Nonprofit Law Prof Blog

Is Satan violative of Clearly Defined Public Policy or Not?

There is a short piece in yesterday's WAPO describing the Satanic Temple's recently acquired determination letter confirming its status as a tax  exempt church.  On its website, the Satanic Temple declares that "for the very first time in history, a satanic organization has been recognized by the United States federal government as being a church.  The Satanic Temple recently received notice from the IRS affirming our status."  Ok so if Satan, at least as conceptually understood in the Judeo-Christian tradition, can establish a tax exempt charity, then surely the  whole notion that exempt organizations not violate "clearly established public policy" is another one of Satan's jurisprudential deceptions.  Fortunately for those of us who  continually seek rhyme or reason in tax exemption jurisprudence, the Satanic Temple is more benevolent than its name sounds.  By its mission statement, the group seems intent on presenting a kinder and gentler "Satan" who only wants to rescue humankind from its own folly:

 The mission of The Satanic Temple is to encourage benevolence and empathy among all people, reject tyrannical authority, advocate practical  common sense and justice, and be directed by the human conscience to undertake noble pursuits guided by the individual will. Politically aware, Civic-minded Satanists and allies in The Satanic Temple have publicly opposed The Westboro Baptist Church, advocated on behalf of children in   public school to abolish corporal punishment, applied for equal representation where religious monuments are placed on public property, provided religious exemption and legal protection against laws that unscientifically restrict women's reproductive autonomy, exposed fraudulent   harmful pseudo-scientific practitioners and claims in mental health care, and applied to hold clubs along side other religious after school clubs in  schools besieged by proselytizing organizations.

So I guess Satan isn't such a bad guy after all.  Or is that just what Satan wants me to believe . . . 

Have a great weekend!

 

Darryll K. Jones

 

 

"Analysis of the law Relating to Public Benefit" by the Charity Commission for England and Wales (and one more short comment on Panera Cares)

Happy Friday!  I was thinking about the extent to which other countries have charitable definition and enforcement "challenges" and thought I would use the wonders of the internet to explore the question.  Since American laws of charity are derived in large part from the UK, I started there.  Of course, I have known about the Charity Commission for England and Wales for a long time but I have only visited [virtually] sporadically.  I don't want to assert that somehow the folks in jolly old England do it better than us because there is a wealth of guidance on the "Charities and Nonprofits" section of IRS.gov.  I would have to do a much more comparative analysis, but the Charity Commission has some interesting resources, especially for practitioners and scholars who want to inject historical policy perspectives into their advocacy.  Anyway, the Commission has a page entitled "What Makes A Charity" which "outlines what the law in England and Wales says a charity is."  By the way, a report commissioned by the British Parliament concluded that the Charities Act of 2006's articulation of the "public benefit" doctrine was "critically flawed so it sounds like the Brits have as much difficult as we do in defining the public benefit doctrine.   The problems do not appear to have been solved by the Charities Act of 2011, which largely supplanted the 2006 Act.  That particular page has about five white papers on the topic.  Here is an excerpt from a publication entitled "Analysis of the Law Relating to Public Benefit:"

Public benefit not a static concept

31. The legal concept of charity, including the concept of public benefit in charity law, is not static. Charity law is not “frozen at some time in the past”; “it must be remembered that the concept of what is and is not for the public benefit (as seen by society generally, and as reflected in judicial recognition of the views of society) changes over time. As we will see, changing social perceptions have, in the past, resulted in changes in what is seen as for the benefit of society and, accordingly, of what is properly to be accorded
charitable status.”12 A purpose which was formerly recognised as being for the public benefit may cease to be recognised as such, and purposes which were not formerly recognised as being for the public benefit may be recognised as such. Thus in National Anti-vivisection Society v IRC Lord Simonds said: “If to-day a testator made a bequest for the relief of the poor and required that it should be carried out in one way only and the court was satisfied by evidence that that way was injurious to the community,
I should say that it was not a charitable gift, though three hundred years ago the court might upon different evidence or in the absence of any evidence have come to a different conclusion.”

. . . 

The two aspects of public benefit

39. In the modern law, the concept of public benefit as integral to a charitable purpose is regarded as having two principal aspects, namely that, for a purpose to be charitable:
a. it must be beneficial, and any detriment or harm that results from the purpose must not outweigh the benefit (‘the benefit aspect’); and
b. it must benefit the public in general, or a sufficient section of the public (‘the public aspect’).

40. In addition, a charitable purpose may only benefit individuals or other legal entities to an extent that is no more than incidental to the furtherance of the charitable purpose. This principle can be regarded as part of one or other of the two aspects described above or as a separate requirement. The Commission’s public benefit guidance deals with it as part of the second aspect.

The entire paper is about 20 pages but its paragraph 40, I think, that might trip up the folks at Panera Cares, about which we blogged a last week.

 

Darryll K. Jones

 

 

 

Roger Colinvaux: "Fixing Philanthropy: A Vision for Charitable Giving and Reform"

Roger Colinvaux (Catholic University) has just published "Fixing Philanthropy:  A Vision for Charitable Giving and Reform."  Here is the interesting abstract:

Philanthropy means to give for the benefit of others. Unfortunately for philanthropy and civil society, the laws supporting philanthropy are in a state of crisis. More by happenstance than design, the law now caters overwhelmingly to the whims of wealthy donors to the detriment of those in need. We find ourselves with a legal framework ostensibly designed to promote broad-based philanthropic activity, but which is better described as one where the wealthiest get tax benefits that are unavailable to others; claim those (sometimes questionable) benefits while retaining effective control over donated funds; and use the system to advance their policy preferences, avoid scrutiny, and undermine the centuries-old faith and trust that our nation’s charities represent the public good. Although the trends are dire, the article explains how Congress can restore credibility to philanthropy with a number of legislative initiatives, including by broadening the base for charitable giving with an expanded and reformed giving incentive, improving the flow of money to working charities with new rules for donor advised funds (DAFs), strengthening and supporting IRS oversight, and by revisiting some of the rushed through ideas of recent tax legislation (the TCJA).

Darryll K. Jones

 

Everything You Wanted to Know About 501(c)(4)s But Were Afraid to Ask

The N.Y.U. Journal of Legislation & Public Policy has published an issue that comprehensively addresses legal issues relating to Internal Revenue Code section 501(c)(4) social welfare organizations. Here is the table of contents:

Introduction

Social Welfare Organizations: Better Alternatives to Charities?
Harvey P. Dale & Jill S. Manny

Articles

Examining the Landscape of § 501(c)(4) Social Welfare Organizations
Ellen P. Aprill

Social Welfare Organizations as Grantmakers
David S. Miller

A (Partial) Defense of § 501(c)(4)’s “Catchall” Nature
Lloyd Hitoshi Mayer

Social Welfare and Political Organizations: Ending the Plague of Inconsistency
Roger Colinvaux

The Tax Exemption Under I.R.C. § 501(c)(4)
Daniel Halperin

Practitioner Comment

Practitioner Perspectives on Using § 501(c)(4) Organizations for Charitable Lobbying: Realities and an Alternative
Rosemary E. Fei & Eric K. Gorovitz

Responses

Grantmaking Advice for Mega-Donors: A Second Opinion
Stephen Schwarz

Social Welfare Organizations as Grantmakers: Further Thoughts
Robert A. Wexler

An Exempt Status Sorting Hat
Richard Schmalbeck

Disclosing Donors to Social Welfare Political Activity
Kenneth A. Gross

The Importance of Using Affiliated § 501(c)(4) and § 501(c)(3) Organizations for Advocacy
Terence Dougherty

Realities and an Alternative
Jill S. Manny

Lloyd Mayer

The Criminalization of Excess Benefit and Campaign Intervention

This just must be the season for craziness amongst fiduciaries of tax exempt organizations.  We previously blogged about recent high profile scandals involving exempt organizations and how those scandals might be characterizing the whole sector.  But I don't think I have ever seen a more egregious case of excess benefit and campaign intervention than that alleged in an indictment by DOJ in Western Missouri two weeks ago.  The indictment, which carries a penalty of up to 33 years imprisonment and a $1 million dollar fine, is almost exclusively concerned with punishing tax exempt law violations, and exemplifies the civil enforcement vacuum filled by criminal process instead.  As I mentioned, this is indeed an egregious case but I am not so much in favor of the criminalization of tax exemption law.  The rules are vague and undefined enough that I have to wonder whether its appropriate to bring criminal sanctions for violations. 

Anyway, its hard to have that discussion in this particular context given the absolute greed and arrogance described in the indictment.  Here are summaries from the LA Times and the DOJ press release. The 85 page, 110 paragraph indictment, starting at paragraph 44 provides a mini-dissertation concerning the private inurement, excess benefit and campaign intervention prohibitions in 501(c)(3) and 4958.  Then, starting at paragraph 65 and continuing to the end, the indictment describes astonishing examples of all three violations.  If nothing else, its a good real-life example for use in class if you are teaching exempt organizations in an upcoming semester.

Darryll K. Jones

NPQ: "The True Story of Nonprofits and Taxes"

There is a good read in the spring edition of the Nonprofit Quarterly, authored by Jon Pratt, Executive Director of the Minnesota Council of Nonprofits. Here is an excerpt followed by two informative charts.   

In other words, even though they are sometimes considered to be an essentially “tax-free” sector of the economy, nonprofits clearly have deep involvement on both sides of the ledger: as a tax expenditure, in the sense of forgone revenue, and as taxpayers and tax collectors, making substantial contributions to government revenues through tax collection from nonprofit employees and activities. This side of the ledger is not often examined, so this rough estimate is offered as a clarification that nonprofits are by no means tax negative (or even tax neutral).  The two charts that follow capture nonprofit tax activity in 2015 across a vast array of U.S. jurisdictions—federal, state, and local—in a variety of tax transactions. The IRS reported that charities held over $3.8 trillion in assets and received $2.9 trillion in revenue during that tax year.¹ These projections are my initial effort to quantify (in a necessarily gross estimate) the national value of charitable nonprofit benefits and obligations across the various taxing systems.

 

 

It's a short but interesting read.  

 

Darryll K. Jones

Nonprofit Cultural Wars Continue with New Private Benefit, Inurement, Commerciality, and Excess Benefit Complaint against National Rifle Association

A few weeks ago we posted about the coordinated effort against the Southern Poverty Law Center's tax exempt status led by right leaning groups -- including media groups -- and assisted most recently by a letter from Republican Senator Tom Cotton to the IRS demanding that the Service yank SPLC's tax exempt status.  Now in the wake of a New Yorker Magazine article entitled "Secrecy, Self-Dealing, and Greed at the NRA," a gun control group has filed a complaint against the NRA with the IRS.  The complaint does not have the support of a Senator just yet, but it gets an assist from former EO Division Director Marc Owens, who is also quoted in the New Yorker Article.  Here is the gist of the complaint from "Everytown For Gun Safety:"

The NRA is a purported charity and exempt from federal tax under section 501(c)(4) of the Internal Revenue Code and we write today to alert you to what we believe are activities that clearly fall outside of the NRA’s charitable purpose and mission. After reviewing the facts contained in the NRA Expose, Marc Owens, who for ten years headed the IRS division overseeing tax-exempt enterprises, said, “[t]he litany of red flags is just extraordinary … The materials reflect one of the broadest arrays of likely transgressions that I’ve ever seen. There is a tremendous range of what appears to be the misuse of assets for the benefit of certain venders and people in control. ... Those facts, if confirmed, could lead to the revocation of the NRA’s tax-exempt status.” Accordingly, and for the reasons set forth below, we call on the IRS to commence an investigation into whether (i) the NRA has violated the federal laws governing 501(c)(4) charitable organizations, and (ii) if so, consider what remedies are warranted, including potential revocation of the NRA’s 501(c)(4) status.

The complaint -- which is in the form of a letter accompanying a Form 13909 (Tax-Exempt Organization Complaint (Referral) -- lists ten examples, variously and without using the legal terms, of private benefit, private inurement, excess benefit and commerciality problems.   Its hard to see how this complaint will go anywhere given that the Service has effectively been prohibited from investigating 501(c)(4) groups anymore.

Darryll K. Jones

ProPublica: "How The IRS Gave Up Fighting Political Dark Money Groups"

ProPublica, the nonprofit investigative journalism organization, has published a series of articles under the title "Gutting the IRS".  The latest installment is entitled "How the IRS Gave up Fighting Political Dark Money Groups." The article, published yesterday, relates the history of the Services' efforts to examine 501(c)(4) groups that seemed more intent on political advocacy than "social welfare," the whole "scandal" involving the Service's treatment of 1024-A's from conservative leaning social welfare organizations, little known but successful legislative efforts to completely defund examinations of (c)(4) organizations, and finally the exodus of examiners and other employees since Lois Lerner was figuratively burned at the public stake because she was forthright in describing TE/GE's attempts to make some sense out of the undefined phrase, "social welfare."  Here are some of the interesting points from the article. I highlighted what I thought was the most astonishing part:

• In the past decade, people, companies and unions have dispensed more than $1 billion in dark money, according to the Center for Responsive Politics. 
• Such spending is legal because of a massive loophole. Section 501(c)(4) of the U.S. tax code allows organizations to make independent expenditures on politics while concealing their donors’ names — as long as politics isn’t the organization’s “primary activity.” The Internal Revenue Service has the daunting task of trying to determine when nonprofits in that category, known colloquially as C4s, violate that vague standard.
• Since 2015, thousands of complaints have streamed in — from citizens, public interest groups, IRS agents, government officials and more — that C4s are abusing the rules. But the agency has not stripped a single organization of its tax-exempt status for breaking spending rules during that period.
• The IRS’ abdication of oversight stems from a trio of causes. It started with a surge in the number of politically oriented C4s. That was exacerbated by the IRS’ almost comically cumbersome process for examining C4s accused of breaching political limits; the process requires a half-dozen layers of approvals and referrals merely to start an investigation. That is abetted by years of IRS staff attrition and loss of expertise that was then compounded by steady budget reductions by Congress starting in 2010. The division that oversees nonprofits, known as the “exempt organization” section, shrank from 942 staffers in 2010 to 585 in 2018, according to the IRS. 
• On top of that, the 2013 scandal in which the IRS was accused of targeting conservative nonprofits left the division seared by the vilification of the conservative politicians, media and the public, and by the resignation of Lois Lerner, who headed the division. Some IRS auditors say they were paralyzed. “I was scared of being pilloried, dragged to the Hill to testify, getting caught up in lawsuits, having to sink thousands of dollars in attorneys bills that I couldn’t afford, and having threats made against me or my family,” said one employee who worked in Lerner’s division at the time. “I locked down my Facebook page. I deleted all personal Twitter posts. I stopped telling people where I worked. I tried to become invisible.”
• The Citizens United decision was followed by a surge in the formation of politically focused organizations seeking IRS approval as C4s. In 2012, at least $250 million passed through such groups and into efforts to elect candidates, an 80-fold increase from eight years prior.
• Hearings on the [the IRS examination of (c)(4) applications] continued intermittently for four years. The IRS ultimately spent 98,000 hours in staff time responding to the congressional investigations, according to testimony by the agency’s former commissioner, John Koskinen.
• The IRS responded by advocating a restrictive approach: C4s should be barred from any campaign-related activity. Those guidelines, released in late 2013, prompted 150,000 comments, the most public feedback in IRS history. Several Republican members of Congress circulated bills to block such a change.
• Ultimately, Congress disagreed. In December 2015, 17 lines were inserted into an 888-page appropriations bill: “None of the funds made available in this or any other Act may be used ... to issue, revise, or finalize any regulation, revenue ruling, or other guidance … to determine whether an organization is operated exclusively for the promotion of social welfare.”  Since 2015, the lines have been carried over in each new appropriations bill. They remain in effect today.

Did you catch that last bullet point?  The agency legally responsible for administering 501(c)(4), among other duties, is not allowed to spend any money . . . administering 501(c)(4)!  Brilliant.

Darryll K. Jones  

   

The Service has Commerciality and [maybe] Private Benefit Hopelessly Wrong in Panera Bread Foundation, Inc. v. Commissioner (Part II)

Yesterday, I talked about the Service's assertion that Panera Bread Foundation, Inc.'s tax exempt status should be revoked because the Foundation violates the commerciality doctrine.  The second basis for revocation, according to the Service is that Panera Bread Foundation violates the private benefit doctrine.  I probably overstated the case by asserting that the Service has the private benefit doctine "hopelessly wrong."  Its wrong on commerciality but there is a legitimate private benefit concern, even if the revocation letter cited no authorities and didn't bother to better explain the fundamental concern.  

Private benefit is one of those doctrines that is sometimes easily recognized but always difficult to define.  In other contexts, I have written that private benefit exists when an exempt organization's invariable secondary benefits are reserved for a small group of non-charitable beneficiaries.  John Colombo has written on the topic.  I think he harbors a certain disdain for the theory but in an effort to make sense out of the doctrine he asserts that when a tax exempt entity wastes -- or "fails to conserve" -- its assets (usually by paying too much or receiving too little in contracts with non-charitable vendors), private benefit exists and tax exemption is not appropriate.  I might be over-simplifying his thesis so I recommend you read his article.  Anyway, it is axiomatic that private benefit is always necessary to achieve public benefit.  Hospitals have to hire and pay doctors, Universities graduate students.  Charities exist in capital markets and they have to pay market price to profit seekers to get goods and services to charitable beneficiaries.  Even a soup kitchen has to pay rent and bills.  There is an invariable "secondary benefit" -- the phrase used in American Campaign Academy -- but when that secondary benefit is reserved or intentionally directed towards a specific non-charitable person or entity, it might be that the tax exemption is being used to fund that specific person's profit.  In those cases, it might also be safe to assume that the tax exempt entity's real purpose is therefore private benefit.

The Service cited no cases or rulings when it said that Panera Bread Foundation's purpose was to benefit Panera Bread, the for-profit entity that controlled Panera Foundation.  But the clear implication is that Panera Bread Foundation's primary purpose was to somehow benefit its for-profit fiduciaries, perhaps through the generation of goodwill and brand recognition.   Consider the facts in KJ's Fund Raisers, Inc. v. Commissioner:  

Kristine Hurd and James Gould are the sole owners of KJ's Place, a lounge where alcoholic beverages are served. The term KJ is obviously derived from the first initials of the first names of the owners, Kristine and James. In 1992, Kristine and James created petitioner, KJ's Fund Raisers, Inc. They had petitioner incorporated as a Vermont Non-Profit Corporation on October 12, 1992. They also had petitioner file a Form 1023, Application for Recognition of Exemption Under Section 501(c)(3) of the Internal Revenue Code on November 11, 1992. Petitioner's business is selling Lucky 7 or other break-open (or lottery or rip) tickets. The lottery tickets are sold exclusively at KJ's Place; no other locations were considered. The tickets are sold during regular business hours by the owners and employees of KJ's Place.  Petitioner was organized purportedly to "raise funds for distribution to charitable causes". Petitioner expects the majority of its funds to come from the sale of lottery tickets and does not plan to solicit public donations, but will accept any donations offered. There is no evidence in the record that any such donations were ever offered or received.  When petitioner was organized, Hurd and Gould were both officers and directors. She was president; he was vice president, secretary, and treasurer. The third member of the board of directors was Karen Gould, a relative of James Gould. In April 1993, petitioner replaced its board of directors. Of the three new members, two were related to Hurd or Gould. The board has been altered since then. The current board has two members unrelated to Hurd or Gould; the third is Kristine Hurd's sister. In a letter to the IRS, petitioner indicated that it would further revise its board so that none of the members were related to the officers of KJ's Place. However, that change has never been implemented.  In 1993, petitioner paid Hurd and Gould compensation of $6,000 each for bookkeeping, accounting and managerial services. Petitioner also paid $6,000 in rent to KJ's Place. The measure of compensation was determined by Hurd and Gould. On July 1, 1994, changes in Vermont's gambling laws took effect. In accordance with these changes, petitioner stopped paying rent to KJ's Place and stopped paying wages to Hurd and Gould. Currently, there are no business dealings between petitioner's directors and the owners of KJ's Place, and petitioner's books are kept separate from the accounts of KJ's Place.

So the organization operated exclusively out of the for profit bar operated by the organization's fiduciaries.  The court also suggested that the fact that the exempt organization's board members were all owners (or family members of the owners) of the for profit bar meant that the entity was not free to operate without benefiting the for-profit "parent."  KJ's Fund Raisers purchased all its inputs from the for-profit parent and fundraisers (sale of lottery tickets) were made exclusively at the bar during business hours and under circumstances when purchasers of lottery tickets were also expected to order and pay for food and libations.  In addition, all media exposure for the exempt organization was associated with the for profit bar.   So, for example, if the organization made a big to do when it made donations, the pictures of the check presentation always included a picture of the for-profit bar.  The opinion concludes:

Before July 1, 1994, Hurd and Gould received wages and KJ's Place received rent from petitioner. Although those practices ceased and are not in issue here, the current board of directors is composed of at least the majority of the same members who allowed those amounts to be paid. This strongly suggests that Hurd and Gould are free to set policy for their own benefit without objection from the board. Nothing in the record since July 1, 1994, indicates otherwise.  Petitioner also contends that KJ's Place actually lost money, since patrons preferred to buy lottery tickets rather than use their money to purchase beverages. Thus, petitioner argues, there was no actual benefit. While all facts must be accepted as true for purposes of a declaratory judgment, Rule 217, conjectural statements such as the one above are entitled to no such consideration. Petitioner has presented no evidence that KJ's Place lost money. More important, KJ's Place has benefitted from the publicity surrounding donations given by petitioner. In four of six newspaper articles or picture captions in evidence, KJ's Place is pictured or mentioned, along with Hurd or Gould, who are identified as the owners of KJ's Place rather than officers of petitioner. Petitioner argues that the clippings are not paid advertising and do not indicate the receipt of an actual benefit by KJ's Place. We find, however, that the publicity, which KJ's Place would not have received but for petitioner's exclusive association with the lounge, is a significant benefit. Moreover, the record discloses that there were other "clubs" or lounges in the area where comparable gambling took place. It is thus a fair inference that one of the real purposes of establishing petitioner in the first place was to induce customers with a proclivity for this type of gambling not to desert KJ's Place in favor of other clubs or lounges. As a result of petitioner's formation, KJ's Place, far from losing revenue, may indeed have prevented at least a portion of its business from being taken elsewhere. Petitioner engaged in the exempt activity of raising money for charitable purposes. Petitioner also operated for the substantial private benefit of KJ's Place and its owners. 

There are other cases that exemplify how an exempt organization can operate so closely with its for-profit "parent" that the organization's inevitable secondary benefit flows almost exclusively to the parent and therefore the determination that its real purpose is private benefit is not an unreasonable conclusion.  Est of Hawaii v. Commissioner is a good example but I won't prolong this post with a long discussion.  But having identified the principle, we can see the problem that Panera Foundation faces.  First, the facilities from which it operated look almost exactly like the Panera Bread stores we are all familiar with.  So Panera Foundation invariably generates good will for Panera Bread.  The menu items for Panera consisted of select items available from Panera Bread (at least according to the menu in the record).  Most of Panera Cares employees were also Panera Bread employees, though Panera Foundation listed as one of its purposes the employment and training of at-risk or disadvantaged young people.  In addition, Panera Cares' board was comprised entirely of Panera Bread folks.  This might be an indication that Panera Cares might not be so inclined to act in ways that do not benefit Panera Bread directly (rather than by association with a good cause).  Thus, there was some private benefit accruing to Panera Bread from Panera Cares' pursuit of an indisputable public good (feeding poor people).  

Still, this case seems more like "no good deed unpunished."  It just doesn't feel like KJ's Fund Raiser or Est of Hawaii.  Suppose, for example, that instead of a separate look alike facility, Panera Bread prepared menu items for delivery to tax exempt soup kitchens.  Presumably it could take a charitable contribution deduction even if it touted its good deeds far and wide.  Or suppose Panera Bread donated its menu items -- complete with packaging that said "courtesy of Panera Bread" -- to soup kitchens.  It could take a charitable contribution deduction in that case as well.  But in the spirit of social entrepreneurship, it sets up Panera Cares and does the same thing except directly rather than through a separate exempt organization.  Yes, the goodwill and brand impact is higher in the latter instance, but as long as Panera Cares is really "charitable" (I think I made the case yesterday that it is and unlike KJ's Fund Raiser and Est of Hawaii, Panera Cares lost money, indicating a donative intent), why should it be denied tax exempt status simply because of the more obvious goodwill value generated by its explicit relationship to the for profit "parent" and in the absence of any indication that the for-profit parent is financially exploiting the exempt organization.  

I suppose a prophylactic rule is easier to administer and this case certainly might be easier, as Russ Willis pointed out to me yesterday, if Panera Cares' logo and facilities did not look almost exactly like Panera Bread's logo and facilities.  But private benefit is necessary to public good; somebody has to get paid if everybody is going to get paid!  In the end, I think this case ought to be decided from a policy standpoint rather than from a strict application of the prophylactic rule.  Do we want to categorically preclude profit making restaurants from doing what Panera Bread is doing simply because Panera Bread is getting some good press from what seems like an honest effort at charity (which is more than can be said about KJ's Fund Raisers or Est of Hawaii).  Or is the goodwill accruing exclusively to Panera Bread so intolerable that we will only provide exemption when a soup kitchen has no explicit connection to a for-profit sponsor?

Darryll K. Jones

The Service has Commerciality and [maybe] Private Benefit Hopelessly Wrong in Panera Bread Foundation, Inc. v. Commissioner

Many thanks to Russ Willis and his Jack Straw Fortnightly* Newsletter for passing along the Petition for Declaratory Judgment filed in Panera Bread Foundation v. Commissioner (Docket No. 5198-19).  I really had to shake my head after reading the letter revoking Panera Bread Foundation's tax exempt status.  This is part 1 of my rant, dealing with the Commerciality doctrine.  Part 2, tomorrow will take up the private benefit argument. 

Panera Bread -- everybody knows Panera Bread -- set up a nonprofit to help fight "food insecurity" (also known as "hunger in America").  They opened fancy looking soup kitchens in apparently well kept business settings  in five different cities (Chicago, Boston, Portland, Dearborn, and Clayton Missouri).  They called the places "Panera Cares" and as the picture below indicates, Panera Cares look a lot like the Panera Bread restaurants.   The charitable catch, though, is that payment is entirely optional; not just "pay what you can" but "pay whatever you want."  People can come in and order the apparently similar quality food as is available from Panera Bread.  Payment is completely optional, just like in a soup kitchen.  I make a decent living but there is a soup kitchen near downtown Orlando [where my law school is] and if I want to eat lunch there free instead paying for lunch at my favorite fast food joint I can do so, no questions asked.  I can leave a donation if I want or I can eat and leave.  Anyway, at Panera Cares there were (the last Panera Care left closed two months ago for a variety of reasons discussed below) signs over the menu that list "suggested donations" for each item.  In 2012 60 percent of the patrons gave more than the suggested donation, 20 percent paid the suggested donation, and 20 percent paid less.  The revocation letter states that the 60 percent who paid more than the suggested donation -- the service considers the suggested donation as the actual value of the meal -- "are not [emphasis in the original] informed" of the deductible amount, nevermind that a written acknowledgment is required only for donations of $250 or more. 

In a letter dated December 20, 2018, the Service revoked Panera Cares' exempt status (granted in 2012, though the 1023 did not describe Panera Cares; it merely described a program to fight hunger in America):

You are not operated for charitable or other exempt purposes, as required by section 501(c)(3).   Your primary activity was operating community cafes located in former for-profit restaurant locations, and where most individuals had the financial means to pay for the retail cost or greater of the items provided.  Providing food and drink to the members of the general public absent a showing of need is not a charitable purpose under section 501(c)(3).  In addition, operating a restaurant open to the general public during commercial business hours and accepting retail cost or greater in payments from individuals receiving the food items indicates a substantial non-exempt commercial purpose.  Also, this activity was funded primarily through support by a related for-profit entity and through the operation of cafes similar in appearance and operation to the related for-profit, rather than through donations or other support indicating community oversight from the general public, further showing that the operations of the cafes were for substantial non-exempt private rather than public purposes.  

There is a lot to unpack but the reasons seem to boil down to the following:  (1) Panera Cares feeds anybody without regard to ability to pay, a fact which necessarily means that some people who have the ability to pay will not be turned away, (2) Panera Cares will accept voluntary payments -- i.e. donations -- from anybody willing though not required to pay for the food, (3) Panera Bread, a for profit, controls Panera Cares and is Panera Care's primary source of funds besides the voluntary payments  (4) Panera Cares facilities look an awful lot like Panera Bread facilities and indeed the menus are similar.  In its extended analysis (Form 886-A), (you can download the entire file including the unredacted letter ruling and the Form 886-A here: Download Panera petition) the Service also thought it important that the the Panera Cares' cafes were located in affluent locations, presumably out of the way of the poor people who would most benefit from the free food.  Funny thing, I don't ever remember seeing an exempt Museum of Art in "the hood" but maybe that's just me.  But what bothers me most about the analysis is that it seems to be a conclusion in search of precedent.  Here are the cases and rulings cited in support of the conclusion that Panera Cares violates the "commerciality doctrine."

1. Revenue Ruling 72-369 which involved a managerial consulting firm that served only charitable organizations for a fee, admittedly set at cost, but a required fee nevertheless.
2. BSW Group v. Commissioner which involved an consulting organization that provided services to other nonprofits "in the area of rural-related policy and program development" for a required fee.
3. Airlie Foundation v. Internal Revenue Service which involved an owner of a conference center rented out to exempt and non-exempt organizations for a fee.
4. Amerian Instittue for Economic Research v. U.S.  involving a publishing company that sold subscriptions to educational periodicals as well as consulting services.  
5. United States v. American Bar Endowment involving the ABA's sale of insurance to ABA members.  

All of these cases strike me as both inapposite and irrelevant, mostly because each of the cases involved organizations that required payment and have nothing whatsoever to do with feeding poor people.  Not only that, prices were set at or above cost.  More appropriate cases -- cases that support the petitioner, in fact -- include Federation Pharmacy Services v. Commissioner ("An organization which does not extend some of its benefits to individuals financially unable to make the required payments reflects a commercial activity rather than a charitable one.")  By the way, the Court in Federation noted that the organization in BSW  violated the commerciality doctrine because it charge a [required] fee.  The Service should also look at Presbyterian and Reformed Publishing Co. v. Commissioner which sold subscriptions for a [required] fee, which, in the aggregate, allowed the organization to accumulate large profits, and Living Faith Inc. v. Commissioner which operated vegetarian restaurants and health food stores in which goods and services were sold for [required] retail prices.  But here is the kicker for the commerciality doctrine:  

When undertaking [the commerciality] inquiry, we look to various objective indicia. The particular manner in which an organization's activities are conducted, the commercial hue of those activities, competition with commercial firms, and the existence and amount of annual or accumulated profits, are all relevant evidence in determining whether an organization has a substantial nonexempt purpose. See B.S.W. Group, 70 T.C. at 357; United Missionary Aviation, Inc., 60 T.C.M. (CCH) at 1156-57. Living Faith argues that the Tax Court unduly relied on such factors, however, and inordinately emphasized the nature of its activities. Living Faith maintains that "great weight [should] be given to the assertions of religious purpose made in good faith on behalf of the organization." Appellant's Br. at 26. In this regard, it asserts that good health is an especially important component of the Seventh-day Adventist Church, and that its Country Life operations further this religious purpose . . . It is significant that Living Faith is in direct competition with other restaurants. "Competition with commercial firms is strong evidence of the predominance of non-exempt commercial purposes." B.S.W. Group, 70 T.C. at 358; see Incorporated Trustees of Gospel Worker Soc. v. United States, Dep't of Treas., 510 F. Supp. 374, 379 (D.D.C.), aff'd without op., 672 F.2d 894 (D.C. Cir. 1981), cert. denied, 456 U.S. 944, 102 S. Ct. 2010, 72 L. Ed. 2d 467 (1982). Living Faith has failed to demonstrate that its business, which operates in a shopping center, does not compete with other restaurants and food stores. Living Faith's prices, for example, are set "competitively with area businesses," using pricing formulas common in the retail food business. This lack of below-cost pricing militates against granting an exemption. See Federation Pharmacy, 625 F.2d at 807; Senior Citizens Stores, 602 F.2d at 714; B.S.W. Group, 70 T.C. at 359-60. Indeed, the profit-making price structure looms large in our analysis of its purposes. See Easter House v. United States, 12 Cl.Ct. 476, 486 (1987). [emphasis added]

Other indicia of commerciality include the manner of advertising, the way in which customers are pursued, and other indicators that an organization looks just like a for profit counterpart.  Consider this excerpt from an article describing a typical day at Panera Cares:

Customer complaints were another unexpected issue. Former Panera Cares employee Sharon Davis told Planet Money that a customer once complained about the homeless customers who frequented the location. “She comes up and goes, ‘Oh my god, these people stink. I can’t stand eating like this,’” she said, “And I said, ‘Well, I’m really sorry, but they are entitled to a meal.’”  Panera employees similarly found themselves dealing with issues they weren’t qualified to handle, like mental health issues and drug use in the cafe’s bathrooms, according to the Planet Money interview. Davis, the former Panera Cares employee, told Planet Money that she and her coworkers often served as de facto social workers as well and would refer customers to shelters and rehabilitation centers.

Try going to the Olive Garden smelling like you slept in a dumpster or arguing with someone nobody else sees and see if you get seated.  Yet Panera Cares catered to folks just like that and even defended the need to do so.  And heaven forbid a mentally ill person is allowed to sit down and eat like a normal person for a few minutes.  That's not charity simply because they might be seated next to a clean smelling sane person?  Does any of this sound like sound business practices that comprise a "commercial hue"?  Just which other eatery was Panera Cares competing with?

It seems the Service is just not pleased that Panera Cares stores were located in "affluent" downtown areas (an assertion that Panera Foundation disputes, by the way), rather than in the hood and that the stores were not unattractive to regular folk the way a traditional soup kitchen might be unattractive to people who can afford to buy their own food (because of the presence of those pesky smelly people who might also ask for "spare change").  Still, the biggest fact remains that the food was "free" and the people who paid were necessarily making a donation.  Whether the receipt of something in return denies or reduces their charitable contribution deduction is wholly besides the point.  It might be a good policy that tax exemption be reserved only for organizations that exclusively serve the poor, but that is just not the law.  Sheeesh!

The Service didn't cite any cases supporting its finding that Panera Cares violates the private benefit doctrine but that seems a much closer question.  See, e.g., KJ's Fund Raisers, Inc. v. Commissioner, Western Catholic Church v. Commissioner, and est of Hawaii v. Commissioner.  I'll talk about those cases and how they might give Panera Cares some problems tomorrow.  

Darryll K. Jones

 

Do highly publicized scandals involving tax exempt organizations prove a systemic problem?

Forbes Magazine recently published an op/ed by Howard Gleckman, a Senior Fellow at the Tax Policy Center. Here is what he thinks about the recent spate of bad press for charities:

In recent weeks, we’ve seen four different stories that raise questions about the state of tax-exempt organizations. They make me question the ability of the IRS to manage Section 501(c) of the tax code or even whether the special privileges of tax-exemption are worth keeping—at least as currently designed.

• • A consultant uses tax-deductible contributions to bribe college officials to enroll his client’s children into prestige schools.
  • An advocacy group uses its non-profit status to collect tax-deductible contributions to engage in what, for all the world, looks like lobbying.
  • As college basketball’s Final Four reminds us, many of those universities—themselves tax-exempt-- are in the highly profitable business of providing televised entertainment as well as fodder for gamblers.
  • A self-described church may be using its status to protect exclusionary practices that would be illegal in a secular organization or for-profit business.

The author speculates on some of the underlying problems allowing the problems he identifies and concludes:

One last issue to consider: The 2017 Tax Cuts and Jobs Act may have fundamentally changed the calculus of 501(c)(3) status. Because the law significantly expanded the standard deduction and limited the state and local tax (SALT) deduction, it largely turned the tax-deduction for charitable giving into a benefit for a relatively small number of mostly high-income households. According to Tax Policy Center estimates, the law cut the number of those itemizing their charitable contributions by more than half, to about 16 million. The share of middle-income households claiming the charitable deduction fell by two-thirds, from about 17 percent in 2017 to just 5.5 percent in 2018.

What can policymakers do about all this? They could give the IRS more resources to police the tax-exempt sector. They could proscribe how tax-exempt funds are used by, for instance, limiting the amount that goes to athletic department salaries. Or they could limit tax-exempt status to public charities only. But one thing is clear; The current model is not working.

Is the charitable sky falling?  Maybe we should remember that there are at least 1.5 million charities recognized by the IRS and only a relatively few are engaged in scandalous behavior.  

Darryll K. Jones

21st Century "Private Inurement, Per se." The Case of Charity Global, Inc (dba "Charity: Water")

There is an interesting article in yesterday's New York Times regarding a "Charity Global, Inc," a charitable organization with about $70 million in net assets and which spends about half of that  bringing clean water and healthy sanitation services to many of the nearly 700 million people around the world who live in water impoverished and sanitation distressed areas.  The organization has helped bring clean water and healthy sanitation facilities to people in places like Ethiopia, Mali, and Rwanda.  From the looks of its annual report and its 990's, this is a legitimate, indeed laudable organization that is making a real impact around the world.  What caught my attention, though, is the article's description of the organization's compensation structure.  Incidentally, the organization's 2017 Form 990 indicates that the founder and CEO, Scott Harrison, makes about $330,000 a year which doesn't seem like too much given its budget and its worldwide mission.  The lowest paid "highest compensated employees" made about $120,000.  But the article describes how the founder wants to bring modern business practices to the world of charity.  In particular, according to the article, he wants to allow charitable workers to share in the "monetary upside" of charitable activities.  Here is the initial somewhat startling hook from the article:

Last year, the founder of a charity that is focused on making sure everyone on earth has clean water and a co-founder of an e-commerce mattress company met for lunch at a SoHo restaurant. As the two ate, the talk inevitably turned to start-ups.  “How come at a start-up you can participate in the equity upside?” Neil Parikh, the co-founder of the mattress company, Casper, said in recalling the conversation with Scott Harrison, the founder of Charity: water. “But at a charity, you’re helping all these people, and you can’t participate in the monetary upside?”  It was a quandary that Mr. Harrison, who has forged close ties with the Silicon Valley elite over the years, had been mulling for some time. Now he is doing something about it. Under a new program, start-up founders will be able to share their wealth not just with impoverished families in the developing world but also with a rather more comfortable demographic — Charity: water employees.  Here’s how it works: Entrepreneurs who own sizable stakes in private companies can donate some of their equity to Charity: water. When their company goes public or is sold, some of the proceeds will be paid out as bonuses to Mr. Harrison’s staff. [emphasis added]

The "monetary upside."  I swear, young entrepreneurs are sometime better at coining phrases than rappers.  Anyway, another tidbit from the organization's 990 shows that its Secretary/General Counsel's compensation is about $75,000.  He might want to start earning that pay, first, by advising the founder to be a little more circumspect in his conversations about employees of a charity participating in the charity's "monetary upside."  After the gag order, the General Counsel should start by taking a look at General Counsel Memorandum 39862 where the Service kicked around the idea of "private inurement, per se."  Here is the very short version summary:  Back in the late 80's and early 90's exempt hospitals, desperately competing for paying patients, whose fees helped subsidize the cost of medical research and charity care, entered into agreements with physician practice groups.  The practice groups, of course, provided the medical services essential to the hospital.  The compensation paid to the physician practice groups were, at least in part, directly tied to the amount of revenue those physicians generated.  Remember, 501(c)(3) requires that "no part of the net earnings" inure to the benefit of an insider.  And "revenue sharing" as revenue determined compensation schemes are called, are immediately suspect because, well, part of the net earnings are inuring under those plans.  At least as a very literal matter.  On the other hand, a charity needs workers and workers are compensated from "revenues."  Compensation from gross revenue is ok if the compensation is really compensation and not a disguised distribution of net revenue.   In other words the compensation must be "reasonable," a fact more easily perceived than defined.  Anyway, the Service has never been quite comfortable with revenue sharing.  When, in 1996, the private inurement prohibition was upgraded in to the "excess benefit prohibition" in an attempt to quantify the concept of private inurement, the Congress punted on the question whether revenue sharing was a "per se" violation of the prohibition against private inurement:

(4) Authority to include certain other private inurement

To the extent provided in regulations prescribed by the Secretary, the term “excess benefit transaction” includes any transaction in which the amount of any economic benefit provided to or for the use of a disqualified person is determined in whole or in part by the revenues of 1 or more activities of the organization but only if such transaction results in inurement not permitted under paragraph (3) or (4) of section 501(c), as the case may be. In the case of any such transaction, the excess benefit shall be the amount of the inurement not so permitted.

Treasury issued final regulations implementing the excess benefit legislation but didn't exactly decide the question.  It clearly considered the question because Regulation 53.4958-5 entitled "Transaction in which the amount of economic benefit is determined in whole or in part by the revenues of one or more activities of the organization" contains only the word "Reserved."  Still, knowing what we know about the defining characteristic, according to Hansmann, of tax exempt charities, we might issue a per curiam rejection of any charitable compensation structure explicitly designed to allow charitable employees to "participate in the monetary upside" from charitable activities.  It just seems too obviously violative of Hansmann's "nondistribution constraint."  The "monetary upside," since we are using big fancy words, is the raison d'etre of taxable, for profit entitites!  Undaunted, Mr. Harrison explains it this way:

But earmarking sizable donations to pay bonuses to a charity’s employees is unconventional to say the least, and could elicit backlash within the philanthropic community. “It’s very strategic to structure gifts in this way,” said Darren Walker, president of the Ford Foundation. “But the issue of enriching employees of the charity is potentially problematic.”Mr. Harrison, who is also Charity: water’s chief executive, said the new program was a natural extension of his efforts to recruit employees who might otherwise take jobs at Facebook, Google or Amazon.  “We want to attract the best possible talent,” he said in an interview at the organization’s TriBeCa headquarters, which WeWork helped design. “But how do we compete with massages and Michelin stars?” If working for a good cause isn’t enough, now Charity: water employees can have some Uber stock, too. “They’re making below-market salaries,” said Mr. Parikh, who has pledged 1 percent of his equity to the program. “In this tech boom, where a lot of their friends are participating in these I.P.O.s, why should they get left behind? It’s a win-win.”

So let's just make sure we understand this.  Attracting the best and brightest to altruistic endeavors but incentivizing them to do good work with a share of the charity's "monetary upside" is that what you are saying?  Yes?  Ok so owners of start-up equity in companies like Uber, WeWrok and Casper with market value upwards of $50 million have pledged up to 1 percent of their equity to Charity: Water as charitable contributions.  When those companies go public, the charity cashes in (big time, no doubt) on the one percent pledge of equity and distributes up to 20% of the [ahem] "monetary upside" to the employees, including the CEO no doubt.  

Yeeaaaaaaa -- No!  If that ain't private inurement, per se there is no such thing. 

Darryll K. Jones  

Much Ado About Parking

On March 27, a House Ways and Means Committee hearing on “The 2017 Tax Law and Who it Left Behind” covered a wide range of TCJA-related topics, specifically including the new UBIT rules on transportation fringe benefits.   By way of background, Section 274(a)(4) now disallows for-profit employers a deduction for any qualified transportation fringe (as defined in section 132(f)) provided to an employee.   Of course, the loss of a deduction will not affect a nonprofit employer, so the TCJA also added new code Section 512(a)(7), which provides that the

[u]nrelated business taxable income of an organization shall be increased by any amount for which a deduction is not allowable under this chapter by reason of section 274 and which is paid or incurred by such organization for any qualified transportation fringe (as defined in section 132(f)), any parking facility used in connection with qualified parking (as defined in section 132(f)(5)(C)), or any on-premises athletic facility (as defined in section 132(j)(4)(B)). 

This article by the Nonprofit Times regarding the portions of the TCJA hearing that dicsussed parking highlights a quote by Representative Tom Suozzi:

'...If you are a religious institution, you’re a church, a synagogue, or you’re a mosque, and you give parking permits to your employees, or if you give them transportation allowances, they have to pay taxes on it now,' he said. 'And not just the cost of the taxes, now you have to hire an accountant who will help you fill out tax forms.'

It is probably just me, but I’m not about to get the vapors over the fact that an institution that is large enough to own offer parking benefits has to get an accountant. I’m also somewhat nonplussed about the realization that churches are in fact, charities, and are subject to … rules.  Be that as it may, the expansive scope of Section 512(a)(7) does seem harsh, as the rule disallows the costs of the parking facility itself, not just the fair market value of the benefit provided to the employee.  IRS Notice 2018-89 sets out some guidance on the matter, but it does get rather complicated for those entities that own and operate parking facilities, rather than simply provide a parking allowance to their employees.   I do suspect that many institutions will simply opt to treat their employee parking as compensation, and thereby bypass the UBIT issue.   

According to the same article, at least three bills are pending to repeal the UBIT tax on parking and there appears to be bipartisan support, so it may be that this blows over sooner than it takes to find street parking in downtown Manhattan.

EWW

Proposal to Yank NCAA Tax Exempt Status (with a sure-fire escape hatch for the NCAA) Avoids the Real Issue

Well, March Madness has come and gone.  The intoxicating aura of victory is no doubt still wafting -- like cannibis in the hallways of many a college dormitory -- over the UVA campus.  And the annual protestations regarding the NCAA's tax exempt status will fade again until the College football season returns.  According to In Re:  National Collegiate Athletic Association Athletic Grant-In-Aid Cap Antitrust Litigation, a case handed down last month in which a district court judge all but concluded that there is nothing "amatuer" about D-1 basketball and football, the NCAA rakes in $1,000,000,000 (that's one billion dollars) every year.  Coaches are paid handsomely, Nike, Adidas, Coke and Pepsi make gazillions from their "sponsorship" and exclusive pouring agreements, but the athletes get nothing other than preferential admission and the cost of attendance.  Granted, admission  -- which might otherwise be completely out of the question for some (but not all) the athletes -- is apparently worth a whole lot of money judging by the  Varsity Blues scandal.  But that is not how markets work.  The people exploiting another's skilled or unskilled labor don't get to unilaterally decide that the laborer is paid enough and shall receive no more.  That's more like slavery than capitalism.  No, markets work by arm's length bargaining where each party -- especially the party in possession of rare skill -- is entitled to demand as much as the law of supply and demand will tolerate.  

Anyway, before I put down my NCAA indignation, at least until college football season arrives, I thought I would share one more tidbit related to the cartel's tax exempt status.  A few weeks ago, Tarheel (i.e., North Carolina) Representative Mark Walker introduced a bill in Congress that would require the NCAA to revoke its rule preventing athletes from exploiting their "name, image or likeness (NIL)" or lose its tax exempt status.  Here is the text:

H.R. 1804

"To amend the Internal Revenue Code of 1986 to prohibit qualified amateur sports organizations from prohibiting or substantially restricting the use of an athletes name, image, or likeness, and for other purposes.

Be it enacted by the Senate and House of Representatives of the United States of America in Congress assembled,

SECTION 1. SHORT TITLE.

This Act may be cited as the “Student-Athlete Equity Act”.

SEC. 2. MODIFICATION TO DEFINITION OF QUALIFIED AMATEUR SPORTS ORGANIZATIONS.

(a) In General.—Section 501(j)(2) of the Internal Revenue Code of 1986 is amended by adding after the period at the end the following: “Such term does not include an organization that substantially restricts a student athlete from using, or being reasonably compensated for the third party use of, the name, image, or likeness of such student athlete.”.

(b) Effective Date.—The amendments made by this section shall apply to taxable years beginning after the date of the enactment of this Act."

 

So the bill would make the NCAA allow student athletes to get paid when EASports and Madden Football use a student athlete's likeness.  Seems like a drop in the bucket as far as the athletes are concerned.  The bill was filed only about a week after the NCAA's latest antitrust loss in court so somebody on Representative Walker's staff must be a tax or antitrust geek.  Or maybe he is none to happy that Carolina didn't make it to the final four after beating the Zion-less Blue Devils two times during the regular season.  I have no idea whether this bill will pass or not.  But even if it does, the bill does not really address the real issue regarding whether the subsidy of tax exemption is something without which the supply of college athletics would dry up.  When the Intercollegiate Athletic Association (the IAA) -- the predecessor to the NCAA -- first organized in 1905, there was no doubt an insufficient market to sustain college athletes.  And yet athletic competition is an undeniable "public good" to be efficiently subsidized if it were not to occur in the absence of public subsidy.  Clearly times have changed.  The rest of us are willingly and in absurd amounts paying handsomely to watch D-1 football and basketball.  You ever try to get a ticket to a Final Four basketball or a College Football national championship game?  And what's the going rate for a minute of advertising time during one of broadcasts on even the least watched channel?  In any event, if the bill made it to law, the NCAA would be crazy to give up tax exempt status on an annual one billion dollars in revenue just to prevent a small percentage of their D-1 athletes from demanding market rates for their services (or in this case, the exploitation of their name, image, or likeness, the value of which derives from their rare skill).   It is certain the cartel would not think paying students for the use of their NIL is such a bad idea.  So the bill might resolve the exploitation issue insofar as intellectual property rights are concerned but it would make no repair to the tattered holes in the socio-economic theory that justifies tax exemption.  The NCAA's tax exempt status, particularly during March Madness and the College Football bowl season, is a semi-annual reminder that tax exempt status is unmoored from any real logic or theory.  

Darryll K. Jones

 

 

 

 

Varsity Blues and the Anatomy of a Charitable Money Laundering Scheme

I have often wondered, but have not had time to find out exactly what constitutes "money laundering."  From watching TV crime shows, I know it involves somehow disguising the source of ill-gotten gain by making it seem as though that gain was had through a legitimate business.  Back when the Sopranos was all the rage, I suppose Tony Soprana used his strip club or his "shipping business" to cleanse or launder the criminal element from his bribery and racketeering profits.  Still, the concept was murky to me.  Now, with the "second superseding indictment" in the Varsity Blues scandal, I now have a little better idea.  The indictment also sheds some light on the question we posed here and here, regarding whether the IRS was ever tipped off enough to look into the bogus charity -- The Key World Foundation -- and determine whether it should have been denied exemption in the first place (or at least had its exemption revoked at some point). According to to paragraphs 294 and 319 of the indictment, the Service began an audit of the Foundation as early as October 2018.  

The gist of the money laundering allegation is that parents made fake "charitable contributions" to the foundation, ostensibly to help "underprivileged children" but actually as payment in exchange for somebody helping them cheat on the ACT or SAT, or to bribe athletic coaches and officials at the "highly selective" universities to which the parents (and/or their children) aspired.  The charity substantiated the "contribution" by issuing letters attesting that "no property or services" were given in exchange for the "contribution."  In the picture to the left, the fake charity would fit right after after the guy on the cell phone and right before the bank.  I suppose there was no "private inurement" or "excess benefit" as a result of the payment to the charity, even if the payments eventually ended up in Mr. Singer's (the overall mastermind) pockets.  Or am I wrong.  I mean, if there really wasn't a charity, can there be a private inurement or excess benefit transaction.  The question is relevant because if Mr. Singer got friends to serve on his faux charity's board, suddenly those board members might be liable for a whopping amount of excise taxes for their participation in excess benefit transactions.  The charitable money laundering scheme is described in paragraphs 271 through 321, which are set out below the fold.  

Darryll K. Jones

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Nonprofit Law Prof Blog Co-Founder and Co-Editor Named Prestigious ACE Fellow

                                                                                                                                                                                                                    

David A. Brennen, dean of the College of Law at the University of Kentucky, has been selected to participate in the American Council on Education's (ACE) Fellows Program, the longest running leadership development program in the United States. Brennen is one of 39 emerging college and university leaders chosen for the 2019-20 class of ACE Fellows.  Brennen joined the UK faculty in 2009. Along with more than 20 years of experience in the classroom, he is regarded as an innovator in the field of nonprofit law as it relates to taxation. Brennen is a co-founder and co-editor of Nonprofit Law Prof Blog, founding editor of Nonprofit and Philanthropy Law Abstracts, co-founder of the Association of American Law Schools Section on Nonprofit and Philanthropy Law and a co-author of one of the first law school casebooks on taxation of nonprofit organizations.

In 1988, ​Brennen received his bachelor’s degree in finance from Florida Atlantic University and received his law degree from the University of Florida College of Law in 1991. In 2002, he was elected to the American Law Institute where he is an adviser on its project titled, “Principles of the Law of Nonprofit Organizations.” Brennen has also served in leadership roles with the Society of American Law Teachers and the American Bar Association’s Section of Legal Education.

Brennen is looking forward to this new opportunity. "As a scholar of nonprofit organizations, I have a long-standing interest in the inner workings of mission-driven organizations. After years of serving in leadership roles for such entities, including the privilege to serve 10 years as dean at UK College of Law, I look forward to participating in the ACE Fellows Program to learn more about improving institutional effectiveness as a leader in this area," he said. "I am particularly interested in focusing on leadership challenges in higher education so that I can better serve as a student-centered leader who contributes to maximizing opportunities for creativity, innovation and access.”

Established in 1965, the ACE Fellows Program is designed to strengthen institutions and leadership in American higher education by identifying and preparing faculty and staff for senior positions in college and university administration through its distinctive and intensive nominator-driven, cohort-based mentorship model. More than 2,000 higher education leaders have participated in the ACE Fellows Program over the past five decades, with more than 80 percent of fellows having gone on to serve as senior leaders of colleges and universities.

“The ACE Fellows Program epitomizes ACE’s goal of enriching the capacity of leaders to innovate and adapt, and it fuels the expansion of a talented and diverse higher education leadership pipeline,” Ted Mitchell, ACE president, said. “Each year, I am impressed by how many former fellows are named to prominent leadership roles, which makes it even more exciting to meet each new cohort. I’m left wondering, ‘Where will these fellows end up?’”

The program combines retreats, interactive learning opportunities, visits to campuses and other higher education-related organizations, and placement at another higher education institution to condense years of on-the-job experience and skills development into a single year.

During the placement, fellows observe and work with the president and other senior officers at their host institution, attend decision-making meetings, and focus on issues of interest. Fellows also conduct projects of pressing concern for their home institution and seek to implement their findings upon completion of the fellowship placement.

At the conclusion of the fellowship year, fellows return to their home institution with new knowledge and skills that contribute to capacity-building efforts, along with a network of peers across the country and abroad.

For more information on the ACE Fellows Program, please click here.

 

Darryll K. Jones

 

March Madness: Tax Edition

The Center for Public Integrity recently posted, "The Trump Tax Law Has Its Own March Madness" on its website.   The article highlights many of the issues with the TCJA that we have previously discussed on this blog, but specifically puts the new excessive compensation excise tax square in the context of the NCAA Men's Basketball Tournament:

The coaches who made the final four are being paid the following this year by their universities:  Tom Izzo, Michigan State University, $3.7 million; Tony Bennett, the University of Virginia, nearly $3.2 million; Chris Beard, Texas Tech University, $2.8 million; Bruce Pearl, Auburn University, $2.6 million. John Calipari, whose Kentucky team also made the Elite Eight, earned compensation of nearly $8 million in 2018-2019.

The Article goes on to highlight the fact that these coaches may all be treated differently despite having similar salaries.   Because some of the coaches work at public universities, they may escape the excise tax due to the drafting issue identified by Ellen Aprill previously (and discussed on this blog here), who is quoted in the article.   In addition, John Calipari particularly receives significant third party revenue that may or may not be captured by the controlled organization rules.   

EWW

 

DOJ Settles False Claims (and Private Benefit) Suit Against Big Pharma's Use of Charities to Disguise Illegal Medicare and ChampVA copays.

A DOJ Press Release describes a private benefit violation:

 

The Department of Justice today announced that three pharmaceutical companies – Jazz Pharmaceuticals plc (Jazz), Lundbeck LLC (Lundbeck), and Alexion Pharmaceuticals Inc. (Alexion) – have agreed to pay a total of $122.6 million to resolve allegations that they each violated the False Claims Act by illegally paying the Medicare or Civilian Health and Medical Program (ChampVA) copays for their own products, through purportedly independent foundations that the companies used as mere conduits.

When a Medicare beneficiary obtains a prescription drug covered by Medicare, the beneficiary may be required to make a partial payment, which may take the form of a copayment, coinsurance, or a deductible (collectively “copays”). Similarly, under ChampVA, patients may be required to pay a copay for medications.  Congress included copay requirements in the Medicare program, in part, to serve as a check on health care costs, including the prices that pharmaceutical manufacturers can demand for their drugs. The Anti-Kickback Statute prohibits a pharmaceutical company from offering or paying, directly or indirectly, any remuneration — which includes money or any other thing of value — to induce Medicare or ChampVA patients to purchase the company’s drugs. This prohibition extends to the payment of patients’ copay obligations. 

“Pharmaceutical companies undercut a key safeguard against rising drug costs when they create assistance funds to serve as conduits for the companies to subsidize the copays of their own drugs,” said Assistant Attorney General Jody Hunt of the Department of Justice’s Civil Division. “These enforcement actions make clear that the government will hold accountable drug companies that directly or indirectly pay illegal kickbacks.”  

“We are committed to ensuring that pharmaceutical companies do not use third-party foundations to pay kickbacks masking the high prices those companies charge for their drugs,” said U.S. Attorney Andrew E. Lelling. “This misconduct is widespread, and enforcement will continue until pharmaceutical companies stop circumventing the anti-kickback laws to artificially bolster high drug prices, all at the expense of American taxpayers.”

Jazz and Lundbeck each entered five-year corporate integrity agreements (CIAs) with OIG as part of their respective settlements. The CIAs require the companies to implement measures, controls, and monitoring designed to promote independence from any patient assistance programs to which they donate. In addition, the companies agreed to implement risk assessment programs and to obtain compliance-related certifications from company executives and Board members.

“These kickback schemes harm Medicare and the public,” said Gregory E. Demske, Chief Counsel to the Inspector General. “OIG CIAs, such as those with Jazz and Lundbeck, are designed to reduce future risks to patients and taxpayer-funded programs. OIG decided not to require a CIA with Alexion because it made sweeping and fundamental organizational changes following the bad conduct. The changes included hiring a new eight-member executive leadership team and changing half of the members of its Board of Directors. In addition, 40 percent of Alexion’s employees are new and the company relocated its corporate headquarters.”

“These settlements demonstrate the FBI’s commitment to safeguard the Medicare program and ensure that patients receive treatment solely based on their medical needs,” said Joseph R. Bonavolonta, Special Agent in Charge of the Federal Bureau of Investigation, Boston Field Division. “Not only did these companies undermine a program that was set up to assist patients in decreasing the cost of their drugs, but they threatened the financial integrity of the Medicare program to which we all contribute and on which we all depend.”

“Kickback schemes undermine the integrity our nation’s healthcare system, including healthcare benefits administered by the U.S. Department of Veterans Affairs,” said Special Agent-in-Charge Sean Smith, VA Office of Inspector General, Northeast Field Office. “The VA Office of Inspector General, along with our law enforcement partners, will continue to aggressively pursue these investigations and exhaust all efforts to uncover these schemes.”

 

Darryll K. Jones

Southern Poverty Law Center, Long Time Tax Exempt Public Interest Law Firm, Under Coordinated Attack

Tucker Carlson’s Daily Caller, along with several other right leaning media outlets smell blood in the water in the wake of the leadership shake-up at the Southern Poverty Law Center.  SPLC is a tax-exempt law firm made famous by its lawsuits against the Ku Klux Klan and its maintenance of a master list of groups SPLC considers purveyors of hate.  As detailed in several articles, such as this one, SPLC fired co-founder Morris Dees for unspecified workplace violations deemed contrary to the SPLC “values.”  Shortly after doing so, SPLC’s president resigned, as did its “longtime legal director.”  Several media outlets, associated with both sides of the political spectrum, have speculated that Dees’ misconduct involved “his behavior toward women and his comments regarding race.”  But its mostly those on the right who assert that SPLC is seeking to suppress speech by its labeling of certain associations as hate groups.  Some, like this plaintiff, argue that SPLC is engaging in defamatory behavior and are pressing the Internal Revenue Service to yank SPLC’s tax exempt status.  That effort may have received a boost when Arkansas Republican Senator Tom Cotton sent a letter to the Service arguing that SPLC lacks a tax-exempt purpose but instead continues to “engage in systematic defamation.”

“The SPLC defames other organizations in several ways.  Each year, the SPLC publishes a so-called “hate map,” which ostensibly identifies hate groups such as the Ku Klux Klan and the Nation of Islam.  But under the guise of its “hate map,” the SPLC also lists its mainstream political opponents and faith-based groups, including reputable organizations such as the Family Research Council, the Alliance Defending Freedom, and the Center for Immigration Studies. The SPLC also defames individuals.  It labeled the civil-rights activist Ayaan Hirsi Ali and the British political activist Maajid Nawaz as “anti-Muslim extremists.”  Last June, the SPLC agreed to pay Nawaz – who is himself Muslim -- $3.375 million following a defamation lawsuit.

Senator Cotton’s letter goes on to accuse SPLC of allowing private inurement and “inexplicably” parking assets in offshore accounts.    

For longstanding guidance on tax exempt law firms, see Revenue Procedure 92-59. 

Darryll K. Jones

ARNOVA Conference Proposal Deadline: April 9

It's not too late for ARNOVA members to submit a proposal for the annual November conference, taking place in San Diego this year. (Member deadline is April 9). The conference theme this year is Nonprofits and Philanthropy in a Polarized World: Speaking Truth to Power and Using Power to Speak Truth. It's always an interesting, interdisciplinary conversation. Hope to see you in San Diego. https://www.arnova.org/page/upcomingconferences