non-monetary benefits, such as free event tickets or small gifts, are generally considered de minimis fringe benefits and are not taxed. However, substantial non-cash compensation, like valuable gift cards or travel packages, may be taxable.

Income Tax Liability

Nonprofit employees are subject to the same income tax obligations as those in the private or public sectors. Their wages and salaries must be reported on a W-2 form. The tax-exempt status of a nonprofit does not extend to its employees, who must pay federal and state income taxes based on their earnings.

Income tax owed depends on total taxable income, including wages from the nonprofit and any additional sources, such as freelance work or investments. Federal tax rates in 2024 range from 10% to 37%, with higher rates applying to higher incomes. Employees can reduce taxable income through deductions and credits, such as student loan interest deductions or the Earned Income Tax Credit, if eligible.

Certain employer-provided benefits may also affect taxable income. Employer-sponsored health insurance is generally not taxed, but perks like housing allowances or tuition assistance may have tax implications. For example, clergy members working for religious nonprofits often receive a housing allowance that may be partially or fully tax-exempt if it meets specific IRS criteria.

Federal Withholding

Nonprofit employers must withhold federal income taxes from employees’ wages to ensure taxes are paid throughout the year. Withholding is based on IRS Form W-4, which employees complete to determine deductions from each paycheck. Employees can adjust withholdings by updating this form, especially after changes in income, dependents, or filing status.

The IRS uses tax tables to calculate withholding amounts. If too little is withheld, employees may owe additional taxes and penalties. Excessive withholding results in a refund, effectively giving the government an interest-free loan. Reviewing withholdings periodically, particularly after major life events, helps maintain the right balance.

Nonprofits must deposit withheld taxes with the IRS on a schedule based on payroll size. Larger payrolls typically require semiweekly deposits, while smaller employers may follow a monthly schedule. Late deposits can result in IRS penalties ranging from 2% to 15% of the unpaid amount.

Social Security and Medicare Deductions

Nonprofit employees must pay Social Security and Medicare taxes, collectively known as FICA taxes. Employers withhold 6.2% of wages for Social Security and 1.45% for Medicare, totaling 7.65%. Employers also contribute an equal amount, effectively doubling the payment into these federal programs.

For high earners, additional Medicare taxes may apply. Individuals earning more than $200,000 annually ($250,000 for married couples filing jointly) must pay an extra 0.9% Medicare surtax on wages exceeding this threshold. Unlike standard FICA taxes, this additional Medicare tax is not matched by the employer. Employers must begin withholding this extra amount once an employee’s earnings surpass the limit.

State Tax Considerations

Nonprofit employees must also account for state income taxes, which vary by location. Some states, such as Texas, Florida, and Washington, do not impose a state income tax. In contrast, states like California and New York have progressive tax structures with rates exceeding 10% for higher earners. Employees should review their state’s tax brackets and filing requirements to ensure proper withholding.

Some states offer tax credits or deductions that can reduce taxable income for nonprofit workers, such as deductions for contributions to state-sponsored retirement plans or credits for specific types of charitable work. Employees working in one state but residing in another may have unique tax filing requirements, as some states have reciprocal agreements to prevent double taxation.

Differences for Independent Contractors

Not all individuals working with nonprofits are employees. Some provide services as independent contractors, which changes their tax responsibilities. Unlike employees, independent contractors do not have taxes withheld from their payments. Instead, they must calculate and pay federal and state income taxes, as well as self-employment taxes, which cover Social Security and Medicare contributions. These taxes total 15.3% of net earnings, as independent contractors pay both the employee and employer portions of FICA taxes.

Nonprofits must issue Form 1099-NEC to independent contractors who earn $600 or more in a tax year, reporting their total compensation to the IRS. Contractors are expected to make estimated tax payments quarterly to avoid underpayment penalties. They may also deduct business-related expenses, such as office supplies, travel costs, and professional development, to reduce taxable income. Proper classification is important, as misclassifying an employee as an independent contractor can lead to IRS penalties for the nonprofit, including back taxes and fines.