Nonprofit Law Prof Blog

Tax Scams Identified by IRS

Every year the IRS posts its "Dirty Dozen" list of tax scams, both as a warning to taxpayers of scams to avoid and as a reminder of the investigations the IRS makes.  This year's list includes an item called "Abuse of Charitable Organizations and Deductions" and it sounds like the IRS continues to see some familiar problems.  The IRS says it sees "arrangements to improperly shield income or assets from taxation and attempts by donors to maintain control over donated assets or income from donated property."  The IRS also continues to investigate valuation issues that arise with donations of non-cash assets.  The IRS includes a reminder that the PPA imposed increased penalties for inaccurate appraisals.

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IRS Announcement for Charitable Trusts Operating as Type III SOs

Announcement 2010-19 provides procedures a charitable trust may follow to terminate its private foundation status by showing that it continuously operated as a Type III supporting organization after Aug. 16, 2007, even though it erroneously filed a Form 990-PF for its first taxable year after 2007.  The charitable trust can obtain a refund of the 4940 tax paid for 2008.  The announcement also describes procedures for charitable trusts that became private foundations after Aug. 16, 2007 and wish to terminate their private foundation status by operating as Type III supporting organizations.

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Kentucky Enacts UPMIFA

Kentucky has become the 46th jurisdiction to enact UPMIFA, the Uniform Prudent Management of Institutional Funds Act.  

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Boston Charity Hospitals Acquired by Venture Capital Firm

Caritas Christi Health Care System has announced that it will be acquired by Cerberus Capital Management, a New York venture capital firm.  The conversion from a nonprofit to a for-profit will depend on approval from state regulators, and that process could take until the fall.  The Cardinal of the Archdiocese of Boston must also approve the deal.

Cerberus will provide $830 million to the health care system, to be used for repairs and improvements. Cerberus has agreed to keep the six hospitals in the system open, to follow the tenets of the Catholic Church and carry out its mission of charity care, and to continue employment for current Caritas employees. Cerberus has agreed not to sell the hospitals or take them public for at least three years.

Responses to the announcement have been mixed. The hospitals needed the money and had searched for a partner for two years.  The conversion to for-profit status will result in $7 million in property taxes, which will help other economic projects.  But some nurses and others have expressed concern about whether a for-profit company will care about patients and provide the charity care that has been part of the Caritas mission. As one nurse said, "How can you call a charity a for-profit?"

Cerberus has promised to continue to set aside $66 million a year for charity care and pastoral care, and the continuation of the charity care that Caritas has provided seems likely to be a condition for approval by the Attorney General, Martha Coakley.  This will be General Coakley's first conversation, and as she was quoted as saying, "It's fairly complicated."  She must determine whether the conversation is "in the best interest of the public," and then will make a recommendation for or against the conversion to the Supreme Judicial Court of Massachusetts.

The Boston Globe has the story, as well as a number of related posts.

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Foundations on the Hill gathering in DC

The eighth Foundations on the Hill gathering brought more than 200 philanthropic leaders to DC last week. Sponsored by the Council on Foundations and the Forum of Regional Associations of Grantmakers, the two-day event featured policy forums and meetings with members of Congress to discuss ways the foundations and government can work collaboratively to address the major challenges facing the nation. This story in PNN Online describes some highlights of the meetings, as discussed by attendees.

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The Sad Story of Embezzlement at the London Philharmonic

The London Times provides a detailed look atf an embezzlement scheme so audacious it is hard to imagine - and hard for the London Philharmonic's chief executive, Tim Walker, to accept.  The Philharmonic's general manager and financial director, Cameron Poole, managed to take 666,000 pounds before the theft was discovered.  The situation is a classic one for embezzlement:  Poole had access, Poole was trusted by others at the organization, and the embezzlement started small but grew as it went undiscovered. What is less usual is that the Philharmonic had put procedures in place, recommended by the auditors, that required four steps to approve any expenditure.  The problem was that Poole simply did all four steps, using false invoices that he created.  He was the person preparing reports for the auditors, so he could cover his tracks there as well.

A judgement has been entered against Poole for 2.3 million pounds, the total cost of his misdeeds, and a criminal proceeding is pending.  The Philharmonic has also sued its auditor, Deloite, which audited the records three times without uncovering the theft. 

The Poole embezzlement has been described as a "wake up call" for arts organizations in the UK. Charities everywhere should pay heed.

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Rothschild Foundation

When Judith Rothschild died in 1993 she established the Judith Rothschild Foundation and named her friend, Harvey S. Shipley Miller, as its sole trustee.  The foundation held her extensive art collection, valued at $34 million when she died.  The foundation worked "to promote public awareness of recently deceased American artists' achievements" (from the foundation's website) and has benefited cultural organizations around the country through gifts of money and art. Now the New York Times reports the New York Attorney General is investigating the foundation. There have been no allegations of financial wrongdoing, but the New York Times article raises questions of whether Mr. Miller has benefitted inappropriately from his role.  Mr. Miller has paid himself a nice salary of $200,000 in some years (although in one year he took no salary), lived in Ms. Rothschild's house rent-free until it was sold (to provide security for the artwork), and had a fellowship at the University of California law school named after himself. Some art critics have noted, however, that he has worked hard to serve Ms. Rothschild's interests  and to honor his friend, and that he has "done an extremely good job of enhancing and sustaining Rothschild's position."  

Thanks to my colleague Dom Vetri for sending me the NYT article.

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SCt Justice's Wife to Run Political Nonprofit

The LA Times reports that Virginia Thomas, wife of Clarence Thomas, recently formed Liberty Central, a nonprofit non-tax deductible (read political) organization.  The mission statement of the organization says:

Liberty Central is activating informed American patriots who are seeking knowledge of the core founding principles and passionate about preserving freedom and liberty.  By providing tailored information, encouraging civil discourse, and inspiring activism, Liberty Central brings people together to protect the core founding principles.

Justices are expected to stay out of politics, but no rules apply to the spouses of justices.  The issue has not come up before, at least on the high court, so whether his wife's involvement in Liberty Central creates conflicts of interest for Justice Thomas remains an open question.  Ms. Thomas has said that she rarely discusses court matters with her husband.

The new organization is linked with the tea party movement and expects to get donations from corporations, now freed from restraints on political contributions.

I'm all in favor of spouses having separate careers, but I wonder about the conflicts problem when one spouse is on the Supreme Court.  Justice Thomas can't help but notice what his wife is doing.  Mostly, though, I worry about the idea of "activating patriots" when other "patriots" have, in recent days, used racial and homophobic slurs against people with whom they disagree.

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Kielburgers of Canada Take On Social Enterprise

Where have I been?  Until reading the Globe and Mail's story about the Marc and Craig Kielburger, I confess not to have heard of this dynamic duo.  They founded Free the Children 15 years ago when they were mere tykes (they're now 27 and 33 - you do the math), and the organization has, in Marc's words, "scaled" quickly.  Free the Children has programs in 4,000 schools in North America, has built 500 schools in 16 countries, and employs 120 people in the Toronto office alone.  Marc and Craig have appeared on Oprah, met the Dalai Lama, and "have the ear" of Bill Clinton (whatever that means).  

Remembering the impact foreign travel had on their own development, the brothers wanted to send children to other countries. The board of Free the Children didn't want to take on the project, so the brothers created a for-profit organization called Me to We.  The new company sells socially responsible products, sends children on foreign trips, and donates money back to Free the Children.  The problem is that the Canadian charity rules don't really work for the ideas the Kielburgers have.  According to the news article (and without independent research or knowledge on my part) Canadian charity laws prohibit a charity from engaging in an activity that makes a profit, even if the proceeds are used for the charity's mission.  These rules obviously make social enterprise and partnerships between nonprofits and for-profits difficult.  Advocates say the Kielburgers' example could be a new model that could help the charity sector when grants and donations are hard to obtain.  Critics say the new ideas could lead to exploitation of the charitable sector.

For the longish and fascinating story of the Kielburger's empire and the changes it may bring to Canadian charity law, see this story.

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Charity Survey - Tough Year Ahead

Stephanie Strom of the New York Times reports on this year's survey from the Nonprofit Finance Fund. Eighty-eight percent of the nonprofits surveyed expect 2010 to be financially as difficult (or more difficult) as 2009 for their nonprofits (one wonders about the other 12%), 80% predict that need for their services will increase and only 49% expect to able to meet this increased demand, and only 18% expect to end 2010 above break-even (compared with 35% who ended 2009 with an operating surplus).

For the full report, which includes information about how charities have dealt with the difficult times, go to the Nonprofit Finance Fund website.

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ACORN Announces It's Done

ACORN announced today that it will disband due to lack of financial resources.  See the AP story posted on Yahoo.

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Prizes for Nonprofits Growing in Popularity

The New York Times recently discussed the growth of prizes for work in various nonprofit areas.  The article reports that philanthropists have been drawn to the establishment of prizes to encourage work in particular fields or to reward good work, thereby encouraging others.  The article focuses on the Kravis prize, established five years ago by Henry and Marie-Josee Kravis to recognize leadership among nonprofit groups and share their best practices.  The Kravis Prize awards the recipient $250,000.

The article explains the issues a philanthropist should consider before establishing a prize:  goals for the prize, scope of the prize, cost (publicity and administration of the prize can cost as much as the award), whether the field already has too many prizes, and the need to establish a structure to administer the prize efficiently and fairly.

So how about a prize for nonprofit law professors?

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ACORN May File for Bankruptcy

ACORN, which describes itself as the "Nation's Largest Grassroots Community Organization," may decide this weekend whether to file for bankruptcy, the New York Times reports.  The organization came under attack after two conservative activists purportedly asked for and received advice about hiding prostitution from the police.  A four-month investigation by the Brooklyn D.A. concluded that no ACORN employees had committed criminal acts.  The investigation revealed that the video shot by the activists had been edited significantly, changing the dialog between the activist and the ACORN employees and even changing the clothes the activist wore when talking with ACORN employees.  He apparently had been wearing normal street clothes when he went to the ACORN offices but changed the video to show him in rather outrageous "pimp clothes."

In the aftermath of the "sting," ACORN lost public donations and government funding.  In addition, and perhaps even more critical to its problems, ACORN had had internal problems of infighting, embezzlement, and mismanagement.  Failure to deal with those problems was then compounded by the dramatic drop in funding.

Fifteen of the thirty state chapters have already disbanded, and two, California and New York, have reconstituted themselves with new names.  The closing of ACORN offices in many places has led to "a vacuum in services for communities that used to rely on it for free advice on employment, tax and loan matters."  (NYT article quoting ACORN supporters.)

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Some Final Thoughts on Provena

Now that I've had a day to cogitate (love that word!) on the Provena case, here are a few final thoughts about things.

First, the impact in Illinois.  While I (and probably many others) are disappointed that there was no definitive ruling on the question of what constitutes charitable use of property by a hospital (e.g., whether a substantial charity care program is required or not), the fact of the matter is that the Provena decision leaves intact a body of appellate case law (cases from the 1st, 2d, 3d, and 4th districts, including the Provena 4th District appellate opinion) that all have concluded that substantial charity care is a requirement, and all have rejected the federal community benefit test as a standard for exemption.  All these cases also agree that contractual discounts (e.g., Medicare/Medicaid shortfalls) do not "count" for purposes of computing charity care, and have accepted the Department of Revenue's position that charity care must be measured against a hospital's average costs as opposed to customary charges.  On top of this, we know that at least 3 justices of the Illinois Supreme Court agree with this body of law; while that might not be a majority, it certainly would be foolish for any hospital to "bet the house" on a final, majority decision coming out the other way - after all, all the plurality needs is for one of the two justices that recused themselves to agree with their position, while the two dissenters would have to pick up both of the recusals to become the majority.  So if I were an attorney advising an Illinois hospital, I'd tell them that they need to have a fairly generous charity care policy; that such policy needs to be advertised and proclaimed from the rafters, that they need to be extremely careful with how they treat debt collection (a relatively new Illinois law, passed a couple of years ago, addresses that anyway, and the federal health care bill that might actually pass Congress this weekend also might have something to say about that issue) and that they shouldn't count on "community benefit" expenses (like running health fairs or prenatal care seminars) to count for much. And if I were a tax assessor in Illinois, I wouldn't be shy about challenging nonprofit hospitals in my assessment district to document their charity care before handing out exempt status.  On a practical note, however, I expect this is mostly water under the bridge.  Illinois hospitals, including Provena, have already substantially changed the way they do business with respect to charity patients.  Where it was once difficult to find out about charity policies, today you can't walk in the front door of a hospital without being bombarded by information about charity policies.  The folks at the desks have pamphlets, forms, pens and paper.  The hospitals have already throttled back on the use of collection agencies.  In short, it would be an awfully stupid hospital that hasn't already made major adjustments in its operations to take into account the trend of Illinois case decisions.

With respect to the national picture, I still think the impact of Provena will be muted.  That's not to say that the decision won't have any impact at all - far from it.  Tax assessors in other states certainly will have a tool and a blueprint for arguing that charity care is the key to local property tax exemption.  But it will be hard for these folks to claim that such is the law in Illinois - in other words, they will not have a direct, strong precedent to cite. It will be interesting to see, for example, whether Provena plays much of a role in the current litigation in Ohio that pits the state department of revenue against Cleveland Clinic with respect to a satellite care facility that itself provided no charity care.  Ohio is Ohio, and Illinois is Illinois, but I wonder if the lawyers representing the Department of Revenue in Ohio will try to use Provena as a precedent to bolster their case.  I think that is going to be hard to do, since the counterargument is that there is no precedential value to Provena even in Illinois.

And finally, I will reiterate what I said yesterday.  If states are going to go down a "strict charity care test" road, the proper place for this is the state Legislature.  The dissenters in Provena are correct about one thing: we don't know for sure in Illinois how much charity care is required to be exempt, nor do we know for sure how to calculate it.  These are technical issues that need legislative attention.  But as to the underlying policy, both the community benefit test and the "strict charity care" approach to tax exemption for nonprofit hospitals are wrong-headed.  We should be asking what nonprofit hospitals "bring to the table" that their for-profit competitors do not.  Instead of asking "how much charity care do you offer?," we should be asking "What services do you bring to your community that people cannot get from the private market?"  Nonprofits should be "gap fillers" - that is, they should be providing services that are not otherwise provided by the private sector or the government.  That is ultimately why nonprofits exist.  It would not be so difficult to apply this theory to nonprofit hospitals, and doing so would both relieve the "straitjacket" of a strict charity care test, while requiring real accountability from hospitals regarding their services.  No more claims that "community building" expenses are "community benefits" that support tax exemption - tell me you operate a major burn center at a loss, and we'll talk.  I know that trying to get the debate on this issue refocused at this point probably is futile, but I intend to die trying.

JDC

Analysis of Provena Decision

Well, I now have the opinion (you can find it here), I have read it, and it is . . . complicated.  Here’s why.  The Illinois Supreme Court consists of 7 justices; two of the 7 justices recused themselves in this case, meaning that only 5 participated in the final opinion.  All 5 agreed that Provena should not get the tax exemption; however, two of the justices agreed only on a technical procedural basis: these two felt that Provena had failed to prove its case because the property that was exempt was owned by Provena Hospitals (Provena Covenant’s parent), but the evidence on charitable use all related to Provena Covenant (the subsidiary).  Accordingly, two of the justices concurred only because they believed the record contained no information regarding the charitable activities of the actual owner of the property.  Or put another way, they believed that the record all contained evidence of charitable use by the wrong party.

So, I can say definitively that Provena lost.  But that's all I can say.  Because only three of the five justices considering the case agreed on the substantive analysis of what constitutes “charitable use” (e.g., is charity care required, and if so, how much), the case does not actually resolve this issue for the future – as one of the concurring/dissenting justices pointed out (page 37 of the slip opinion), the plurality’s views on the substantive tests for charitable use are not entitled to stare decisis (e.g., are not entitled to be viewed as controlling precedent for future cases), because a majority of the court (e.g., four justices) did not agree on the substantive test. [I should note that all 5 justices agreed that Provena could not claim exemption as a religious organization, an argument I’m not going to discuss here].

So,  the case did not actually provide a definitive answer to what hospitals are required to do in order to get property tax exemption in Illinois.  But it is worth examining the conclusions of both the plurality and dissenters on the substantive issue, because their views are a microcosm of the national debate on tax exemption for nonprofit hospitals.

So first, let’s look at the plurality.  The plurality of the court soundly and completely rejected the “community benefit” test that has been the cornerstone of federal tax exemption for nonprofit hospitals since 1969.  The language of the plurality on page 26 of the opinion could not be clearer:

Provena Hospitals asserts that assessment of its charitable endeavors should also take into account subsidies it provides for ambulance service, its support of the crisis nursery, donations made to other not-for-profit entities, volunteer initiatives it undertakes, and support it provides for graduate medical education, behavioral health services, and emergency services training. This contention is problematic for several reasons. First, while all of these activities unquestionably benefit the community, community benefit is not the test. Under Illinois law, the issue is whether the property at issue is used exclusively for a charitable purpose.  (Slip opinion at 26, emphasis added).

Instead, the plurality adopted the approach of the 4th District Appellate opinion: in Illinois, charity is defined as a “gift.”  Treating patients for a fee is not a “gift”; only charity care is a “gift” in this context and the evidence showed that Provena’s true charity care was less than 1% of its revenues.  The plurality characterized this amount as “de minimis.”  Accordingly, Provena failed to prove appropriate charitable use of the property in question.  The plurality also clearly was not pleased with Provena’s handling of poor patients: it commented extensively on Provena’s failure to advertise its charity care programs, its practice of automatically billing all patients, turning accounts over for debt collection, and so forth.  While it is unclear how much this activity contributed to the plurality’s view that Provena was not engaging in charity, it was clearly a factor.

In reaching its conclusion, the plurality adopted some very interesting analysis.  First, the plurality adopted the “relief of government burden” theory as the basis for why tax exemption is appropriate.

Conditioning charitable status on whether an activity helps relieve the burdens on government is appropriate. After all, each tax dollar lost to a charitable exemption is one less dollar affected governmental bodies will have to meet their obligations directly. If a charitable institution wishes to avail itself of funds which would otherwise flow into a public treasury, it is only fitting that the institution provide some compensatory benefit in exchange. While Illinois law has never required that there be a direct, dollar-for-dollar correlation between the value of the tax exemption and the value of the goods or services provided by the charity, it is a sine qua non of charitable status that those seeking a charitable exemption be able to demonstrate that their activities will help alleviate some financial burden incurred by the affected taxing bodies in performing their governmental functions.  (Slip opinion at 20).

This view confirms a trend noted by Evelyn Brody at Chicago Kent of states moving toward this rationale as a basis for property tax exemption.  See, e.g., Evelyn Brody, The States’ Growing Use of a Quid-Pro-Quo Rationale for the Charity Property Tax Exemption, 56 Exempt Organization Tax Review 269 (2007).

Second, the plurality concluded that neither Medicaid nor Medicare “shortfalls” (e.g., the amount by which reimbursement falls short of costs – or, as some hospitals argue, customary charges) should count as charity, because these are essentially “pay for service” transactions and Provena voluntarily chose to take part in these programs.  The court observed that both provide stable sources of revenue and other benefits (such as eligibility for federal tax exemption), and therefore the decision to treat Medicare/Medicaid patients was not a “gift” but self-interested behavior.  I should note that the plurality actually got one thing completely wrong in this part of the opinion.  The plurality asserted that the Catholic Health Association’s (CHA) community benefit guidelines also take the position that Medicare and Medicaid shortfalls do not “count” as community benefit.  That is not correct.  The CHA guidelines do not count Medicare shortfalls, but do count Medicaid shortfalls.

Now let’s turn to the dissenters (on this issue).  Unlike the plurality, the dissent wholeheartedly embraced the “community benefit” test of tax exemption, quoting extensively from Medical Center Hospital of Vermont v. City of Burlington, 566 A.2d 1352 (Vt. 1989) and Wexford Medical Group v. City of Cadillac 713 N.W.2d 734 (Mich. 2006), both classic “community benefit” cases.  The dissenters rejected the notion that any minimum level of charity care was required, quoting directly from the Medical Center of Vermont and Wexford cases:

Similarly, in Medical Center Hospital of Vermont, Inc. v. City of Burlington, 152 Vt. 611, 566 A.2d 1352 (1989), the Vermont Supreme Court, in rejecting the taxing authority’s argument that the amount of free care dispensed must exceed revenues, concluded there was nothing in any Vermont case that required an institution to dispense any free care to qualify as charitable for purposes of the charitable property tax exemption. (Slip opinion at 35)

“[I]t does not follow that an institution must present evidence of a particular level of charitable care because there is no such threshold level contained in the statute. And we refuse to create one.” Wexford, 474 Mich. at 220, 713 S.W.2d at 748. (Slip opinion at 34).  

So, where are we on the issue of tax exemption for nonprofit hospitals?  Well, in Illinois we are essentially where we were before this opinion: because only a plurality of the court (rather than a majority) held that some substantial charity care was a requirement of exemption, technically that is not a definitive holding.  We don’t know how the other two justices would have voted, and until we have a case with a 4-person majority opinion, the best we can say is that not having a substantial charity care program is extremely dangerous, but having one is not clearly required.  Nevertheless, I suspect that any Illinois hospital that already hasn’t adopted clear charity care policies, including advertising them, and who hasn’t “throttled back” on debt collection cases will be doing so immediately.  It just wouldn’t be wise to tempt fate on this point, since it is clear that at least 3 justices believe that substantial charity care is a requirement of exemption under Illinois law.

Second, I suspect that one result of the Provena decision (or non-decision, as the case may be) will be to resurrect interest in a legislative solution to the nonprofit hospital exemption debate, which is where I think the solution should come from – see my article Hospital Property Tax Exemption in Illinois: Exploring the Policy Gaps, 37 Loyola L. Rev. 493 (2006).  Deciding questions such as whether charity care is a requirement of exemption, and if so, how much and how to count it, is simply not a task well-suited to the case-by-case judicial process.  These are intensely technical questions that should have clear answers, and on this point I agree with the dissenters: the legislature needs to answer them.  In Illinois, and in other states where this issue is boiling, the best approach would be to have the legislature step in.

Finally, I would note once again that I don’t agree with either approach – that is, I do not agree with either the “charity care is essential” approach of the plurality, nor the broad community benefit formulation of the dissenters.  In my view, the relevant question should be “what does a nonprofit hospital do that for-profit hospitals do not?” – or in other words, what services do nonprofits provide that are not otherwise provided by the private market.  These services might include free care for the poor, but might also include services (like a burn center) that for-profits shun because they are money losers.  Unfortunately, it seems that this test is not on anyone’s radar screen.

JDC

Provena Loses

I don't yet have a copy of the opinion, but the Chicago Tribune just posted this story, which states that Provena lost, and more importantly, that it lost on the substantive issue: the court apparently ruled that Provena failed to provide sufficient charity care to be tax-exempt.

Again, stay tuned.  I'll post my own summary and views on the opinion after I get a chance to review it, either later today or early tomorrow.

JDC

Provena Decision Expected Today

Reports are that the Illinois Supreme Court's decision in the Provena Covenant Hospital tax exemption case will be released later this morning.  Stay tuned - I'll post a summary of the decision as soon as I get my hands on it and have a chance to read it.

JDC

Senators Question Salaries of Boys & Girls Club Execs

The Washington Post reports that four senators (Sens. Charles E. Grassley (Iowa), Tom Coburn (Okla.), Jon Kyl (Ariz.) and John Cornyn (Tex.)) have sent a letter to the Boys and Girls Clubs of America asking about the organizations' expenses for salaries and travel.  The organization, which reported a $13 million loss on its 2008 Form 990, paid chief executive officer, Roxanne Spillett, nearly $1 million in current and deferred compensation.  According to The Nonprofit Quarterly, the Senators may hold up a bill that would give the organization $425 million in federal funding unless they get more information about the expenses.

JDC

Should USOC Be Tax-Exempt?

An interesting article in the Christian Science Monitor questions whether the US Olympic Committee should enjoy tax-exempt status under 501(c)(3).  What struck me about this commentary is how similar the points made here are to those made by reformers for college athletics: that the programs are no longer "amateur" athletics at all, but rather big time entertainment fueled in large part by TV revenues.  I also was particularly interested in the authors' comment that USOC gets little in the way of individual donations, since I have long championed a test for tax exemption that would require an organization to show that it was "substantially" funded by donations (Mark Hall, now at Wake Forest, and I proposed one-third of annual revenues from donations) in order to be tax-exempt.

JDC

Europe-- Countries Amending Laws to Comply with European Court of Justice Decision on Cross-Border Donations

European counries have been amending their tax laws in order to comply with the ECJ decisions in cross-border giving cases. For an analysis of the decision, see http://www.iccsl.org/search/show.cfm?id=3179. Changes in the laws of various countries are being tracked by the European Foundation Centre.

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