Monday, September 29, 2014
An article last week in the Washington Post (h/t Chronicle of Philanthropy) discussed a report by the Department of Health and Human Services that indicated that hospitals are experiencing significant declines in charity care and bad debt, thanks to expansions in Medicaid and a drop in the number of otherwise uninsured individuals due to the Affordable Care Act. The report projects $5.7 billion (that’s billion, with a “b”) in savings in uncompensated care costs in 2014.
The first thing that I thought was, “Wow, that’s a big number! Great news!” The second thing I thought was, “Gee, I wonder if that will change how we evaluate nonprofit hospitals.” What that might say about my mental state aside, it will be interesting to see how this structural change to the way we pay for health care works its way through the standards for tax exemption.
I note that the HHS report tracks “uncompensated care,” which it treats as the sum of bad debt and charity care. While the HHS report does indicate that there is a difference between “self-pay” patients and “charity care”, the report is quick to note that not all hospitals break down their reporting this way. (See HHS Report, FN 6). Of course, part of the raging debate is whether bad debt is charity care – the Catholic Hospital Association says it isn’t but not all hospitals agree.
Either way, under traditional formulations of the community benefit standard, charity care is not the be-all and end-all of for exempt status – it might not even be necessary. The recent trend, first evident in the Revised 990 Form’s Schedule H and then in the community assessment report requirements of the ACA, appears to lean toward wanting more discussion and disclosure of charity care as component of tax-exemption, even if that doesn’t appear anywhere formally quite yet. It will be interesting to see if a structural reduction in the need for charity care (however defined) changes that conversation.
Then, of course, there are the states. Having practiced in Illinois at the time of the Provena decision (good summary here), I’m particularly curious to see how that might play out. For those of you who weren’t following Provena, Illinois revoked the property tax exemption for a number of nonprofit hospitals, stating that the Illinois property tax charitable exemption provisions (some of which are in the state constitution) require actual charitable use (as in relieving- poverty-charitable-use) of the property. While denying that charitable use is a numbers game (that is, you need to show that there are enough charitable dollars spent to offset the property tax uncollected) – the court then engages in exactly that mathematical exercise.
I’ve moved from Illinois since Provena came down, but I understand there was a legislative fix (SB 2194 and SB 3261, passed in 2012), that partially codifies this math-based analysis. What happens if a hospital doesn’t meet its charity care dollars spent requirement because they are simply not necessary anymore due to ACA?
I might be going out on a limb here, but I’m guessing that Prof. Colombo might have a thought or two on this…
Wednesday, September 24, 2014
March of the Benefit Corporation: So Why Bother? Isn’t the Business Judgment Rule Alive and Well? (Part III)
(Note: This is a cross-posted multiple part series from WVU Law Prof. Josh Fershee from the Business Law Prof Blog and Prof. Elaine Waterhouse Wilson from the Nonprofit Law Prof Blog, who combined forces to evaluate benefit corporations from both the nonprofit and the for-profit sides. The previous installments can be found here and here (NLPB) and here and here (BLPB).)
In prior posts we talked about what a benefit corporation is and is not. In this post, we’ll cover whether the benefit corporation is really necessary at all.
Under the Delaware General Corporation Code § 101(b), “[a] corporation may be incorporated or organized under this chapter to conduct or promote any lawful business or purposes . . . .” Certainly there is nothing there that indicates a company must maximize profits or take risks or “monetize” anything. (Delaware law warrants inclusion in any discussion of corporate law because the state's law is so influential, even where it is not binding.)
Back in 2010, Josh Fershee wrote a post questioning the need for such legislation shortly after Maryland passed the first benefit corporation legislation:
I am not sure what think about this benefit corporation legislation. I can understand how expressly stating such public benefits goals might have value and provide both guidance and cover for a board of directors. However, I am skeptical it was necessary.
Not to overstate its binding effects today, but we learned from Dodge v. Ford that if you have a traditional corporation, formed under a traditional certificate of incorporation and bylaws, you are restricted in your ability to “share the wealth” with the general public for purposes of “philanthropic and altruistic” goals. But that doesn't mean current law doesn't permit such actions in any situation, does it?
The idea that a corporation could choose to adopt any of a wide range of corporate philosophies is supported by multiple concepts, such as director primacy in carrying out shareholder wealth maximization, the business judgment rule, and the mandate that directors be the ones to lead the entity. Is it not reasonable for a group of directors to determine that the best way to create a long-term and profitable business is to build customer loyalty to the company via reasonable prices, high wages to employees, generous giving to charity, and thoughtful environmental stewardship? Suppose that directors even stated in their certificate that the board of directors, in carrying out their duties, must consider the corporate purpose as part of exercising their business judgment.
Please click below to read more.
Wednesday, September 3, 2014
(Note: This is a cross-posted multiple part series from WVU Law Prof. Josh Fershee from the Business Law Prof Blog and Prof. Elaine Waterhouse Wilson from the Nonprofit Law Prof Blog, who combined forces to evaluate benefit corporations from both the nonprofit and the for-profit sides. The previous installment can be found here (NLPB) and here (BLPB).)
What It Is: So now that we’ve told you (in Part I) what the benefit corporation isn’t, we should probably tell you what it is. The West Virginia statute is based on Model Benefit Corporation Legislation, which (according to B Lab’s website) was drafted originally by Bill Clark from Drinker, Biddle, & Reath LLP. The statute, a copy of which can be found, not surprisingly, at B Lab’s website, “has evolved based on comments from corporate attorneys in the states in which the legislation has been passed or introduced.” B Lab specifically states that part of its mission is to pass legislation, such as benefit corporation statutes.
As stated by the drafter’s “White Paper, The Need and Rationale for the Benefit Corporation: Why It is the Legal Form that Best Addresses the Needs of Social Entrepreneurs, Investors, and, Ultimately, the Public” (PDF here), the benefit corporation was designed to be “a new type of corporate legal entity.” Despite this claim, it’s likely that the entity should be looked at as a modified version of traditional corporation rather than at a new entity.
This is because the Benefit Corporation Act appears to leave a lot of room for the traditional business corporations act to serve as a gap-filler. West Virginia Code § 31F-1-103(c), for example, explains, “The specific provisions of this chapter control over the general provisions of other chapters of this code.” Thus, the benefit corporation provisions supplant the traditional business corporation act where stated specifically, such as with regard to fiduciary duties, but general provisions of the business corporations act apply where the benefit corporation act is silent, such as with regard to dissolution.
In contrast, the West Virginia Nonprofit Corporation Act is a broader act that discusses dissolution, mergers, and other items specifically in a way that more clearly indicates the nonprofit is a distinct, rather than modified, entity form. Furthermore, a benefit corporation is actually formed under the Business Corporations Act: “A benefit corporation shall be formed in accordance with article two, chapter thirty-one-d of this code, and its articles as initially filed with the Secretary of State or as amended, shall state that it is a benefit corporation.” W. Va. Code § 31F-2-201.
So what makes a benefit corporation unique?
1. Corporate purpose - The traditional West Virginia business corporation is created for the purpose “of engaging in any lawful business unless a more limited purpose is set forth in the articles of incorporation.” W. Va. Code § 31D-3-301. Under the Benefit Corporation Act, “A benefit corporation shall have as one of its purposes the purpose of creating a general public benefit.” Id. § 31F-3-301. A specific benefit may be stated as an option, but is not required. Note similarly that a part of the corporation’s purpose must be for general public benefit, but that benefit need not be a primary, substantial, significant or other part of the corporation’s purpose.
For purpose of comparison, the low-profit limited liability company (or L3C) typically has a much more onerous purpose requirement. For example, the Illinois L3C law requires
(a) A low-profit limited liability company shall at all times significantly further the accomplishment of one or more charitable or educational purposes within the meaning of Section 170(c)(2)(B) of the Internal Revenue Code of 1986, 26 U.S.C. 170(c)(2)(B), or its successor, and would not have been formed but for the relationship to the accomplishment of such charitable or educational purposes.
2. Standard of conduct – The statute requires, in § 31F-4-401, that the directors and others related to the entity:
(1) Shall consider the effects of any corporate action upon:
(A) The shareholders of the benefit corporation;
(B) The employees and workforce of the benefit corporation, its subsidiaries, and suppliers;
(C) The interests of customers as beneficiaries of the general or specific public benefit purposes of the benefit corporation;
(D) Community and societal considerations, including those of each community in which offices or facilities of the benefit corporation, its subsidiaries, or suppliers are located;
(E) The local and global environment;
(F) The short-term and long-term interests of the benefit corporation, including benefits that may accrue to the benefit corporation from its long-term plans and the possibility that these interests and the general and specific public benefit purposes of the benefit corporation may be best served by the continued independence of the benefit corporation; and
(G) The ability of the benefit corporation to accomplish its general and any specific public benefit purpose;
(emphasis added). While these are significant mandatory considerations, they are nothing more than considerations. Directors and others “[n]eed not give priority to the interests of a particular person referred to in subdivisions (1) and (2) of this section over the interests of any other person unless the benefit corporation has stated its intention to give priority to interests related to a specific public benefit purpose identified in its articles.” § 31F-4-401(a)(3).
As such, while directors must consider the general public benefit of their decisions (and any specific benefits if so chosen), it is not clear the ultimate decision making of a benefit corporation director would necessarily be any different than a traditional corporation. That is, a director of a benefit corporation could, for example, consider the impacts on a town of closing a plant (and determine it would be hard on the town and the workforce), but ultimately decide to close the plant anyway.
Furthermore, many corporations seek to serve communities and benefit the public. McDonald’s, Coca-Cola, and many others already have programs to benefit the public, so it appears that many traditional corporations have already volunteered to meet and exceed the standards of the West Virginia benefit corporations act.
3. Formation – An entity becomes a benefit corporation by saying so when filing initial articles of incorporation with the Secretary of State, § 31F-2-201, or by amending the articles of an already created corporation, § 31F-2-202. Presumably, this serves a notice function, informing the benefit corporation’s current and potential constituents that there is the possibility that profit maximization will not be (or may not be) the corporation’s primary goal. The notice function does not work in reverse, however, as benefit corporation status does guarantee that public benefits have any primacy at all, merely that such benefits will be considered.
4. Termination - Termination of the benefit corporation status is allowed and is achieved by changing the articles of incorporation in the same manner in which traditional corporations modify their articles. § 31D-10-1003. As a result, it doesn’t appear that there is anything in the statute from preventing a benefit corporation from reaping the public relations or capital raising upside of being a benefit corporation, and thereafter abandoning the status should it become inconvenient. Query whether to the extent a transfer to a benefit corporation could be deemed a gift for a public purpose, the Attorney General might have oversight over the contribution in the same manner as it has oversight in cy pres and similar proceedings.
5. Enforcement – Third parties have no right of action to enforce the benefit goals unless they are allowed to use derivatively as “specified in the articles of incorporation or bylaws of the benefit corporation.” Id. § 31F-4-403. Otherwise, a direct action of the corporation or derivative actions from a director or shareholder are the only ways to commence a “benefit enforcement proceeding.” Again, the statute does not give the Attorney General specific statutory authorization to proceed on the basis that a member of the public may have transferred funds to the benefit corporation in reliance upon its benefit corporation status.
So, the statute provides the option for stating and pursuing general and specific benefits, but there are not a lot of structural assurances to anyone—investor, lender, public—that a benefit corporation will actually benefit anyone other than its equity holders. But benefit corporations are required to consider doing so. This is not to say there isn’t some value. As Haskell Murray has noted,
Directors would benefit from having a primary master and a clear objective. . . . [But,] [t]he mandate that a benefit corporation pursue a "general public benefit purpose" is too vague because it does not provide a practical way for directors to make decisions.
As such, an entity may create a clear set of priorities and guidelines that could provide useful and lead to benefits, but the benefit corporation act most certainly does not mandate that.
Finally, although most of the above is focused on the West Virginia benefit corporation law, much of it applies to the other versions of such laws in other states. Cass Brewer notes
Effective July 1, 2014, West Virginia’s benefit corporation statute generally follows the B-Lab model legislation, but among other things relaxes the “independence” tests for adopting third-party standards and does not require the annual benefit report to disclose director compensation.
As an additional resource, Haskell Murray provides a detailed chart of the state-by-state differences, here.
Next up: Part III - So Why Bother? Isn’t the Business Judgment Rule Alive and Well?
EWW & JPF
Tuesday, August 26, 2014
West Virginia is the latest jurisdiction to adopt benefit corporations – the text of our legislation can be found here. As with all benefit corporation legislation, the thrust of West Virginia’s statute is to provide a different standard of conduct for the directors of an otherwise for-profit corporation that holds itself out as being formed, at least in part, for a public benefit. (Current and pending state legislation for benefit corporations can be found here.)
As WVU Law has two members of the ProfBlog family in its ranks (Prof. Josh Fershee (on the Business Law Prof Blog) and Prof. Elaine Waterhouse Wilson (on the Nonprofit Law Prof Blog)), we combined forces to evaluate benefit corporations from both the nonprofit and the for-profit sides. For those of you on the Business Prof blog, some of the information to come on the Business Judgment Rule may be old hat; similarly, the tax discussion for those on the Nonprofit Blog will probably not be earth-shaking. Hopefully, this series will address something you didn’t know from the other side of the discussion!
Part I: The Benefit Corporation: What It’s Not: Before going into the details of West Virginia’s legislation (which is similar to statutes in other jurisdictions), however, a little background and clarification is in order for those new to the social enterprise world. A benefit corporation is different than a B Corporation (or B Corp). B Lab, which states that it is a “501(c)(3) nonprofit” on its website, essentially evaluates business entities in order to brand them as “Certified B Corps.”
It wants to be the Good Housekeeping seal of approval for social enterprise organizations. In order to be a Certified B Corp, organizations must pass performance and legal requirements that demonstrate that it meets certain standards regarding “social and environmental performance, accountability, and transparency.” Thus, a business organized as a benefit corporation could seek certification by B Lab as a B Corp, but a business is not automatically a B Corp because it’s a state-sanctioned benefit corporation – nor is it necessary to be a benefit corporation to be certified by B Labs.
In fact, it’s not even necessary to be a corporation to be one of the 1000+ Certified B Corps by B Lab. As Haskell Murray has explained,
I have told a number of folks at B Lab that "certified B corporation" is an inappropriate name, given that they certify limited liability companies, among other entity types, but they do not seem bothered by that technicality. I am guessing my fellow blogger Professor Josh Fershee would share my concern. [He was right.]
A benefit corporation is similar to, although different from, the low-profit limited liability company (or L3C), which West Virginia has not yet adopted. (An interesting side note: North Carolina abolished its 2010 L3C law as of January 1, 2014.) The primary difference, of course, is that a benefit corporation is a corporation and an L3C is a limited liability company. As both the benefit corporation and the L3C are generally not going to be tax-exempt for federal income tax purposes, the state law distinction makes a pretty big difference to the IRS. The benefit corporation is presumably going to be taxed as a C Corporation, unless it qualifies and makes the election to be an S Corp (and there’s nothing in the legislation that leads us to believe that it couldn’t qualify as an S Corp as a matter of law). By contrast, the L3C, by default will be taxed as a partnership, although again we see nothing that would prevent it from checking the box to be treated as a C Corp (and even then making an S election). The choice of entity determination presumably would be made, in part, based upon the planning needs of the individual equity holders and the potential for venture capital or an IPO in the future (both very for-profit type considerations, by the way). The benefit corporation and the L3C also approach the issue of social enterprise in a very different way, which raises serious operational issues – but more on that later.
Finally, let’s be clear – a benefit corporation is not a nonprofit corporation. A benefit corporation is organized at least, in some part, to profit to its owners. The “nondistribution constraint” famously identified by Prof. Henry Hansmann (The Role of Nonprofit Enterprise, 89 Yale Law Journal 5 (1980), p. 835, 838 – JSTOR link here) as the hallmark of a nonprofit entity does not apply to the benefit corporation. Rather, the shareholders of a benefit corporation intend to get something out of the entity other than warm and fuzzy do-gooder feelings – and that something usually involves cash.
In the next installments:
Part II – The Benefit Corporation: What It Is.
Part III – So Why Bother? Isn’t the Business Judgment Rule Alive and Well?
Part IV – So Why Bother, Redux? Maybe It’s a Tax Thing?
Part V - Random Thoughts and Conclusions
EWW and JPF
Wednesday, June 18, 2014
Donor Disclosure Law. On May 14, 2014, California Governor Jerry Brown signed into law S.B. 27, which requires large donations from nonprofits and other "multi-purpose" (MPOs) organizations to be disclosed beginning July 1. In addition, the California Fair Political Practices Commission is required to post the names of the top 10 contributors on its website. The bill's intended effect is to shed light on “dark money” in political campaigns and referendums by eliminating a now common practice of nonprofit and other organizations contributing significant dollars into such campaigns without disclosure of the original donors. According to the Los Angeles Times, the legislation was advanced after "conservative groups from Arizona poured $15 million into California in 2012 to fight Proposition 30, Gov. Jerry Brown's tax hike, and support an ultimately unsuccessful move to curb unions' political power."
Hospital Executive Pay Ballot Initiative. A ballot initiative to cap the executive compensation of nonprofit hospital executives failed to qualify for the November 2014 ballot. The Charitable Hospital Executive Compensation Act of 2014 would have instituted an annual compensation limit (including bonuses and other benefits) for such execs to the salary and expense account of the President of the United States (currently, $450,000). In addition, the 10 highest-paid executives and 5 largest severance packages would have been required to be publicly disclosed annually. According to the Los Angeles Times, the proposed ballot initiative was dropped by the SEIU-United Healthcare Workers West Union in a deal struck with the California Hospital Association and a majority of California's 430 hospitals.
Friday, May 30, 2014
Johnny Rex Buckles (Houston) published "How Deep Are the Springs of Obedience Norms that Bind the Overseers of Charities?," in 62 Cath. U. L. Rev. 913 (2013). Here are some excerpts from the article's introduction:
This Article explores whether and how the exercise of discretion by charity fiduciaries in recasting a charity’s direction is, and should be, limited. Analyzing this basic issue raises additional, difficult inquiries: If the law does limit the ability of charity fiduciaries to determine the charitable paths of their entities, what standards govern the exercise of fiduciary discretion? To what extent does , and should, the law treat fiduciaries of charitable trusts dissimilarly from those who govern charitable nonprofit corporations? What role should governmental actors play in monitoring these decisions by charity managers? If governmental actors should assume some monitoring role, should their review of fiduciary decisions be ex ante or ex post? Which governmental actors should be involved? Can donors and other stakeholders sufficiently protect their interests absent a strong supervisory role by the government?
These questions are not simply esoteric enigmas deisgned to tickle the ears of legal scholars. . . . Moreover, these questions are especially timely, for the law of obedience norms governing fiduciaries of charitable corporations is unsettled and in great need of refinement. Even the law governing trustees of charitable trusts, which is comparatively stable and uniform, merits reassessment once the meaning and purposes of obedience norms are thoroughly examined.
To foster the development of the law governing charity fiduciaries, this Article presents a taxonomy of obedience norms,20 a doctrinal analysis of these norms, and a policy discussion to help answer these questions. Part I explains the fundamental nature of obedience norms and articulates and illustrates the various types of obedience norms. Parts II and III discuss legal authorities supporting or rejecting various obedience norms as applied to trustees of charitable trusts and directors of charitable nonprofit corporations, respectively. Part IV this Article evaluates the policy considerations that may justify one or more obedience norms. Finally, by presenting an analytical series of questions, Part V explains how the law should develop in imposing, and declining to impose, obedience norms on charity fiduciaries.
Monday, March 31, 2014
An interesting opinion editorial in the Tampa Bay Times discusses proposed state legislation regulating charitable fundraising. According to the editorial, an investigation conducted by the Tampa Bay Times/Center for Investigative Reporting found “that of the 50 worst offenders [among charities soliciting funds from the public] across the nation, 11 were based in Florida.”
The proposed reforms are said to include the following: (1) enhancing “public disclosure of the inner workings of charities and solicitors;” (2) clarifying “when the state has the power to shut them down, including when they are banned in other states;” (3) requiring each employee who makes calls soliciting funds to submit to fingerprinting and a background check for a $100 registration fee; (4) requiring fundraisers “to provide copies of solicitation scripts, the locations and phone numbers from which calls are to be made, and details about what percentage of funds raised actually flow to the charity;” and (5) requiring charities that raise at least $1 million annually but devote less than 25 percent of proceeds to charitable purposes to “submit detailed reports on where the money went ” – the information from which would be made available “in a new online database, enabling Floridians to better investigate a charity before giving.”
Tuesday, February 25, 2014
An article in the Nonprofit Quarterly notes that there is a bill in the Kansas legislature that would strip state property tax exemption from local YMCA's (the bill targets exemptions for any service provider that receives more than 40% of its revenues from "the sale of memberships or program services"). Meanwhile, at the same time Kansas is considering another bill to give tax breaks to for-profit gyms. Sigh . . .
The issues here are related to my post yesterday about charities that are essentially commercial businesses. As I noted in this post a couple of years ago, many Y's appear to be more like for-profit gyms than charities. I pointed out in that post that my local Y in Champaign, IL had recently moved into a brand new facility on the far west side of town from an older facility near the center of the city, and about as far as you can get from any minority or disadvantaged population and still be a part of the city of Champaign. The move was accompanied by an ad campaign touting the benefits of the move as "more value and flexibility for our members! For example, you can work out in the 9,000 square foot fitness center and then take your family to the indoor pool and water slide. Or, you can take advantage of some of our two facilities' specialized programs, like water aerobics or recreational gymnastics."
Now, just because charities compete in some way with for-profit enterprises doesn't make them a commercial business. The fact that the Salvation Army runs thrift stores doesn't make its primary mission one of selling used goods. But I noted yesterday that some organizations that might historically have had a charitable mission have essentially morphed into commercial businesses, because their real "primary" mission is no longer charitable. I think that many (not all) Y's have passed this rubicon just as surely as nonprofit hospitals, major college athletics, and the USOC.
The Nonprofit Quarterly article quotes the CEO of Topeka's Y saying that if they have to pay taxes, that will be the end of the Y. I wonder . . . I have a sneaking suspicion that if the Champaign Y lost tax exemption, it would soldier on with maybe a $50/mth membership, instead of $47/mth. Topeka, Kansas might have a different clientele . . . or maybe not.
Saturday, February 8, 2014
As noted by TaxProf Blog, David Cay Johnston (Syracuse) has written a piece in State Tax Notes that highlights the ability of certain high-income donors living in Arizona to combine Arizona tax credits with the federal charitable contribution deduction to actually make money by giving to charity. This is because each of the state tax credits reduce state income tax liability dollar-for-dollar, thereby allowing the taxes saved through the federal income tax deduction to be all profit. According to Johnston, a married couple in the top federal income tax bracket can make almost $1,300 off charitable contributions of just under $3,300, or almost a 40 percent return.
Friday, August 2, 2013
As reported by The Chronicle of Philanthropy, effective yesterday, August 1, 2013, Delaware joined 19 other states with laws on the books permitting the formation of public benefit corporations. Delaware Governor Jack Markell signed Senate Bill 47 into law on July 17, 2013. The new law provides:
A public benefit corporation is a for-profit entity which is managed not only for the pecuniary interests of its stockholders but also for the benefit of other persons, entities, communities or interests. Delaware General Corporation Law Sections 362(a) and 365(a) create and impose on directors of public benefit corporations a tri-partite balancing requirement. Public benefit corporations must be managed in a manner that balances (i) the stockholders’ pecuniary interests, (ii) the interests of those materially affected by the corporation’s conduct, and (iii) a public benefit or public benefits identified in the corporation’s certificate of incorporation.
Wednesday, July 31, 2013
It appears that the difference between the Internal Revenue Code defintion of "charitable" and that applied by state and local taxing authorities continues to affect nonprofit organizations, this time outside of the health care arena. As reported by The Chronicle of Philanthropy, two organizations in Kittery Maine are disputing the town's revocation of their property tax exemptions on the basis that their art and dance activities do not comport with Maine's "charitable and benevolent" standard.
(For additional coverage, see "Kittery art organizations to fight town tax in court" (Seacoastonline)).
Friday, July 26, 2013
As reported in today’s State Tax Today (subscription required), New Jersey has recently passed legislation clarifying that charitable contributions are not relevant in determining the domicile of the donor under the New Jersey gross income tax. Portions of the statement accompanying the Act include the following:
This bill clarifies in the New Jersey gross income tax statutes that donors' contributions to charities are not a factor in determining where a person is domiciled under New Jersey gross income tax for the purpose of defining who is a resident taxpayer or nonresident taxpayer. This is the informal position taken by the New Jersey Division of Taxation since 2005 but this position has not since been officially communicated to taxpayers. Whether a person lives in Florida or Arizona, giving to charities in New Jersey, in and of itself, should not subject the person to New Jersey income tax as a New Jersey resident. …
Taxpayers now make contributions to local, regional, and national charities via modern financial and communication networks. …This bill recognizes these changes in patterns of giving and wishes to encourage contributions to charities, regardless of the locations of the charities, from both New Jersey residents and nonresidents. Although domicile is usually determined from all the evidence and circumstances, under this bill the Division of Taxation is formally instructed in statute to no longer consider a taxpayer's charitable contributions as relevant or applicable in determinations of domicile.
Friday, June 28, 2013
One had to figure this was coming sooner or later: a lawsuit challenging state property tax exemption for Princeton University, which a state trial judge has refused to dismiss. The arguments in the case appear familiar: the lawyer for the plaintiffs (property owners in Princeton, N.J.) contends that many of Princeton's buildings are used for commercial purposes, and should be put back on the property tax rolls. To quote the story:
“In 2011 Princeton University received $118 million in patent royalties and distributed $30 million from the profits to faculty members,” Afran [the lawyer for the plaintiffs] said. “Under the law they are not even entitled to a tax exemption because they are engaged in commercial patent licensing, and the school give out a percentage of profits to faculty. Under the law in New Jersey, if a nonprofit gives out profits, it is not entitled to an exemption at all.”
The final quote sort of sums it all up:
“In many ways these modern universities have become commercial enterprises.”
Wednesday, June 19, 2013
Just as a follow up to yesterday's post on the Oregon spendig requirement, I took a quick look again at the Form 990 (go to page 10) and its instructions regarding the allocation of program service expenses (go to pages 41 through 43). My personal favorite is the instruction on how to allocate indirect costs, which requires the charity to list everything as an administrative cost in column C (that being not a program service expense) and then to add a separate, self-created line under "Other" in which the charity is instructed to place a negative number in column C in order to allocate indirect costs to program service in B or to fundraising expenses in D. So that's clear as mud -- no chance of error there.
Also, take a look at the list of administrative expenses to be reported in column C and think about a smallish charity - one that does a full Form 990 but is still relatively small in terms of revenue and expense - for example, a small medical clinic. The list in the instructions includes the CEO and staff by default (unless directly involved in program service oversight) as well as "costs of board of directors' meetings; committee meetings, and staff meetings (unless they involve specific program services or fundraising activities); general legal services; accounting (including patient accounting and billing); general liability insurance; office management; auditing, human resources, and other centralized services; preparation, publication, and distribution of an annual report; and management of investments." I wouldn't be surprised if such a charity had issues, or at least is forced into taking a fairly aggressive position on indirect cost allocations.
When we think about fradulent charities, I don't think most of us think of these types of expenses.
Just a thought. EWW
Tuesday, June 18, 2013
H.B. 2060 was signed into law by Governor Kitzhaber on June 4, 2013 and goes into effect 91 days after the 2013 regular session of the Oregon Legislative Assembly ends. Specifically, the Oregon Attorney General can disqualify an organization from receiving state income tax deductible contributions if
the organization has failed to expend at least 30 percent of the organization's total annual functional expenses on program services when those expenses are averaged over the most recent three fiscal years for which the Attorney General has reports containing expense information. The calculation of program services expenses and total functional expenses shall be based on the amounts of program services expenses and total functional expenses identified by the organization in the organization's Internal Revenue Service Form 990 return or other Internal Revenue Service return required to be filed as part of the organization's report to the Attorney General.
Oregon H.B. 2060, Section 2(1) (emphasis added). There is an appeal procedure that would allow the charity to show that payments were made to affiliates, were being accumulated for capital campaigns, or "such other mitigating circumstances as may be identified by the Attorney General by rule." Section 2(2)(c). A disqualified charity is required to notify its donors that donations to it are not deductible. Interestingly, a disqualification order may not be issued to "an organization that receives less than 50 percent of the organization's total annual revenues from contributions or grants identified in accordance with Internal Revenue Service Form 990 or an equivalent form" (fee for service charities, rejoice!) Section 2(4)(g). The legislation can be found here.
There are a number of issues that first came to mind when I read this legislation.
The first, of course, is the fallacy that a certain level of "program service" expenditures is an appropriate indicator of a charity's effectiveness. Even if it were an appropriate measure, why set it at 30%? Why exempt fee-for-service charities? Why exempt small charities? (On this topic, see GuideStar, BBB Wise Giving Alliance, and Charity Navigator on the “Overhead Myth”).
At least in the short term, this legislation punishes the wrong party - a charity's donors - by disallowing the state income tax charitable deduction. It does appear to also take away the ability of the charity to be tax exempt and, of course, in the long term, the charity's donor base could essentially disappear.
Along those same lines, I am concerned that you could have a charity that is disqualified due to a temporary blip in financials and is then required to send a donor notice. Even if that charity is subsequently rehabilitated, it is permanently damaged. The state has now devalued one of the charity's most valuable assets: its donor list. The Oregon Attorney General's press release talks about targetting bogus charities - I'm not convinced initially that its scope will be so limited.
Finally, as is pointed out in this commentary by Nonprofit Quarterly, the error rate on preparing the Form 990 is ridiculously high. I am somewhat troubled by the assertion by the Nonprofit Association of Oregon that organizations that make a reasonable attempt to allocate expenses won't get caught in this trap. In my experience, even sophisticated clients with paid accountants regularly misstate program service expenditures. (I note that the Nonprofit Association takes the position that only full Form 990 filers (not N or EZ filers) would be affected by the legislation.)
Thoughts, especially from our Oregon friends? EWW
Wednesday, June 12, 2013
The Detroit Free Press reports that the Senate voted 24-13 to codify ethical standards adopted by the American Alliance of Museums which bars museums from selling artwork for purposes other than enhancement of the museum’s collection. The bill now moves to the Michigan House of Representatives.
Detroit’s emergency manager, Kevyn Orr, recently stirred outrage when he said that he has to consider the value of all the city’s jewels when determining how to pull the city out of financial crisis. Orr went on to say that he was evaluating the DIA’s art collection and preparing in case creditors seek repayment of their debts through asset sales.
Saturday, June 1, 2013
California Bill Targeting Sexual Orientation Discrimination by Boy Scouts & Other Youth Groups Advances
According to a Sacramento CBS news report, the California Senate has mustered the two-thirds majority needed for tax increases to pass a bill that would strip state tax-exempt status from any youth group that dsicrminates on the basis of gender identity, race, sexual orientation, nationality, religion or religious affiliation. The bill, SB323, applies specifically to exemptions from the California's corporate income tax and sales and use tax, but with certain limitations.
Based on a reading of the bill and the Senate Committee report, the sales and use tax exemption loss applies to the otherwise availalbe exemption from having to collect and pay over to the government sales and use tax on sales by the organization if those sales are irregular or intermittent. While aimed at the Boy Scouts of America, which recently removed its bar on gay youth participating in the Scouts but left in place its bar on gay adult scout leaders, the loss of the sales and use tax exemption applies to any organization with the "primary purpose" of providing "a supervised program of competitive sports for youth, or to promote good citizenship in youth." The non-discrimination requirement also applies to any youth group sponsored or affiliated with a nonprofit private educational institution at the K through undergraduate level, "including but not limited to any student activity club, athletic group, or musical group." Finally, the bill applies the non-discrimination requirement to a number of specific organizations, including not only the Boy Scouts but also the Girl Scouts, the YMCA, the YWCA, 4-H Clubs, and many others.
The loss of corporate income tax exemption for failure to comply with the non-discrimination standard applies to any "public charity youth organization," which is defined as including but not limited to the specifically named organizations. If the bill becomes law, the California Franchise Tax Board will apparently be responsible for developing a more detailed definition.
The bill does not affect the ability of donors to the covered organizations to take a charitable contribution deduction. The bill now goes to the state Assembly for consideration, where a two-thirds majority vote is also needed for passage.
Additional coverage: Huffington Post.
Wednesday, March 13, 2013
A couple of years ago one of my students, Brittany Viola (not the Olympic platform diver) wrote a note for the University of Illinois Law Review on the property tax status of "fallow" property owned by exempt organizations, particularly churches. A PDF of that article is available here. In the article, Ms. Viola discussed how various states, particularly in the Northeast, were attempting to tax "fallow" property - for example, shuttered Catholic schools or churches that had been closed by the local diocese (though this issue was by no means limited to property owned by the Catholic church). The essence of the legal issue was the requirement of most state property tax exemption laws that the exempt property be "used" for an exempt purpose; arguably, fallow church property is not being "used" for religious purposes; it literally isn't being "used" at all, and hence potentially does not meet the requirements for exemption.
It appears that Arizona is in the midst of considering legislation that would protect this fallow property from taxation. This article in the East Valley Tribune details legislation that was first proposed in the Arizona House that would permit religious organizations to buy undeveloped property and hold it subject to exemption (this original version of the legislation also apparently would have exempted other property owned by churches, but used for non-religious purposes, like student dormitories). Word today is that a compromise version of this bill passed the Arizona House, and although it no longer protects things like student dormitories, it does apparently still provide for exemption of fallow land (I haven't been able to find a full-text version of the amended bill; I'll try to link it when I do).
I've written before about my view that churches ought not to be given the tax benefits accorded "charities." While some clearly do produce "public goods" in the form of helping the poor and disadvantaged, many are nothing more than clubs for believers. The modern case for general tax exemptions for churches usually rests on the notion that taxing them would be unconstitutional (a violation of the federal free-exercise clause, or similar provisions in state constitutions). I don't agree - and think that a neutral tax law applied to religious organizations would be upheld. (The historical rationale for religious exemptions comes from the proposition that human beings could not (or should not) tax God; there are references in ancient Egyptian history and the Old Testament regarding the proposition that human beings did not have the authority to tax priests or temples. I think we're sort of past the "if we tax churches, plagues of locusts will destroy the fields" theory.) Social clubs do get federal income tax exemption under Section 501(c)(7), but clubs do not get the other major benefits of charitable tax exemption under 501(c)(3) (e.g., the ability to receive tax-deductible donations or to issue tax-exempt bonds), and states generally do not provide property tax exemptions for clubs. So let's give churches the same tax benefits we give all social clubs and nothing more.
A colleague at another institution once floated the idea that churches ought to be taxed, but get an unlimited charitable deduction for actual charitable works, like expenditures for programs to help the poor. That also sounds fine to me. But the idea that we should be expanding exemption for churches to property that isn't even used for religious worship, particularly given the strains on local budgets, is in my view ludicrous.
Tuesday, January 22, 2013
A modestly-improving economy does not seem to have halted the trend of local property tax exemption fights. Here's a roundup of recent ones, to give a flavor of the scope of what's going on.
Vanderbilt University is seeking full property tax exemption for 11 fraternity/sorority houses. According to Vanderbilt, an agreement with the Greek organizations transferred full control over the property to Vanderbilt, and therefore the houses should be exempt like any other student housing. The move would save Vanderbilt (whose 2013 operating budget was $3.7 billion) $74,000 in annual property taxes. To paraphrase the late Senator Everett Dirksen, "$74,000 here and $74,000 there, and pretty soon you're talking about real money."
Meanwhile, the town of Hebron, Indiana, is fighting property tax exemption granted by the state to a set of apartment buildings. "Town Clerk-Treasurer Terri Waywood said the exemption was granted because the complex provides its tenants with classes in managing money and other services they can't get anywhere else in town." Sounds like a tax-exemption blueprint for all the apartment complexes in Indiana; heck, who doesn't need help managing their money? Even the folks on Downton Abbey could use some instruction on this front . . .
In Knoxville, Tennessee, a pair of golf courses are fighting to re-establish exempt status, and Texas State University's exempt status apparently is causing some budgetary headaches (heartache?) in San Marcos, Texas.
Some days I wonder whether the solution is just to get rid of all tax exemptions . . .
Monday, October 15, 2012
The dispute between the town of Vestal, NY and United Health Services over a property tax exemption for a new clinic owned by UHS offers a good lesson in the requirements for state property tax exemption. UHS built the clinic on land leased from a for-profit corporation. There is no dispute that the building is tax-exempt; the dispute regards an exemption on the underlying land.
While property tax exemption laws vary considerably from state to state, in most states property tax exemption requires that the exempt property meet two requirements: (1) it must be owned by an exempt charity and (2) it must actually be used "exclusively" (which usually really means "primarily") for exempt purposes. In New York, the relevant statutory language comes from Section 420-a of the New York Real Property Tax Law, which states:
Real property owned by a corporation or association organized or conducted exclusively for religious, charitable, hospital, educational, or moral or mental improvement of men, women or children purposes, or for two or more such purposes, and used exclusively for carrying out thereupon one or more of such purposes either by the owning corporation or association or by another such corporation or association as hereinafter provided shall be exempt from taxation as provided in this section.
The New York law seems pretty clear in requiring "ownership" by an exempt entity, which is pretty clearly not the case in the Vestal-UHS dispute. It may be, however, that UHS is claiming that the terms of its lease are the equivalent of "ownership" for New York property tax rules. The IRS sometimes treats very long-term leasing arrangements as the equivalent of fee ownership. In its regulations regarding tax-deferred exchanges under Code Section 1031, for example, the IRS treats a leasehold of 30 years or more as "like kind" to a fee interest. Treas. Reg. 1.1031(a)-1(c).
Since UHS has declined to reveal the specific provisions of its lease, I don't know what it's argument is on the ownership question (there is a suggestion in the cited story that UHS is claiming that it is responsible for paying the property taxes, which is enough to meet NY law). I'm also not sure whether New York would recognize certain leasehold interests (or obligations to pay the taxes) as the equivalent of "ownership" for property tax purposes - perhaps some reader from New York could enlighten us on that point.
But the story is a good illustration of how state property tax exemption differs from federal (or even state) income tax exemption. Federal income tax exemption is focused solely on the "charitable-ness" of the entity seeking exemption. Property tax exemption, on the other hand, generally requires meeting a two-pronged "ownership and use" test. The latter can produce different results - for example, property that is owned by a charity but not used for charitable purposes (e.g., leased to for-profit entities, or not used at all - that is, fallow property) generally will not qualify for exemption, just as property used for exempt purposes but owned by a for-profit entity and leased to a charity will not qualify.