Monday, February 26, 2018

Webb: 99% of UK charities should lose their charitable status

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Merryn Somerset Webb penned an op-ed in The Financial Times entitled The charitable giving model is an undemocratic use of funds. Focused on the UK, the piece proposes that "99 per cent of the organisations with charitable status in the UK should have it removed." Instead, tax subsidies would apply to a limited number of official charities that would be tightly regulated. Read the entire piece at: 

February 26, 2018 in Current Affairs, In the News, International | Permalink | Comments (0)

Sunday, February 25, 2018

Chodorow & Aprill, The Parsonage Allowance Subsidizes Religion

E0B73FE6-7269-4CD3-BE27-27FF786BC02CA75A91D7-84CB-44D2-9E55-8BCDFB6B02C2Adam Chodorow (Arizona State) and Ellen Aprill (Loyola-Los Angeles) have posted a particularly timely article titled The Parsonage Allowance Subsidizes Religion. Here is the abstract:

In this piece, Professors Adam Chodorow and Ellen Aprill discuss section 107(2), which permits churches and other religious organizations to provide tax-housing to their ordained ministers, in the context of litigation involving the provision. They argue that the exemption provides special benefits unavailable to laypeople and thus raises serious establishment clause concerns.

Readers please note: After this piece went to press, the court enjoined enforcement of section 107(2) beginning 180 days after the later of the conclusion of any appeals or expiration of time for filing any appeal.

Is is timely because an appeal has just been filed in Gaylor v. Mnuchin, seeking to overturn the federal district decision concluding that the parsonage allowance found in section 107 of the Internal Revenue Code is an unconstitutional establishment of religion. We therefore will eventually know whether the U.S. Court of Appeals for the Seventh Circuit agrees with Chodorow and Aprill or with those, such as Edward Zelinsky (Cardozo), who take a contrary position.

Lloyd Mayer

February 25, 2018 in Federal – Judicial, Publications – Articles, Religion | Permalink | Comments (0)

ARNOVA-Asia Conference: Deadline Feb 28

image from www.socsc.hku.hkThe Association for Research on Nonprofit Organizations and Voluntary Action (ARNOVA) has extended to February 28 its call for proposals for its June 2018 ARNOVA-Asia Conference in Hong Kong. From the conference website:

We are calling for papers that advance the theoretical understanding of factors activating and shaping the changing dynamic between government and the third sector, and the implications of the change for public governance and the sector’s development. We encourage diverse theoretical approaches and methodologies including both qualitative and quantitative research; and also studies with a focus at the individual, organizational or sectoral levels. As we strive to bridge the academic and professional communities in the study and practice of nonprofits and philanthropy, we also welcome proposals for professional exchange sessions by practitioners which address the opportunities and challenges they face amid the changing government-third sector relations. For these practitioner-oriented sessions, innovative modes of presentation and discussion are encouraged; they may be short presentations on case studies to provoke thoughts and discussions, panel discussions of best practices, or provocative talks. Roundtable sessions in which academics and practitioners share their views and experiences of seizing the opportunities and meeting the challenges are also welcomed.




February 25, 2018 in Conferences | Permalink | Comments (0)

NYTimes: When Charity Workers Turn Predatory

On Friday, the New York Times Editorial Board penned an opinion piece entitled, "When Charity Workers Turn Predatory." It concludes:

the Oxfam scandal has sounded an alarm across the entire nongovernmental aid profession that it must heed if it is to retain the public trust on which it depends. There must be zero tolerance for misuse of power by staff members in the field and swift and transparent action against any appearance of abuse.

Read the entire thing (paywall) at:


February 25, 2018 in Current Affairs, In the News | Permalink | Comments (0)

Fleishman, Putting Wealth To Work: Philanthropy for Today or Investing for Tomorrow?

FleishmanjI missed this last fall, but Joel L. Fleishman (Duke) has written a new book, Putting Wealth to Work: Philanthropy for Today or Investing for Tomorrow? Here is the abstract:

By 2025, Americans will likely be donating over half a trillion dollars annually to nonprofit organizations. Those philanthropic gifts will transform significant parts of America’s civic sector landscape.
Philanthropy is entering an era of unprecedented growth and innovation. Established foundations such as Ford and Rockefeller are doubling down on programs tackling long-simmering problems, including global inequality, less-than-stellar education, and uneven access to health care. Many foundations are engaging in advocacy on controversial issues, exploring venture philanthropy solutions, and experimenting with impact investing. And philanthropists such as Bill Gates, Warren Buffett, New York’s high-profile financiers, and Silicon Valley’s billionaires are planning to put their wealth to work as never before: Mark Zuckerberg and Priscilla Chan recently pledged to donate 99 percent of their Facebook shares during their lifetimes, and nearly 150 others have signed the Giving Pledge to increase dramatically their “giving while living.”
In Putting Wealth to Work, Joel L. Fleishman provides expert analysis of contemporary philanthropy, offering invaluable insight for those engaging with and affected by charitable foundations. This is the fascinating and definitive account of philanthropy today, and an indispensable guide to understanding its inner workings, impact, and expansive potential.

For reviews, see Kirkus Review and Publishers Weekly.

Lloyd Mayer

February 25, 2018 in Publications – Books | Permalink | Comments (0)

Galle, Design and Implementation of a Charitable Regulation Regime

Galle-webBrian D. Galle (Georgetown) has posted Design and Implementation of a Charitable Regulation Regime. Here is the abstract:

Why is regulation of charity so pervasive? Is regulation justifiable from a perspective of economic theory? How can it be squared with the fundamentally private—that is, non-governmental—nature of charitable firms? This chapter explores five major questions in the design and implementation of regimes for regulation of charity, with the analysis centered in transaction-cost economics. 

I first consider the bedrock issue of what, if anything, justifies the extensive modern role government regulation plays in the private nonprofit sector. In many respects the question is not particularly different for charitable firms than it is for commercial operations. Unlike many commercial firms, however, charities in many developed countries are subsidized by the state, and these subsidies offer additional reasons for public oversight.

The second and third sections are closely related, and examine from different perspectives the extent to which regulation of charity need be provided by government, rather than by private auditors or other monitors. The second section reviews the alternative of "voluntary regulation" or "self-regulation." In the third section, I evaluate arguments about whether private parties should be granted the right to sue charitable organizations to enforce compliance with law or self-imposed governance standards. In both sections I conclude that, while active government monitoring is likely essential to any effective regime, there also are openings for important contributions from private oversight.

The fourth section considers a recurring tension in public supervision of charities, namely: how can charities represent a diverse array of private views when closely supervised by a possibly unsympathetic government? Courts and scholars of charity law tend to favor minimalist, bright-line, and procedure-based rules for charity governance, on the theory that these approaches reduce the room for bureaucratic discretion. I argue, to the contrary, that other institutional design choices can strike a better balance between safeguarding public interests and minimizing damage to the charitable sector. 

Lastly, in the fifth section, I examine what little is known about charitable compliance with law. The section provides an overview of compliance theory and evidence in the context of commercial firms, as well as the limited evidence available for charity.

Lloyd Mayer

February 25, 2018 in Publications – Articles | Permalink | Comments (0)

Mayer, Fiduciary Principles in Charities and Other Nonprofits

Mayer2015I have posted Fiduciary Principles in Charities and Other Nonprofits, which will be published in The Oxford Handbook of Fiduciary Law (Evan J. Criddle, Paul B. Miller, and Robert H. Sitkoff, eds.). Here is the abstract:

This book chapter provides an overview of the fiduciary principles that apply to charities and other nonprofit organizations. More specifically, it discusses the criteria that trigger a fiduciary relationship, the duties of loyalty and care, other legal obligations that may apply to nonprofit fiduciaries, and the extent to which those duties and obligations may be modified or avoided. In the course of doing so, it discusses and critiques the approaches taken to these principles by the draft Restatement of the Law, Charitable Nonprofit Organizations.

Lloyd Mayer

February 25, 2018 in Publications – Books | Permalink | Comments (0)

Saturday, February 24, 2018

Plerhoples, Nonprofit Displacement and the Pursuit of Charity Through Public Benefit Corporations

F64C223C-1D2A-4FC3-9582-8AF9E71469AAAlicia E. Plerhoples (Georgetown) has published Nonprofit Displacement and the Pursuit of Charity Through Public Benefit Corporations in the Lewis & Clark Law Review. Here is the abstract:

Nonprofits dominate the charitable sector. Until recently, this statement was tautological. Charity is increasingly being conducted through for-profit entities, raising concerns about the marketization of the charitable sector. This Article examines for-profit charity conducted through the public benefit corporation, a new corporate form that allows its owners to blend mission and profit in a single entity. Proponents of public benefit corporations intended it as an alternative to a for-profit corporation and largely ignored its impact on the charitable sector. While public benefit corporations are ripe for conducting charity because they can pursue dual missions, they lack the transparency and accountability mechanisms of charitable organizations.

This Article: chronicles the supply and demand for public benefit corporations that conduct charity (i.e., “charitable public benefit corporations”) and hypothesizes the micro and macro level harms caused by them. At the micro level, the harm is fraud or “greenwashing,” i.e., deceiving unwitting stockholders, customers, or other stakeholders into investing or spending their time and money in the negligent or fraudulent enterprise. At the macro level, the more pernicious harm is that “market-based charity” injects individualistic and autocratic business values and methods into charitable work. Proposals have been made to mitigate these harms, but none are satisfactory, making additional measures necessary.

Lloyd Mayer


February 24, 2018 in Publications – Articles | Permalink | Comments (0)

Silver, Regulating the Foreign Activities of Charities: A Comparative Perspective

Natalie Silver (Sydney) has posted Regulating the Foreign Activities of Charities: A Comparative Perspective, Report for the Pemel Case Foundation. Here is the abstract:

The globalization of charity has provided enormous challenges for governments in regulating the foreign activities of charities. As the subsector of charities operating internationally continues to evolve in the wake of new technologies and financing mechanisms used to transfer charitable funds across borders, as well as the advent of new terrorism challenges, it is critical for governments to re-examine their regulatory objectives for charities operating overseas and adjust their strategies accordingly. This paper, commissioned by the Pemsel Case Foundation in Canada, examines the different approaches undertaken in four jurisdictions – Australia, the United Kingdom, the United States and Canada – to regulate the foreign activities of charities. The aim is to inform the development of law and policy for governments seeking to undertake reform in this important area of cross-border regulation.

Lloyd Mayer

February 24, 2018 in Publications – Articles | Permalink | Comments (0)

Wilson, Cooperatives: The First Social Enterprise

67CCF514-1578-4A6A-8F52-6894AABA9BA9Elaine Waterhouse Wilson (West Virginia) has published Cooperatives: The First Social Enterprise in the DePaul Law Review. Here is an excerpt from the introduction (footnotes excluded):

    Especially in the context of income inequality, however, the opportunity to invest directly in alternative for-profit solutions has a third option: cooperatives. The modern cooperative business model devel- oped in direct response to social unrest, unemployment, poverty, and inequality. Community benefit is not just a consequence of the cooperative business model; it is a fundamental part of its structure. Yet the cooperative is a for-profit entity, and therefore not exclusively charitable. As a result, the charitable sector can look to cooperatives as a social enterprise-based solution to important and seemingly intractable social issues, such as income inequality.

    A cooperative is a business entity that is owned and managed by its members—those individuals for whose benefit the cooperative was organized. These members may be individual laborers in a workers’ cooperative, farmers in an agricultural marketing coop, or consumers in search of organic and fair trade produce at the local food coop. Unlike the standard investor capital-based business organization (sometimes referred to as an investor-owned firm or IOF), a cooperative’s mission is not necessarily to make a profit or to increase shareholder value; rather, the cooperative’s mission is to serve the needs of its members, whomever and whatever they may be. Historically, these members have often been a class of individuals in need of assistance, such as the unemployed weavers of the Rochdale cooperative or the poor farmers in California studied by Aaron Sapiro. Because the history of the cooperative is rooted in social change, the cooperative movement has developed a set of internationally recognized values that emphasize democracy, community, equality and sustainability, which are inherent to all cooperatives.
Due to their member-focused mission, cooperatives have difficulty obtaining capital from profit-oriented sources. Foundations and other charitable organizations looking to make social enterprise investments may be able to fill this funding gap. By definition, the goal of a mission-related investment by a charity is to achieve a charitable goal, sometimes while making a profit and sometimes while intentionally sacrificing profit. While a charitable investor is still just an investor in, and not a member of, a cooperative, the charitable investor’s goals and the member-owners’ goals can still be in alignment. If the charitable investor can assure itself that the cooperative business model is, at least in part, “charitable,” then it can find a way to invest in coopera- tives in the same manner as it might invest in a benefit corporation or a L3C (or for that matter, any for-profit business with a distinct charitable activity).

    This is not to say that cooperatives, specifically, or social enterprises, generally, are the solution to all that ails; rather, the intention is to find a place for cooperatives in the dialogue about social enterprise. As the cooperative and social enterprise movements merge, it is necessary to examine the legal and tax structures governing the entities to see if they help or hinder growth. If the ultimate decision is to support the growth of cooperatives as social enterprise, then those legal and tax structures that might impede this progress need to be reexamined.

Lloyd Mayer

February 24, 2018 in Publications – Articles | Permalink | Comments (0)

Friday, February 23, 2018

JCT Official Acknowledges Possible Glitch in New Excise Tax on High Compensation Paid by EOs

MoneyEllen Aprill (Loyola-LA) previously pointed out that there is an apparent glitch in the newly enacted excise tax on compensation over $1 million dollars for tax-exempt organization employees, in that new section 4960 does not appear to apply to public universities even though the public and maybe Congress thought that it would. Now Bloomberg Law reports that a Joint Committee on Taxation official has stated that a correction is needed to make it clear that public universities are within the ambit of this excise tax. More specifically, she said that the provision "requires a statutory technical correction" to resolve this issue. Whether such a correction will be forthcoming, or indeed any corrections to the recent tax reform legislation, remains to be seen.


February 23, 2018 in Federal – Legislative, In the News | Permalink | Comments (0)

Successful Applicant for Recognition of Exemption Fails in Claim for Administrative and Litigation Costs

Seal_of_the_United_States_Tax_Court.svgThe U.S. Tax Court issued an opinion this week denying a motion for reasonable litigation or administrative costs arising out of the filing of an application for recognition of exemption under section 501(c)(3) (Form 1023) and a subsequent successful petition for declaratory judgment. The motion arose out of a relatively common situation. Friends of the Benedictines in the Holy Land, Inc. filed a Form 1023 in July 2012. After more than a year had passed without any IRS action, and after an inquiry to the IRS resulted in a response that said there was no date certain by which a ruling or determination would be issued, the organization filed a petition for a declaratory judgement that it was exempt under section 501(a). Two days later the IRS issued a favorable determination letter, and after some negotiation the IRS, the organization, and the court resolved the declaratory judgment action through a stipulated decision. Subsequently, the organization sought an award of its reasonable litigation and administrative costs pursuant to section 7430 and Rules 230 and 231.

Given that the organization had prevailed in the underlying dispute, why did its motion for these costs fail? With respect to the administrative costs, while the Tax Court concluded the application process was an administrative proceeding and so could give rise to an award of administrative costs, it found that the organization had failed to provide any evidence of those costs and so had failed its burden of proof in this regard. With respect to the litigation costs, the Tax Court held that the Commissioner's prompt concession of the case - before the filing of an answer contesting the organization's claims - meant that the Commissioner's position in the litigation (that the organization did in fact qualify for exemption) was substantially justified and so there was no basis for awarding such costs. In doing so, the Tax Court rejected the approach taken by some other federal courts what had awarded litigation costs in similar situations, albeit not in the application for recognition of exemption context.

Lloyd Mayer

February 23, 2018 in Federal – Executive, Federal – Judicial | Permalink | Comments (1)

Federal Appellate Court Affirms Taxable Expenditures/Lobbying Decision Against Private Foundation

Ninth CircuitIn an unpublished opinion, the U.S. Court of Appeals for the Ninth Circuit has affirmed the Tax Court decision against a private foundation that allegedly engaged in lobbying prohibited as a taxable expenditure under section 4945 of the Internal Revenue Code. The case of Parks Foundation v. Commissioner had attracted significant attention because of its potential ramifications for how attempting to influence legislation (i.e., lobbying) is defined for federal tax purposes, particularly with respect to private foundations and charities more generally, as previously noted in this space. Perhaps seeking to avoid those issues, the court instead limited its brief opinion to whether the communications at issue failed to qualify as educational because they did not satisfy the methodology test provided by Revenue Procedure 86-43. It found that the Tax Court did not err in concluding that the communications at issue did not satisfy that test. The Ninth Circuit also found that the Tax Court did not err in determining that the "cursory commentary" provided by the Foundation's tax counsel with respect to three of the communications was not reasoned and so did not provide a defense to the manager's tax provided by section 4945(a)(2). 

Because the opinion is unpublished, it has only very limited precedential value under the Ninth Circuit Rule 36-3(a) ("Unpublished dispositions and orders of this Court are not precedent, except when relevant under the doctrine of law of the case or rules of claim preclusion or issue preclusion."). What remains to be see therefore is to what extent the underlying Tax Court decision guides future decisions in that and other courts.

Lloyd Mayer

February 23, 2018 in Federal – Judicial | Permalink | Comments (0)

Wednesday, February 21, 2018

Federal Appellate Court Upholds NY Donor Disclosure Regulations

Citizens UnitedLast week the U.S. Court of Appeals for the Second Circuit issued an opinion rejecting federal constitutional and other challenges to New York regulations requiring "charitable organizations" to disclose the identities of their significant donors to the state's Attorney General by submitting copies of  Schedule B from the annual information returns (Form 990) they file with the IRS. In Citizens United and Citizens United Foundation v. Schneiderman, the section 501(c)(3) Citizens United Foundation and the section 501(c)(4) Citizens United organizations challenged the regulations on First Amendment, Due Process, federal preemption, and state constitutional grounds.

With respect to the First Amendment challenge, the court rejected the organizations' arguments that the required disclosure would intimidate potential donors from contributing and operated as a presumptively unconstitutional prior constraint. Disagreeing with the organizations' argument that strict scrutiny applied, the court instead applied exacting scrutiny and concluded that the state's interests in preventing fraud and self-dealing in charities were sufficient to support the limited chilling effect of the required disclosure to the Attorney General, especially given that the disclosure did not go beyond that office. The court also found that regulations did not constitute the sort of prior restraint that is presumed to be unconstitutional. 

With respect to the other claims, the court found that the Due Process claim was ripe for consideration (contrary to what the District Court had concluded), but rejected the claim on its merits. The court also rejected the federal preemption argument and the state constitutional claim that the Attorney General lacked the authority to include organizations classified as social welfare organizations under section 501(c)(4) of the Internal Revenue Code within the ambit of "charitable organizations" for purposes of the AG's authority under state law.

Presumably the organizations will seek certiorari, so the final chapter has yet to be written in this developing case.

Lloyd Mayer

February 21, 2018 in Federal – Legislative | Permalink | Comments (0)

Exemption Application Changes: IRS Removes Need to Reapply for Exemption for Some Changes in Legal Form & Revises Application Forms, Fees

IRSThe IRS has recently made a number of significant changes to the process for applying for recognition of exemption under Internal Revenue Code section 501. Probably the most important is found in Revenue Procedure 2018-15, which provides that the IRS will not require a new exemption application from a domestic section 501(c) organization that merely changes its legal form or legal place of organization in many situations. This welcome change obsoletes Revenue Rulings 67-390 and 77-469, which generally required a new application under these circumstances. As detailed in the new Revenue Procedure, changes that generally will no longer require a new exemption application assuming no change in purposes include:

  • an unincorporated nonprofit organization becoming incorporated,
  • a corporation formed under the laws of one state reincorporating under the laws of a different state,
  • a corporation formed under the laws of one state filing articles of domestication under the laws of a different state, and
  • mergers of two corporations.

Changes that generally will still require a new exemption application include:

  • a charitable trust becoming incorporated,
  • any change where the surviving organization is a disregarded entity, limited liability company, partnership, or foreign business entity,
  • any change where the surviving organization obtains a new employer identification number, and
  • any change involving a foreign entity becoming a domestic entity.

While not addressed specifically in the Revenue Procedure, it appears that if a corporation becomes a charitable trust a new exemption application would be required because a charitable trust is not considered a business entity for federal tax purposes.

The IRS has also:

  • revised Form 1023 (application for recognition of exemption under section 501(c)(3) of the Internal Revenue Code), although the changes appear relatively minor 
  • revised Form 1023-EZ (streamlined application for recognition of exemption under section 501(c)(3) of the Internal Revenue Code) as explained here by the IRS, including adding a request for a brief description of the organization's mission or most significant activities 
  • finalized new Form 1024-A (application for recognition of exemption under section 501(c)(4) of the internal revenue code)
  • in Revenue Procedure 2018-5, changed the user fee for all exemption applications other than Form 1023-EZ to $600, updated the procedures for requesting relief to limit retroactive revocation of modification of a determination letter, and added organizations applying for retroactive reinstatement after being automatically revoked for failure to file required annual information returns to the list of entities ineligible to submit Form 1023-EZ

Lloyd Mayer

February 21, 2018 in Federal – Executive | Permalink | Comments (0)

Monday, February 19, 2018

Nonprofits, Governance, and #MeToo

MeTooThe #MeToo movement has reached several major nonprofit organizations, raising serious accountability and governance questions. For example:

  • According to NPR, the General Counsel and Chief International Officer of the American Red Cross resigned in the wake of a report from ProPublica that several years ago ARC had forced a senior official to resign amid sexual harassment and assault allegations but still provided a positive review of his performance to another nonprofit interested in hiring him. 
  • Doctors Without Borders (Medecins Sans Frontieres) announced that in 2017 it had dealt with 24 cases of alleged sexual harassment, resulting in the dismissal of 19 people, in an attempt to distinguish itself from the Oxfam and the scandal enveloping that organization (see below), according to Reuters.
  • The CEO of the Humane Society of the United States resigned in the wake of sexual harassment allegations, after fighting the allegations for weeks and even though a majority of the organization's board voted to immediately end an investigation into his behavior, according to the N.Y. Times. Additional coverage: NPR.
  • The Times of London reported that in 2011 Oxfam International covered up the use of prostitutes by senior aid workers in Haiti. Trying to get ahead of the growing scandal, Oxfam has promised to appoint an independent commission to investigate claims of sexual exploitation, according to The Guardian
  • The Presidents Club, a prominent United Kingdom charity that raised money from the British elite to fund grants to other charitable organizations, closed after The Guardian conducted an undercover investigation that revealed alleged groping and sexual harassment at the charity's most recent men-only fundraising dinner. Additional coverage: CNN.

In a Monkey Cage column in today's Washington Post, Nives Dolsak, Sirindah (Christianna) Parr, and Aseem Prakash, all at the University of Washington at Seattle, argue the presumption of virtue for nonprofits often leads to regulators and stakeholders neglecting issues of accountability and governance. (UPDATE: For a contrary perspective, see this Nonprofit Quarterly column by Ruth McCambridge and Steve Dubb.)  At the same time, even the above examples illustrate everything from an apparently robust response to allegations of sexual harassment in the case of Doctors Without Borders to the alleged creation of an environment that encouraged such harassment in the case of the Presidents Club. What appears inescapable, however, is that nonprofits, like for-profits, have to invest in developing procedures to properly handle such complaints and deal with alleged harassers.

Lloyd Mayer

February 19, 2018 in In the News, International | Permalink | Comments (0)

Sunday, February 18, 2018

Cornering the Art Market?


On February 6, 2018, Robert Cenedella filed an antitrust class action complaint against the Metropolitan Museum of Art, the Whitney Museum of Art, the Museum of Modern Art, the Solomon R. Guggenheim Museum, and the New Museum, alleging a conspiracy to manipulate the art market. Cenedella is a painter who studied with George Grosz and has been a minor presence in the art market for decades. He is also known as the "Art Bastard" and is the subject of a movie. The Harvard Journal of Sports & Entertainment Law and Artnet have also reported on the complaint.

I am skeptical that Cenedella's action will succeed.

For one thing, I doubt that the court will certify the class. Who are the members? How can a federal court determine which artists should have qualified for gallery representation?

For another, what is Cenedella's claim?  As far as I can tell, he wants to participate in a cartel, and is complaining about his exclusion. That isn't the kind of problem that antitrust law was intended to solve. And he doesn't allege any facts to support an antitrust conspiracy. Which creates an obvious Twiqbal problem.

In any case, I will be very interested to see how this action proceeds.

Brian L. Frye



February 18, 2018 | Permalink | Comments (0)

Friday, February 16, 2018

More on Newman's Own: Drafting Fail or Planning Opportunity? Or Yes...

So I teased yesterday that I was looking at the statutory language of new Code Section 4943 with my estate planning hat on.   I fully admit I'm spitballing here and haven't taken this all the way through, so work with me.    Recall from yesterday that there is a three-part test for new Section 4943(g):   Ownership of voting control, receipt of net operating income, and an independent board.   Here is the statutory language for the first requirement, ownership of voting control:

(2) OWNERSHIP. —The requirements of this paragraph are met if—

(A) 100 percent of the voting stock in the business enterprise is held by the private foundation at all times during the taxable year, and

(B) all the private foundation’s ownership interests in the business enterprise were acquired by means other than by purchase.

So note that the foundation must receive 100% of the "voting stock."   This leads me to two questions.   First, does that necessarily imply that one could have non-voting stock?   After all, Section 4943(c)(2) specifically talks about voting stock and, thereafter, what happens with the non-voting stock as permitted holdings by the foundation. (By the way, the Regulations specifically state, for purposes of determining permitted holdings, voting means voting for the election of directors.  Reg. 53.4943-3(b)(1)(ii)).  Could, for example, the donor’s children own non-voting stock?

Question number 2, of course, is whether voting stock really means "stock" - as in corporate stock.   Which means an actual state law corporation, or would an LLC that checks the corporate box count?  Could you do this with a LLC taxed as a partnership?  There's a whole layer of UBIT planning there as well, I know... so that would inform that choice.  That being said, Section 4943(c)(3) specifically gives guidance on the permitted holdings issue for non-corporate entities and directs Treasury to promulgate regs on that, although that doesn't apply by its terms to new Section 4943(g).  The new Section is just silent, so it’s not clear whether this is bad drafting or intentionally limited to corporations (compare, for example, Section 4941(d)(2)(F) regarding corporate reorganizations).

Now one might say that the second requirement of Section 4943(g), the net income distribution requirement, would limit any gamesmanship.  Here’s the language:


(A) IN GENERAL. —The requirements of this paragraph are met if the business enterprise, not later than 120 days after the close of the taxable year, distributes an amount equal to its net operating income for such taxable year to the private foundation.

(B) NET OPERATING INCOME. —For purposes of this paragraph, the net operating income of any business enterprise for any taxable year is an amount equal to the gross income of the business enterprise for the taxable year, reduced by the sum of—

(i) the deductions allowed by chapter 14 for the taxable year which are directly connected with the production of such income,

(ii) the tax imposed by chapter 1 on the business enterprise for the taxable year, and

(iii) an amount for a reasonable reserve for working capital and other business needs of the business enterprise.

Note that the net operating income provision is keyed off gross income (statutory construct) minus deductions (more statutory constructs) and a working capital reserve (fiduciary duty to non-voting shareholders?  Hmmm..)    This isn’t off something like E&P in the C Corporation context or partner capital in the Sub K context, which takes into account economic inflows and outflows that don’t hit gross income or deductions (because they are statutory constructs people!)    Say, for example, the business has real estate throwing out losses?  Or holds a life insurance policy of $2.0 million on the donor.   In the first instance, all the deductions; in the second, there’s no gross income to begin with.   Could some of the value of the company that isn’t technically included in operating income get allocate to share value (or specifically, non-voting share value?)   

Could you draft a class of voting stock with only economic rights to net operating income so defined, leaving everything else to the non-voting shares?  Could you do it in a member-managed LLC that checks the box as a corporation, but structures the governance so as to avoid the tests in the third requirement of independent management? 

So many question… no answers at all.   I’m sort of glad I’m not doing this planning any more….


February 16, 2018 | Permalink | Comments (0)

Thursday, February 15, 2018

It's In There! The Newman's Own fix in the Bipartisan Budget Act of 2018

Section 41110 of the Bipartisan Budget Act of 2018 includes the so-called Newman’s Own provision – an amendment to Code Section 4943 (the private foundation excise tax on excess business holdings) that would allow a private foundation to own a significant stake in an operating business under certain circumstances.  By all reports, the foundation that owns Newman’s Own is subject to Code Section 4943, and would need to liquidate its holdings in the company in short order without legislative changes to Code Section 4943.

As you may know, Code Section 4943 provides that a private foundation may not own an “excess” holding in a operating business.   Very generally, the excess holding for an operating business in corporate form is equity having 20% of the corporation's voting power reduced by the voting power held by “disqualified persons” – typically, substantial contributors, foundation managers, and their family and related entities under Code Section 4946.  If a foundation holds an excess business holding by gift or inheritance (e.g., Paul Newman dies and leaves all his stock to his foundation), the foundation has five years to dispose of the excess holding.  If the foundation could demonstrate that it could not dispose of the holding despite its efforts during that five year period, the Service could grant a discretionary additional five years.   

New Code Section 4943(g) would allow a private foundation to hold 100% of the voting stock of an operating business if it acquires those interests by gift, it receives the net operating income of from the business annually, and the business and the foundation are operated independently, as determined by certain board composition rules.    Presumably, this would allow Paul Newman's foundation to continue to own Newman's Own and receive the proceeds from operation.

I am not going in to the details of the actual language of the statute (yet…) –  there are some questionably drafted provisions (shocking…) that raise some issue I’m still thinking about.   No worries, I’m here all week.

That being said, I am troubled by this provision as a general matter.  First, the idea of changing statutes for specific taxpayers, no matter how well-intentioned and deserving (I love the salsa….), is always distasteful to me.   Now, I’m not so naïve that I don't know that it happens all the time (I’m looking at you, motorsports facilities and the Orange Bowl and race horses…) but it doesn’t mean it’s good practice and one that should be lauded.  

More to the substance, however, this new provision really flies in the face of the whole purpose of Code Section 4943. If you read the legislative history (which I have and have helpfully summarized for you here: (shameless plug): Better Late Than Never: Incorporating LLCs Into Section 4943)),  you find that the original intent behind Code Section 4943 was not really about prohibiting self-dealing.   After all, Code Section 4941 (the self-dealing prohibition) was passed at the same time.   Code Section 4943 is about focus: is the foundation focusing on its charitable endeavors, or it is spending a more than insubstantial amount of its time running a business?   It is, to some degree, understandable that the foundation would pay close attention to the primary source of its income.   That being said, the source of the private foundation’s exemption is its charitable program, and if that program suffers in the shadows of operation of a substantial business subsidiary, what is the point of exemption?  Do we still believe that the destination of income test is not a thing?  In my mind, none of the requirements of new Code Section 4943(g) address this concern directly.

I suspect my discomfort will grow as my estate planner hat takes over, but in the meanwhile, pass the tortilla chips.


P.S.   I know “It’s In There” was Prego – you try making a pithy headline involving tax and pasta sauce.

February 15, 2018 in Federal – Legislative, In the News | Permalink | Comments (2)

Wednesday, February 14, 2018

Fershee: The End of Responsible Growth and Governance?: The Risks Posed by Social Enterprise Enabling Statutes and the Demise of Director Primacy

Josh Fershee

My friend and colleague Josh Fershee recently posted this piece on SSRN, which is cross blogged at the Business Law Prof Blog under the screaming headline, “These Reasons Social Benefit Entities Hurt Business and Philanthropy Will Blow Your Mind!!!!!”   Okay -  I added the exclamation points.  And the bold.   Alas, there are no cat pictures or bad high school year book photos of celebrities, but there is an important discussion about impact of the existence of social enterprise entities on traditional for profit businesses engaged in social activity.     The abstract:

The emergence of social enterprise enabling statutes and the demise of director primacy run the risk of derailing large-scale socially responsible business decisions. This could have the parallel impacts of limiting business leader creativity and risk taking. In addition to reducing socially responsible business activities, this could also serve to limit economic growth. Now that many states have alternative social enterprise entity structures, there is an increased risk that traditional entities will be viewed (by both courts and directors) as pure profit vehicles, eliminating directors’ ability to make choices with the public benefit in mind, even where the public benefit is also good for business (at least in the long term). Narrowing directors’ decision making in this way limits the options for innovation, building goodwill, and maintaining an engaged workforce, all to the detriment of employees, society, and, yes, shareholders.

The potential harm from social benefit entities and eroding director primacy is not inevitable, and the challenges are not insurmountable. This essay is designed to highlight and explain these risks with the hope that identifying and explaining the risks will help courts avoid them. This essay first discusses the role and purpose of limited liability entities and explains the foundational concept of director primacy and the risks associated with eroding that norm. Next, the essay describes the emergence of social benefit entities and describes how the mere existence of such entities can serve to further erode director primacy and limit business leader discretion, leading to lost social benefit and reduced profit making. Finally, the essay makes a recommendation about how courts can help avoid these harms.


February 14, 2018 in In the News, Publications – Articles, State – Legislative | Permalink | Comments (0)