August 17, 2012
Status of Lawsuit Over 9/11 Museum Cross
CBS News, following up on stories from other media outlets, reports that the National September 11 Memorial and Museum has filed a motion to dismiss a lawsuit brought by American Atheists Inc. The atheist group opposes the presentation of a cross-shaped steel beam that surfaced from the Twin Towers rubble, a cross characterized by the story as “a famous Ground Zero symbol right after the September 11 attacks.” The atheist organization’s legal director, Edwin Kagin, reportedly has argued that the display constitutes "a violation of both federal and New York law in that public funds will be used to establish the Christian religion on public land." The story summarizes the museum’s defense:
As reported by other media outlets, the museum in its court filing characterized itself is an "independent non-profit corporation." It called the cross an "important and essential artifact" that "belongs at the World Trade Center site as it comprises a key component of the re-telling of the story of 9/11."
Villanova law professor and Vice-Dean Michael Moreland (among others) is quoted at some length in the piece. Opines Moreland:
"If the court agrees with the Museum that it is a private non-profit organization," Morel told CBS News, "then the museum will win because a private party can't violate the Establishment Clause - only the government can. "But, second, displays of religious symbols by the government aren't always unconstitutional. In 2010, a majority of the Supreme Court indicated that a memorial cross on government land in the Mojave Desert was constitutionally permissible because a reasonable observer wouldn't conclude that the government was 'endorsing' Christianity by displaying the cross on public land. Given the historical significance of the 9/11 cross during the Ground Zero cleanup, I think the museum has a strong argument that the cross's historical significance outweighs any perceived government endorsement of religion."
Because the museum’s governing documents and its disclosures to the IRS are relevant to resolving the first issue (i.e., its private entity nature), I have taken a quick peek at the section of the museum’s website listing relevant tax-related materials. According to the museum’s most recently posted Form 990, its public charity status derives from its sources of support, not from any status as a governmental unit. Not qualifying as a governmental entity for tax purposes should help the museum’s case somewhat. While government grants far and away comprise the museum’s most extensive support, receipt of government grants is not alone sufficient to transform a nonprofit entity into a state actor. Further, if anyone is really worried about whether government funds were necessarily used to polish up the old cross-beam, it looks like there was more than enough in private donations to put a shine on that steel in perpetuity. As to formal control of the museum, a response to one of the questions in the museum’s application for recognition of exemption from federal income tax, Form 1023, describes the museum as a not-for-profit corporation, but I saw no copy of its articles of incorporation. A response to another question states that no initial director of the museum is a public official or an appointee of a public official, but further states that the bylaws contemplate the appointment of additional directors by the New York State Governor and the Mayor of NYC. I do not know what the current articles and bylaws require as to the composition of the museum’s board. However, that a governmental official appoints members of a private charity’s board should not necessarily transform the charity into a governmental actor for Establishment Clause (or other) purposes. The appointment mechanism may be designed to ensure community representativeness, not quasi-governmental functionality. Cf. Treas. Reg. section 1.170A-9(e)(3)(v).
Veterans Charity and Fundraiser Under Scrutiny in Massachusetts
The Boston Herald reports that the Massachusetts Attorney General has sued Dynamic Marketing Solutions, a Rhode Island fundraising telemarketer, and its charity client Bay State Vietnam Veterans Inc. According to the story, the lawsuit alleges that agents for the telemarketing company claimed to have been soldiers who served in Afghanistan, failed to identify themselves as professional fundraisers -- as required by Massachusetts law, and led donors to believe that all contributions would benefit veterans, when in fact the fundraiser contracted to receive 85% of funds collected. The suit reportedly seeks imposition of $5,000 in civil penalties per deceptive act that is judicially determined to have occurred.
August 16, 2012
How to Receive Retroactively Effective Property Tax Exemptions in New York
While perusing recent issues of Tax Analysts State Tax Today for items of interest, I noticed two special acts passed by the New York legislature. Each act authorizes a governmental authority to accept from a not-for-profit organization a late application for real property tax exemption. The language of each act is similar, with one stating, “Notwithstanding any other provision of law to the contrary, the assessor of the [named governmental body] is hereby authorized to accept from the [named not-for-profit] an application for exemption from real property taxes pursuant to section 420-a of the real property tax law for the [assessment roll of the relevant period], for the parcel owned by such [non-for-profit] which is located at [designated location]….” Each act also contains similar language authorizing a determination of exemption, with one stating, “If satisfied that such not-for-profit organization would otherwise be entitled to such exemptions if such not-for-profit organization had filed applications or renewal applications for exemptions by the appropriate taxable status date, the assessor, upon approval by the [appropriate governing body], may make appropriate correction to the subject roll.” Taxes already paid may be refunded if exemption is granted.
This system of relying on case-by-case legislative action to permit consideration of untimely filed applications for property tax exemption by taxing authorities seems a bit peculiar. Moreover, the text of each act is not phrased in mandatory terms; the legislation literally just authorizes the consideration of untimely filed applications. But hey, I have never practiced law in New York, so maybe I am missing something here. I would be interested in hearing a cogent explanation for this system by anyone who knows exactly why obtaining review of late exemption applications works this way in New York.
(To access the two acts discussed in this posting, see 2012 STT 158-11 and 2012 STT 158-12 in Tax Analysts State Tax Today).
Federal Health Care Law Spurring Hospital Affiliation in California
The Los Angeles Times reports that the national consolidation of hospitals spurred by the Affordable Care Act is continuing in Southern California, as St. Joseph Health System and Hoag Memorial Hospital Presbyterian have agreed on an affiliation among seven of their hospitals, which ultimately requires the approval of the California Attorney General. The story announces not a merger, but the formation of a new holding company “to better integrate medical care and to eliminate duplicative services.” The Catholic St. Joseph hospitals and the Presbyterian Hoag Memorial hospitals reportedly “will retain their separate faith-based identities.” Implying that the cost-saving affiliation is in part a response to funding cuts under the new health care law, the Times cites the California Hospital Association’s estimate “that hospitals statewide face $17 billion in federal cuts over 10 years under the Affordable Care Act.”
August 15, 2012
IRS Extends Private Foundation’s Window for Disposing of Excess Business Holdings
The IRS recently released a private letter ruling granting the request of a private foundation to extend the period for disposing of its excess business holdings by an additional five years. The foundation received a gift of units of a limited liability company (“LLC”) that caused it to have excess business holdings, which normally must be disposed of within five years under section 4943(c)(6)(A) of the Internal Revenue Code (the “Code”). However, Code section 4943(c)(7) authorizes the IRS to extend for an additional five years the initial five-year period “in the case of an unusually large gift or bequest of diverse business holdings or holdings with complex corporate structures” if certain conditions are satisfied. Among them, the foundation must show the following:
[I]t made diligent efforts to dispose of such holdings during the initial five-year period, and … disposition within the initial five-year period has not been possible (except at a price substantially below fair market value) by reason of such size and complexity or diversity of holdings….
In granting the private foundation’s request, the IRS was persuaded that certain terms of the LLC operating agreement adversely affected the value of the LLC interests so as to trigger the statutory grounds for relief. In relevant part, the ruling reasons as follows:
Based on a strategic buyer valuation analysis … you concluded that LLC's value in 2013 may be almost double its value in 2010. Thus, you would have incurred a substantial loss if LLC had been sold in 2010 (compared to a sale in 2013), which would have diminished your capability to continue to accomplish your tax-exempt purpose, since your interest in LLC comprised e% of your total assets.
You also state that you could have sold at least a portion of your interest in LLC in a 2011 tender offer, but such a sale would have been at a price that you believe was substantially below fair market value. In addition, you believe that accepting the tender offer at the price it was offered would have diminished your capability to continue to accomplish your tax-exempt purpose.
Further, restrictions placed on interests in the LLC pursuant to LLC's Operating Agreement have made it difficult for you to dispose/sell your LLC interest. First, the LLC has a right of first refusal over any proposed sale to a third person. Second, d% of the members have tag-along rights; this means "that any prospective buyer of the Foundation's interest would also have to purchase the interests of those other [d%] owners."
Thus, as required under section 4943(c)(7), you have shown that you have made diligent efforts to dispose of your holdings during the initial five-year period, and that disposition within the initial five-year period has not been possible (except at a price substantially below fair market value) by reason of such size and complexity or diversity of holdings.
The ruling is noteworthy in its liberal interpretation of the statutory grounds for extending the period for disposing of excess business holdings. It treats an LLC’s right of first refusal over sales of LLC interests and members’ “tag-along rights” as creating a “complex corporate structure” within the meaning of section 4943(c)(7). Counsel drafting operating agreements, partnership agreements, and other documents governing closely held business should keep this ruling in mind during the drafting stage if future gifts of business interests to a private foundation are contemplated.
The ruling is Priv. Ltr. Rul. 2012-32-038 (May 24, 2012) and is reported in Tax Notes Today (electronic citation: 2012 TNT 156-30).
Massachusetts Law Changes Lay of Land for Hospital Funding
The Boston Globe reports that a new Massachusetts law will aid some, but not all, hospitals. Among the law’s provisions is one establishing a Distressed Hospital Trust Fund that will distribute $135 million over four years among some 35 community hospitals, who must compete for funding. The story says hospitals that do not qualify for funding include teaching hospitals, hospitals charging “very high prices,” and for-profit hospitals. According to the Globe, the law is intended to prevent health spending from growing faster than the Massachusetts economy through 2017, and to retard spending for another five years. The law is believed to offer savings of up to $200 billion in health costs over 15 years “by encouraging providers to use fewer expensive procedures, to better coordinate patients’ care to keep them healthier, and to steer patients to lower-cost hospitals and doctors.”
And whence comes the money for carrying out the law? A significant portion will be generated by a special tax on three hospitals. The story continues:
The cost-control law … targets three Harvard-¬affiliated hospital systems — Partners HealthCare, Boston Children’s Hospital, and Beth Israel Deaconess Medical Center — to pay a one-time $60 million tax to fund health programs.
Representative Steven Walsh is quoted as saying that lawmakers “created a formula we felt would only hit those hospitals that are healthy enough to withstand’’ it. That apparently means that the only hospitals being taxed are those few which are most profitable.
As one would expect, a target of this targeted tax is crying foul. The Globe quotes Partners HealthCare Spokesman Rich Copp:
“Imposing a tax on a very small number of hospitals is not a fair way to approach this issue, particularly when the money is being used to solve a problem the state created by underfunding the Medicaid program,’’ he said. “Burdening hospitals with more costs in a bill to reduce costs is a paradox, as well as bad public policy.’’
August 14, 2012
California Senate Committee to Address Nonprofit Hospital Charity Care
In Nonprofit Hospitals Face State Hearing on Tax-Exempt Status, the Los Angeles Times reports that a California state auditor's report reveals a lack of definitive standards for reporting charity care by nonprofit hospitals. This issue, among others, will be taken up by a California Senate committee at a hearing tomorrow “as part of the debate over whether nonprofit hospitals do enough to justify their tax-exempt status,” says the Times. As another stanza in what is becoming a familiar song from sea to shining sea, the story continues:
California law requires most tax-exempt hospitals to submit information annually on their "community benefits" through free or partial charity care and other means.
But state law doesn't require nonprofit hospitals to deliver specific amounts of uncompensated care and other community benefits in order to qualify for their tax-exempt status, according to state auditors.
For their part, as is often the case, hospitals reportedly are noting that, in addition to providing free care to the uninsured, they provide millions of dollars in care that is not fully compensated through government health programs.
On-Line Religious Entity Denied Exemption and Church Status
The IRS has recently released a determination letter denying recognition of federal income tax exemption to an organization claiming to be an on-line church ministry. The applicant, a nonprofit corporation, proposed to provide "Christian spiritual leadership and pastoral care to individuals and fellowships in the international community of believers” who visit its website. The entity would offer "free spiritual services through the website including, but not limited to sermon preparation, outlines, and spiritual illustrations; Bible study, prayer group, and leadership training materials; membership, statement of faith, and other church-building materials; articles and fictional reading materials; etc." The entity’s revenues would derive from the sales of religious and quasi-religious materials, including self-help “seminars” previously sold by the entity’s founder, and books that the entity’s founder anticipates writing. The copyright of these books would remain with the author, and the applicant would receive only ten percent of the sales proceeds. The entity adopted a statement of faith and a code of doctrine and discipline, but did not have a regularly scheduled religious service or an established place of worship. Although the applicant would have membership, it encouraged members to join local churches. At the time of its application, the entity’s certificate of formation failed to contain a dissolution clause irrevocably devoting assets to exempt purposes and failed to prohibit private inurement of its net earnings, but the applicant later stated that it would correct these deficiencies. The entity’s governing board consisted of its founder and two family members.
The IRS concluded that the entity had failed to demonstrate that it is exclusively operated for an exempt purpose. It had a significant non-exempt purpose of promoting the works of its founder. Observing that the Treasury regulations “clearly regard transfers of for-profit activity to an exempt organization as indicative of private benefit,” see, e.g., Treas. Reg. section 1.501(c)(3)-1(d)(1)(iii), Examples 2 and 3, the IRS noted that the applicant proposed to pay to produce and promote material from which its founder and other authors will primarily benefit. “Benefits directed to those who control an organization deserve special scrutiny,” said the IRS. Although “[a] community based board of people with no financial interests in the entity can help prevent it from operating for private rather than public benefit,” the applicant’s governing board was small and related to one another. Hence, reasoned the IRS, “combined with the private benefit demonstrated above, it creates greater cause to believe that you are operated for private, rather than public, interests.”
In what can be analogized to judicial dicta, the IRS also stated that the applicant would not be classified as a church had it qualified for exemption under Internal Revenue Code section 501(c)(3). After citing its 14-factor test to determine whether an entity is a church, the IRS reasoned as follows:
You lack the most important, associational characteristics of a church, as well as most of the other factors deemed important to church identity. A website on the internet does not qualify as a place of worship, nor do individuals accessing that website constitute a congregation assembled to worship [citation omitted] .... Additionally, you do not ordain ministers, do not have regular congregations or services, do not have schools for religious instruction, and do not perform any sacraments such as weddings, baptisms, or funerals. Also, you encourage members to maintain membership in other churches and be baptized by other ministers. Therefore, although your purposes and activities would be religious, we cannot recognize you as a church for the purposes of public charity status.
I consider this determination letter instructive in this respect – its ease of finding the presence of private benefit when an entity governed by a founder-dominated board will benefit both itself and its founder through a commercial relationship. The ruling highlights the importance of independent boards when conflict-of interest transactions are in issue and the charity has few stakeholders likely to monitor its affairs. For further analysis of the degree to which the IRS has promoted independent boards through its process of granting determination letters, see Benjamin Moses Leff, Federal Regulation of Nonprofit Board Independence: Focus on Independent Stakeholders as a 'Middle Way,' 99 Ky. L. J. 731 (2011).
As to the ruling’s dicta concerning the non-church status of the applicant, I believe that in future cases in which an applicant conducting an on-line ministry makes a stronger case for exemption, the IRS should remain open to the possibility that such an applicant can qualify as a “church.” Let us move beyond the actual facts of the determination letter and consider closer cases. Advances in technology enhance the ability of ministries to foster interaction among remote internet users, even in real time, thereby achieving a virtual assembly. This use of technology may be especially meaningful to people interested in pursuing a religious faith in countries where doing so publicly is illegal or culturally suspect. An on-line religious worship service may be the only church that some people can experience without fearing the loss of their lives or estrangement from their families. In my opinion, the IRS should not impose its 14-factor test narrowly in an age that affords ministries the ability to facilitate real corporate worship through virtual congregational services.
The determination letter is Priv. Ltr. Rul. 2012-32-034 (May 16, 2012), reported this week in Tax Notes Today (electronic citation: 2012 TNT 156-27).
August 13, 2012
States Rely on Nonprofits for Help with Welfare
The Chronicle of Philanthropy reports that state governments increasingly are soliciting assistance from charities and other nongovernmental organizations to comply with their federal welfare spending commitments under the Temporary Assistance for Needy Families (TANF) program. Last year, says the story, thirteen states sought help from nongovernmental entities to meet their obligations under the program, and seventeen states report that they will “tap nonprofit groups for welfare funds in the future.” The United Way, YMCA, and Shriner’s Hospital for Children are named as primary supporters of the states needing welfare assistance.
The story is another reminder of the significant role that nonprofits serve in assisting the most vulnerable in society, especially when governments are struggling to maintain social services in a weak economy. Future discussions of how to promote fiscal responsibility at the federal level (including debates over federal income tax reform) should reflect appreciation for the relationship between dwindling state revenues and the resulting reliance of state and local governments on nonprofits.
California AG Sues Veterans Aid Charity
In Help Hospitalized Veterans Charity Accused of Diverting Donations, the Los Angeles Times reports that California Attorney General Kamala D. Harris has sued a Riverside County charity supporting programs for military veterans and active-duty personnel. The organization, Help Hospitalized Veterans, has allegedly expended funds for excessive salaries and pensions and engaged in other inappropriate conflict-of-interest transactions. The AG’s lawsuit requests the recovery of $4.3 million of the charity’s assets and removal of several officers and board members. The story further states that administrative inefficiency has previously been a concern of critics of the charity:
In 2011, the tax-exempt group reported revenue of $45 million, including $30 million in cash donations. But the watchdog group CharityWatch says only 35% went to programs for military personnel, compared with the 65% that many similar groups report.
The Times states that the charity’s longtime president, now-retired Roger Chapin, was unavailable for comment.
August 12, 2012
NY AG Investigates Political Activity of Tax-Exempt Organizations
The NY Times reports that New York Attorney General Eric T. Schneiderman has stepped up his inquiry of politically active tax-exempt organizations by requesting tax returns and other financial documents from these groups. According to the article, the almost two dozen targeted entities include both right-leaning groups such as Crossroads Grassroots Policy Strategies (Crossroads GPS) and American Action Network and left-leaning groups such as Priorities USA Action and Patriot Majority USA. All of these entities claim tax-exempt status as social welfare organizations under Internal Revenue Code section 501(c)(4), which permits them to avoid publicly disclosing their donors unless they engage in certain types of election-related activity. The NY Times reported earlier this summer that AG Schneiderman had begun this investigation, with an apparent focus then on the U.S. Chamber of Commerce (a section 501(c)(6) organization that also generally is not required to publicly disclose its donors).
Drennan on Charitable Naming Rights
William Drennan (Southern Illinois) has published Where Generosity and Pride Abide: Charitable Naming Rights, 80 U. Cincinnati L. Rev. 53 (2011). Here is a portion of the introduction:
This Article asserts that the economic substance of a charitable contribution rewarded with naming rights is part gift and part purchase. Data from other naming situations suggests that the lion‘s share of a naming philanthropist‘s total transfer to charity is an unrequited gift, but the data also suggests that a portion purchases a return benefit. Accordingly this Article proposes that Congress should continue to allow deductions for the gift portion, but reverse course and prohibit income tax deductions for the naming portion. This Article also explores implementation issues.