Owning a home in a gated community, like Kohala Ranch, subdivisions of Waikoloa Village or a residential condominium on the Kohala Coast, you are part of a homeowner association (HOA). You have an obligation to follow conditions and covenants put in place and also contribute fees to be used to maintain the shared areas like pools and roads.
Your HOA has to comply with federal and state tax requirements. HOAs file Articles of Incorporation with the Hawaii Secretary of State, they are therefore treated as corporations, even if registered to be a nonprofit corporation and must file annual tax returns.
Hawaii HOA & Condo Association Filing Options
Filing returns can be done using either Form 1120 or 1120 – H. All corporations were generally required to file Form 1120 before the Tax Reform Act of 1976. All HOAs were treated as For-Profit corporations. Form 1120 was disadvantageous to most HOAs; all HOA’s income is subjected to tax and requires a higher level of accounting due to its complexity.
Tax Reform Act of 1976 created Section 528 of the Internal Revenue Code (IRC), creating Form 1120 – H. It is specifically designed for Homeowner Associations and is much easier to complete even by self-managed HOAs.
Does your Hawaii HOA Qualify for Form 1120–H?
Although most HOAs qualify to file Form 1120–H, certain requirements have to be met. We shall look at these requirements to determine if your HOA qualifies to file Form 1120–H.
- Exempt Purpose Test – HOA must be organized and operated to acquire, build, manage, maintain, and care for association property, condominium project or a subdivision where 85% of all the association’s units, lots or buildings are used by individuals as a residence.
- Exempt Function Income Test – 60% or more of the association’s annual gross income must be exempt function income. This is income from membership dues, fees or assessments.
- Exempt Function Expense Test – 90% or more of the association’s expenditure for a tax year must be exempt function expense, that is, it should be used to acquire, construct, manage, maintain and care for association’s property.
- No Private Benefit Test – Earnings and resources of an association should not be used to disproportionately benefit any person or group of persons having a personal or private interest in the function of an association.
- Election to apply IRC Section 528 for that tax year – HOA makes an election every year by timely filing form 1120 – H. The form must be filed by its due date, the 15th day of the fourth month following the close of the HOA’s tax year. Extension to file Form 1120–H can be made by filing Form 7004 with the IRS by the original due date of the return, HOAs can be granted an additional six months to file Form 1120–H. If an HOA fails to file Form 1120–H by its due date, they will be forced to file Form 1120 that year, and also pay penalties for late submission.
Form 1120–H simplifies tax filing for most Hawaii HOAs. It is a safe form for associations to file as it has no tax risk if the association meets the above requirements. Tax-exempt function income is also excluded from taxable income.
Form 1120 is not designed for HOAs and condo associations, but most associations sometimes consider filing it. Form 1120 lure associations by its low tax rate of 15%for the first $50,000 as compared to 30% for Form 1120–H. They, however, have the liberty to file the form with lower tax.