Wednesday, August 2, 2023
Fraudsters have apparently flocked to take advantage of the heightened political divides in our country. Besides the extensive N.Y. Times coverage earlier this year of one set of questionable PACs, we have previously reported on the indictment and later sentencing of three individuals who raised approximately $4 million for two PACs - one conservative and one progressive - to enrich themselves. We also noted that some of the accusations swirling around Representative George Santos might indicate problematic PAC finances, and that ProPublica and Politico had reported on these developments as early as 2019.
The latest news along these lines is out of Wisconsin, where the U.S. Attorney's Office for the Eastern District of Wisconsin announced that two North Carolina lawyers had plead guilty to operating a scam PAC to the tune of more than $1.6 million. The case is in Wisconsin because the PAC purported to raise money to draft Milwaukee County Sheriff David Clarke to run for U.S. Senate, while actually spending the money on more fundraising to benefit the two organizers. To Sheriff Clarke's credit, he himself denounced the PAC as a scam after he decided he would not run for Senate.
Tuesday, August 1, 2023
There are three recent instances of charity fraud that attracted federal criminal prosecution interest, including a jury conviction of an individual for making a false statement in an exemption application, the sentencing of an individual for stealing of over $1 million from two purported charities he created, and the indictment of an individual for allegedly helping rich clients save $35 million in taxes using phony donations to charities.
The U.S. Attorney's Office for the Northern District of Ohio reported that a federal jury convicted an individual of conspiracy, healthcare fraud, and most notably for purposes of this blog, making a false statement on an application for charitable tax-exempt status. The purported charity that was the subject of the application was supposedly created to receive donations from the public but instead was used to receive proceeds from the multi-million dollar prescription fraud engaged in by the convicted individual. The purported charity also apparently engaged in in little to no charitable activity but instead purchased gold and silver in the name of the individual.
The U.S. Attorney's Office for the Middle District of Alabama reported that a court sentenced an individual to 30 months in federal prison for tax evasion, mail fraud, and drug conspiracy charges, plus three years supervised release and a restitution payment to the IRS of $376,720. The individual founded two purported charities, solicited over $1.3 million in donations to them over multiple years, and then withdrew those funds for his own personal benefit without reporting those funds as taxable income on his own returns. He also provided false information to the tax preparer who prepared the returns for the purported charities, causing the preparer to vastly understate their income.
Finally, the Miami Herald reports that the Department of Justice has indicted an individual who allegedly marketed the "Ultimate Tax Plan" to high-income clients. The plan involved those clients taking deductions for purported charitable contributions to several charities with ties to the individual that allowed the clients to maintain control over the donated assets. This included the clients receiving tax-free loans and, after three years, buying back the donated property at significantly discounted prices. The Department of Justice press release notes the indictment has 34 counts, and further notes that the individual had previously been enjoined from promoting the Ultimate Tax Plan.
First, the Tax Year 2019 Form 990 aggregate data is now available at the IRS Statistics of Income Tax Stats - Charities & Other Tax-Exempt Organizations Statistics webpage. Highlights include:
- 218,516 Form 990 returns were filed by section 501(c)(3) organizations, reporting estimated total assets of over $4.7 trillion, total liabilities of over $1.8 trillion, total revenue of over $2.4 trillion, and total expenses of almost $2.3 trillion. But only slightly under 9,000 of those returns were for organizations reporting $50 million or more in assets.
- The number of Form 990 returns (and aggregate financial figures) were much less for other major 501(c) categories, with 11,639 returns for 501(c)(4)s, 10,085 returns for 501(c)(5)s, 19,154 returns for 501(c)(6)s, and 9,257 returns for 501(c)(7)s.
- Form 990-EZ returns were also less for all 501(c) categories, with 85,715 returns for 501(c)(3)s.
Second, the Tax Year 2017 Form 990-T aggregate data is now available at the IRS Statistics of Income Tax Stats - Exempt Organizations' Unrelated Business Income (UBI) Tax Statistics webpage. Highlights include:
- There were 80,711 returns filed, including almost 30,000 for traditional IRA accounts but almost all the rest by section 501(c) organizations, including 39,847 filed by 501(c)(3)s.
- For the 501(c)(3) returns, about $10.5 billion in gross unrelated business income was reported and slightly over $10 billion in deductions, resulting in taxable income of less than $500 million (including taking deficit returns into account) and slightly over $1.7 billion (excluding deficit returns). This resulted in total tax owed of approximately $470 million.
Tuesday, June 27, 2023
Everything in this post is “old news,” but last month I posted a largely positive account of donor-advised funds (DAFs). In that post, I mentioned “specific abusive uses of DAFs,” but didn’t elaborate. So, today I want to describe one DAF “loophole” that really should be closed as soon as is practical. The Treasury proposed closing this loophole in a notice in 2017, but has never released regulations to actually do so. I sometimes worry that efforts to prevent DAFs from delaying the use of charitable funds (which are relatively controversial) are getting in the way of acting to prevent specific abusive uses of DAFs. At the top of my list of DAF loopholes that should be closed is the way that recipient organizations treat distributions from DAFs for the purposes of the public support tests.
To understand what I mean, imagine that Mrs. Smith wants to give $1 million to a charity she controls called the Mrs. Smith Foundation. If she gives the money directly to the Foundation (and no one else does), then that charity is a private foundation, subject to a number of important legal restrictions. However, if she gives that money to a DAF and then advises the sponsoring organization to distribute the money to the Mrs. Smith Foundation, then the Foundation is a public charity under current law. It’s a public charity instead of a private foundation even if Mrs. Smith controls the Foundation, and even if it never receives any funds from anyone but her (through her DAF). In effect, by using a DAF as an “intermediary,” Mrs. Smith has managed to create an organization that provides all the benefit of a private foundation, but which is not subject to any private foundation restrictions. Way back in 2017, the IRS pointed out this problem and announced that they “are considering” fixing the problem by requiring the “distributee charity” to treat distributions from DAF sponsoring organizations as coming from the DAF donor rather than the organization solely for the purposes of the public support tests.
Why does it matter that Mrs. Smith can create a fully-controlled charity that avoids private foundation status? First, under current law, DAF sponsoring organizations are not allowed to pay Mrs. Smith or her children “compensation” out of DAF funds, but the Mrs. Smith Foundation would be able to pay her and her children compensation (just like she could if it was a private foundation), as well as reimburse travel expenses associated with the Foundation’s activities. Second, under current law, private foundations and DAF sponsoring organizations must exercise “expenditure responsibility” if they make a grant to anyone other than a public charity. But the Mrs. Smith Foundation, as a public charity, doesn’t have that obligation. Expenditure responsibility is a series of actions that federal law requires private foundations and DAF sponsors to take to make sure that their grants are used for proper charitable purposes. Just to give one example, imagine that Mrs. Smith wanted to give funds to support a presidential candidate. She’s not supposed to use charitable dollars (which are tax deductible) to do that. If she created a private foundation, it would be prohibited from making any expenditures to support a candidate or lobby, but it could probably make a grant to a 501(c)(4) organization to support that organization’s charitable activities, as long as the private foundation exercised expenditure responsibility to make sure that none of the grant was used for political purposes. But if instead Mrs. Smith used a DAF as an intermediary to permit the Mrs. Smith Foundation to avoid private foundations status, then the Foundation could make the grant to the 501(c)(4) organization without exercising expenditure responsibility. Even better, if Mrs. Smith already had funds in a private foundation, that foundation could use the DAF as an intermediary to get the funds to the Mrs. Smith Foundation, which could in turn distribute the funds to the 501(c)(4) organization without being bound by expenditure responsibility. The DAF acts as a blocker for the original foundation’s need to exercise expenditure responsibility, and the fact that the Mrs. Smith Foundation qualifies as a public charity relieves it from the requirement to exercise expenditure responsibility. Surely that isn’t the way the law is intended to work.
Finally, here’s the irony: when DAFs are used as “intermediaries” in this way, they are not themselves delaying the expenditure of charitable dollars, which so many commentators are worried about. Instead, the DAF sponsor’s statistics about expenditures would show distributions to controlled charities as current expenditures. Once those distributions were made to the Mrs. Smith Foundation, there would be no need for the Foundation to spend them on charitable purposes on any particular timeline. The Foundation isn’t even be subject to the 5% payout requirement of private foundations. Again, if Mrs. Smith already had a private foundation, she could satisfy the 5% payout requirement of the private foundation by using a DAF as an intermediary to distribute funds to the Mrs. Smith Foundation, which qualifies as a public charity. The Mrs. Smith Foundation could then sit on those assets for pretty much as long as it wants, just the same as other public charities. Basically, the fact that charities can use DAF funds as “public support” to avoid private foundation status means that unless that rule is changed, all other rules regulating private foundations or DAFs will be easy to avoid. The Treasury should make the change proposed in 2017 as soon as possible.
Thursday, May 25, 2023
Late last month, the U.S. Department of Justice announced the sentencing of three individuals "for soliciting millions of dollars in contributions to scam PACs." The press release further states:
According to court documents, from 2016 through at least April 2017, Tunstall, Reyes, and Davies operated two PACs – Liberty Action Group PAC and Progressive Priorities PAC – that solicited contributions from the public via robocalls and radio and internet advertisements. The two PACs represented that the contributions would be used to support the presidential nominees of the two major political parties, respectively. Instead, the co-conspirators used the funds to enrich themselves and to fund additional fraudulent solicitations. Specifically, the two PACs raised approximately $4 million in contributions during the 2016 election cycle and subsequent months.
The penalties for this deception? A sentence of 10 years in prison, a sentence of 7 years in prison, and a sentence of 5 years of probation. Additional coverage: CNN.
As previously discussed in this space, the N.Y. Times recently had a lengthy story about five other tax-exempt political organizations that reportedly raised almost $90 million while only spending $800,000 on actual political activity. Yet that story indicates the four of those organizations still in existence have so far survived IRS scrutiny of their operations in the form of examinations that began a year or so ago. It remains to be seen whether this high profile coverage will lead to more critical IRS, and perhaps DOJ, attention.
I have not done a deep dive into the documents detailing the finances of either set of groups, but the key difference may be that the money flowing out of the tax-exempt section 527 organizations has to at least arguably go to outside vendors for actual services rendered, even if those services are mostly generating additional fundraising appeals. Of course the fact that those vendors have financial connections to the individuals who also run the tax-exempt organizations sets off alarm bells, but that fact by itself does not make the payments illegal. And the organizations also have to be careful what is actually said in the irappeals for donations, as making specific promises to potential donors that are not kept is also problematic.
This last point is demonstrated by the recent sentencing of two individuals involved in the tax-exempt section 501(c)(4) organization "We Build The Wall" fundraising effort to 51 and 37 months in prison, respectively. The court also ordered that those individuals pay millions in restitution. In that case, one individual promised that he would “not take a penny in salary or compensation” and that “100% of the funds raised…will be used in the execution of our mission and purpose.” In fact, the individuals involved directed for their personal benefit and use hundreds of thousands of dollars out of the more than $25 million raised.
Wednesday, May 24, 2023
The 2022 IRS Data Book, covering the fiscal year that ended on September 30, 2022, contains its usual treasury trove of information about exempt organizations. Notable facts include:
- There are 1,971,532 tax-exempt organizations, nonexempt charitable trusts, and split-interest trusts (Table 14), a slight decline from the previous year, of which 1,817,332 are recognized under IRC section 501(c) (1,480,565 under section 501(c)(3)) and 45,325 under IRS section 527 (political organizations).
- The IRS closed 136,708 applications for recognition of exemption (Table 12), approving 81,583 (86.4%), an increase of about 40,000 from the previous year, disapproving 86 (0.06%), and resolving 16,694 (12.2%) in other ways (including withdrawal, lacking required information, or incomplete). The vast majority (131,669 or 96.3%) of the applications were under IRC section 501(c)(3), with the next closest categories being a little over a thousand applications each under section 501(c)(4) and section 501(c)(6).
- The IRS also received 3,407 notices of intent to operate under Section 501(c)(4) (Table 13), of which it rejected 474 for a variety of reasons, including that notice was not required because of a previously filed annual information return or application for recognition of exemption, or the organization was exempt under a section other than 501(c)(4).
- The IRS examined only 1,343 Forms 990, 990-EZ, and 990-N, an additional 170 Forms 990-PF, 1041-A, 1120-POL, and 5227, 748 Forms 990-T, and 301 Forms 4720 (Table 21) . This compares to 1,360,719 exempt organization returns filed in 2020, 1,757,064 filed in 2021, and 1,751,682 filed in 2022, which figures include all of the above forms except for Forms 1041-A and 1120-POL This means even taking into account examination lag the examination rate was only about 0.1%.
The IRS Statistics of Income office has also released exempt organizations statistical tables for Tax Year 2019, available here, based on Form 990 filings.
Monday, May 8, 2023
Hello all! First time blogger here at NLPB. Because I’m me, I can’t just make a recommendation for something I like without criticizing it. There’s a tax podcast that I like called Taxes for the Masses. A recent episode provided a brief introduction to section 501(c)(3), and then criticized the IRS for not policing the charitable sector better. The hosts point out that you would be a fool at this point to rely on an IRS approval of 501(c)(3) status for pretty much anything. The 1023-EZ asks for laughably little information, and it appears that the IRS is not systematically checking even that minimal information against any third-party source. So far, so good.
Here's the criticism: I’m not at all persuaded that the IRS ought to do the kind of investigative work the hosts propose. It might be better for it to get out of the approval/denial game altogether (or keep doing it in this admittedly pathetic way) and let charities themselves figure out how to build confidence in the sector. The IRS could focus its resources on finding fraudulent or non-compliant charities and shutting them down … or collecting punitive excise taxes from them. For example, the hosts complain that the IRS failed to catch the fact that a charity founder had previously pled guilty to fraud and money laundering (as reported by the NY Times last summer). They also complain that the IRS didn’t notice that a charity that had “of Michigan” in its name even though it had a mailing address in Staten Island. But I’m not sure how suspicious that is. I know law professors who are officers of several small charities that don’t have their own corporate offices. These very same law professors sometimes use their own home addresses as the mailing addresses of those small charities, even when the charities conduct their activities in other states. It might annoy their wife, but it’s just not that suspicious. That being said, the hosts are probably right that the IRS should have done a better job revoking or refusing to grant charitable status to multiple charities with “American Cancer Council” in their name once the actual American Cancer Council complained that these organizations were not affiliated with it.
Friday, April 7, 2023
The IRS announced earlier this week that it was revising Form 8940, Request for Miscellaneous Determinations, both to facilitate and eventually require electronic filing and to expand the requests covered by the form. The new requests now covered by the form are:
- Government entities requesting voluntary termination of exempt status under section 501(c)(3) (previously a letter request).
- Canadian registered charities requesting inclusion in Tax Exempt Organization Search database (TEOS) of organizations eligible to receive tax-deductible charitable contributions (Pub. 78 data) or a determination on public charity classification (previously a letter request).
- Private foundations giving notice only of intent to terminate private foundation status under section 507(b)(1)(B) (previously provided on Form 8940 or by general correspondence).
The other requests that continue to be covered by the form are:
- Advance approval of certain private foundation set-asides described in Section 4942(g)(2).
- Advance approval of private foundation voter registration activities described in Section 4945(f).
- Advance approval of scholarship procedures described in Section 4945(g).
- Exemption from Form 990 filing requirements.
- Advance determination that a potential grant or contribution is an unusual grant, excluded from certain public support calculations.
- Change in (or initial determination of) Type of a Section 509(a)(3) supporting organization.
- Reclassification of foundation status, including a voluntary request from a public charity for private foundation status, and final public charity status determination for organizations with advance ruling periods that expired prior to June 9, 2008 (presumptive private foundations).
- Termination of private foundation status under Internal Revenue Code Section 507(b)(1)(B) (advance ruling request).
- Termination of private foundation status under Code Section 507(b)(1)(B) (60-month period ended).
Tuesday, April 4, 2023
The IRS continues to publicly release Technical Guides that are replacing Audit Technique Guides (which appear not to be publicly available) that in turn appear to have replaced certain exempt organizations chapters previously found in Part 7 of the Internal Revenue Manual. The two most recent releases are TG 3-3 Exempt Purpose, Charitable IRC 501(c)(3) (Publication 5781) and TG 1 Instrumentalities of the United States, Government Corporations, and Federal Credit Unions - IRC 501(c)(1) (Publication 5780).
Publication 5781 "discusses tax law issues related to charitable purposes of organizations exempt under Section 501(c)(3) of the Internal Revenue Code of 1986."
Publication 5780 provides the following background for Section 501(c)(1):
(1) Sections 509(a) and 501(c)(1) provides exemption from federal income tax to certain organizations created by Acts of Congress.
(2) Prior to The Tax Reform Act of 1984 (part of the Deficit Reduction Act of 1984, Pub. L. 98-369), an organization was exempt under Section 501(c)(1) if it was an instrumentality of the United States that was organized under an Act of Congress and was specifically granted tax exemption in the organizing Act.
(3) With the passage of the Tax Reform Act of 1984, the grant of tax exemption to an organization in its authorizing legislation was no longer sufficient for Section 501(c)(1) status. Unless an organization was exempt under its organizing Act, as amended and supplemented, before July 18, 1984, it can only qualify for Section 501(c)(1) exemption if the exemption is specifically provided for in Section 501(l) or if exempt from federal income taxes under Title 26 without regard to any provision of law which is not contained in Title 26 and which is not contained in a Revenue Act.
For more details about governmental entities and tax exemption, see Ellen P. Aprill, The Integral, the Essential and the Instrumental: Federal Income Tax Treatment of Governmental Affiliates, 23 Journal of Corporation Law 803 (1998).
The Treasury Department's Green Book - formally General Explanations of the Administration's Fiscal Year 2024 Revenue Proposals - includes two modifications to the tax rules for donor advised funds and private foundations. The first is a proposal to prevent private foundations from counting grants to donor advised funds toward satisfying their annual payout requirement unless the DAF in turn distributes those funds relatively quickly (see pages 139-40). The specific proposal is:
The proposal would clarify that a distribution by a private foundation to a DAF is not a qualifying distribution unless (a) the DAF funds are expended as a qualifying distribution, which does not include a distribution to another DAF, by the end of the following taxable year and (b) the private foundation maintains adequate records or other evidence showing that the DAF has made a qualifying distribution within the required time frame.
This a repeat proposal, in that the Biden Administration also included it in its Fiscal Year 2023 revenue proposal.
The other proposal, which I believe is a new one for the Biden Administration, is to bar private foundations from counting payments of compensation or expense reimbursements to a disqualified person as counting toward the annual payout requirement (p. 141). The specific proposal is:
Under the proposal, paying compensation or reimbursing expenses by a private foundation to a disqualified person (other than a foundation manager of such private foundation who is not a member of the family of any substantial contributor) is not a qualifying distribution that satisfies the payout requirement. The self-dealing rule would not change, so a private foundation could still pay reasonable compensation to a disqualified person for personal services that are reasonable and necessary to carry out the foundation’s exempt purposes; these payments would just not count toward the payout requirement.
Hat Tip: EO Tax Journal.
Thursday, March 9, 2023
News reports of thefts from charities and other improper diversions of charitable funds are unfortunately somewhat common, often reflecting the all too common combination of greed and lack of sufficient internal controls in many volunteer-run or under-staffed organizations. Usually these matters are handled by local authorities or state attorney general offices. But sometimes they rise to a level that the DOJ and FBI get involved. In the past month there have been a couple reported situations where this occurred:
The Kansas City Star reported that "Feds shut down Missouri Christian nonprofit that was supposed to cover medical bills". According to the article, the FBI and DOJ are alleging that section 501(c)(3) Medical Cost Sharing Inc. was "an elaborate fraud scheme that spanned the better part of a decade" operated by two individuals to enrich themselves. Additional coverage: Forbes. ProPublica has a related story about issues with several medical cost sharing ministries, including Medical Cost Sharing, Inc.
And the St. Louis Post-Dispatch reported that "Feds probe St. Louis-area church, nonprofit that claimed millions in federal food aid". According to the article, the U.S. Attorney's Office for the Eastern District of Missouri has issued subpoenas relating to Influence Church and section 501(c)(3) New Heights Community Resource Center in the wake of earlier investigative reports by the paper. The investigation is focusing on federally funded child nutrition programs, under which millions of dollars were paid to the Church and Center.
National Taxpayer Advocate: Congress Should Remove the Contemporaneous Aspect of Written Acknowledgements for Charitable Contributions
One nightmare of donors and tax advisors alike is having a sizeable charitable contribution deduction disallowed for failure to meet the substantiation requirements imposed by Congress, which the IRS and the courts strictly construe. Often these errors arise for complex reasons, such as a failure to obtain a an required appraisal that is "qualified" (see, for example, the recent U.S. Tax Court memorandum opinion in Lim v. Commissioner). But these errors also sometimes arise for a simple failure to obtain the Code section 170(f)(8) "contemporaneous written acknowledgement" (CWA) from the recipient charity that both has the required information and is obtained by the taxpayer by the earlier of the date they file the relevant return or the due date of that return.
Now the National Taxpayer Advocate is urging Congress to relax the contemporaneous aspect of the CWA requirement in her 2023 Purple Book: Compilation of Legislative Recommendations to Strengthen Taxpayer Rights and Improve Tax Administration. Legislative Recommendation #58 recommends that Congress "[e]liminate the 'contemporaneous written acknowledgment' requirement and replace it with an 'adequate written documentation' requirement." The new AWD requirement would be the same as the CWA requirement with respect to the information required, but the timing aspect would be removed. This would allow a charity to issue the required acknowledgement, or correct a defective acknowledgement, at any time, including presumably after the IRS on audit identified the absence or deficiency.
Hat tip: EO Tax Journal.
Monday, March 6, 2023
The long legal grind relating to conservation easements continues, with no end in sight. Setting aside the periodic issuance of dispositive and procedural decisions in the many pending cases - about half-a-dozen such decisions over the past three or so months by my count - there have been two significant developments and two new articles of interest.
First, the Supreme Court of the United States denied certiorari in Oakbrook Land Holdings, LLC v. Commissioner, one of two federal appellate court decisions that had created a circuit split over the validity of a conservation easement regulation. The Court apparently took to heart Professor Michael Kane's recommendation that it not take up this issue.
Second, the Treasury Department held its public hearing earlier this month on proposed regulations designed to address court decisions holding syndicated conservation easement listing Notice 2017-10 to be invalid under the Administrative Procedure Act. According to a Thompson Reuters article, many commentators urged Treasury to retain a carveout for donee organizations. According to a Law360 article, some of the commentators also questioned whether the proposed regulations are needed now that Congress has enacted a new charitable deduction disallowance rule for certain conservation easement contributions.
As for the articles, Vanderbilt Law Review has published a note authored by Molly Teague and titled Conservation Options: Conservation Easements, Flexibility, and the “In Perpetuity” Requirement of IRC § 170(h). And the Wildlife Society Bulletin published a short article by several scholars titled Conservation Easements: A Tool for Preserving Wildlife Habitat on Private Lands and proposing "a shift from primarily negative clauses and restrictive language to a more affirmative approach, developing language to proactively improve management of properties under conservation easement in order to maximize benefits to wildlife and ecosystems."
Saturday, March 4, 2023
About a week and a half ago, the SEC announced that it had charged Ensign Peak Advisors and the Church of Jesus Christ of Latter-day Saints (the Mormon church) with violating Section 13(f) of the '34 Act and Rule 13f-1. Ensign Peak agreed to settle and pay a $4 million fine for failing to file Form 13F for about 22 years, while the Mormon church agreed to settle the allegation that Ensign Peak acted with its knowledge and direction and pay the SEC $1 million. On this blog we're usually more focused on tax (and, on occasion, state nonprofit) issues than we are securities regulation, but this is a big deal securities reg story involving nonprofits, so it's worth a little time to dig into and understand.
But before we dig into the story, it's worth laying some groundwork:
The Mormon church is organized as a Utah corporation sole and, unsurprisingly, is exempt from tax under section 501(c)(3). (In fact, I'm putting the finishing touches on a book about the Mormon church and taxes, which will probably be published at the end of this year or sometime in 2024.) The church has a strong preference for centralization and hierarchy; in the U.S., the Utah corporation owns basically all of its property (unlike other denominations, which often incorporate different regions or congregations separately). The Mormon church is tremendously wealthy; just before the pandemic, a whistleblower alleged that it had $100 billion of invested assets (an amount that presumably didn't include, for instance, land it uses for church buildings).
Tuesday, February 14, 2023
In joint venture private inurement, insider sets up a for-profit entity, obtains an exclusive contract with the insider's non-profit and then pays himself fat salaries derived from the not unreasonable fees paid by the nonprofit to the for profit.
In my very first scholarly piece as professor -- a piece for which I was wrongly, rudely, and unjustifiably denied a Pulitzer -- I wrote about private inurement. My goal was to describe the underlying theory that made private inurement and excess benefit broader than the disguised distribution of dividends. I thanked David and Evelyn in the footnotes, neither of whom probably remember reading early drafts. I came up with catchy new labels for the "protean" ways private inurement manifested. "Strict accounting" private inurement happens when the organization pays too much or realizes too little. "Incorporated pocketbook private inurement" is when an insider uses the organization's revenues for personal consumption, reaching into the organization's assets like his own pocketbook whenever or wherever. And then "joint venture" private inurement. There was the coup de grace. I was convinced the Supreme Court would soon be quoting and citing my article in a monumental landmark case that would forever be defined by "The Scintilla of Individual Profit." So I released the article into the stream of intellectual commerce and waited for Bill Clinton's phone call and invitations to speak at lighted venues around the world. "Ich bin ein Berliner!" or "Mr. Gorbachev, tear down this wall!" I would be quoted as saying. And Harvard and Yale would be sorry for not pursuing me with greater vigor [or at all, actually] during the meat market. But all I got were crickets. My senior mentors at Pitt Law hardly even looked up from writing their own masterpieces to ask "now what are you working on?"
But a letter ruling released last week finally vindicates me. It involves revocation of an organization's exempt status for joint venture private inurement. All the personally identifiable information is redacted and that makes reading the letter somewhat difficult; I am pretty sure I have the essential details correct:
The exempt organization operates youth homes. Husband and Wife were the executives and apparently comprised the entire board, if not just a voting majority. They had at least three youth homes in different cities and money -- primarily from contracts with state agencies to which children were remanded -- and revenues were increasing. One day, they got the idea to open a management company to operate the homes. They incorporated a for-profit management company; they were majority owners, but its not clear whether there were other investors in the entity. Then, without bids or other shopping around, the nonprofit entity entered into an exclusive contract with the for profit for management services. Consistent with industry practice, the for profit would be paid a percentage of revenues from the nonprofit youth home operation for its services. The Service stipulates that the management fees were within industry practice; there is no assertion that the management company charged unreasonable rates. But the monies paid to the management company are distributed to its owners by way of salaries and other payments for services to the management company.
So no strict account private or incorporated pocketbook private inurement. But something still doesn't seem right. Here is what I said about joint venture private inurement too many years ago:
Strict accounting private inurement, representing the literal form, is closest to the statutory language, and even incorporated pocketbook private inurement can be made to fit within the literal prohibition if one thinks of unrelated transactions benefiting insiders as distributions of earnings in kind, rather than of cash. Those two forms of private inurement seem to exhaust the means by which an insider might violate the prohibition. The universe, though, includes a third form of private inurement not contingent upon an unfair or unnecessary transaction. This final category, which I call "joint venture private inurement," can occur even though the entity pays or charges an appropriate amount and even though the transactions are entirely appropriate and necessary to the accomplishment of the tax-exempt purpose. Instead, the violation occurs because the operations of the tax-exempt entity and an insider-controlled taxable entity are so closely related that the insider, by virtue of his interest in the taxable entity, financially benefits from the exempt entity's invariable consumer power. The taxable and tax-exempt entities are engaged in an implicit joint venture. As such, the exempt entity purchases all of its necessary commodities solely from the insider's for-profit entities or otherwise conducts its affairs through an insider's profit-making apparatus.' Although serving an exempt purpose, the entity necessarily subsidizes individual profit making.'
The private letter ruling concludes that the organization's revenues inured to the benefit of insiders, even though the amounts paid to the management company were within reasonable industry standards and without any evidence that the compensation formula incentivized the management company to cut back on charitable services:
6. Organization pays management company a substantial amount of money for management services, the vast majority of which management company pays out to husband and wife in the form of salaries and distributions to themselves and their trusts.
The operational test is not satisfied where any part of the organization's earnings inure to the benefit of private shareholders or individuals, and where the organization serves a private benefit rather than public interests. (Regulations § 1.501(c)(3)-1(c)(2)) As in People of God, Youth Home fails to qualify for exemption under section 501(c) (3) .
7. Youth Home is the main client of Management Company. Management Company benefits substantially from the operation of Youth Home.
Note that the management company became an "insider" (a requirement to find private inurement) by virtue of its ownership and control by the charitable fiduciaries. Nice teaching points in this ruling once you get beyond the redactions.
So yes, there is something called joint venture private inurement after all. President Biden and the Supremes should be calling me any minute now. I'll just wait right here.
Wednesday, February 8, 2023
We reported about Safehouse, Inc four years ago. And more than four years have passed since Safehouse obtained tax exempt status to provide a "range of overdose prevention services," including operation of "safe injection sites." Those sites, where addicted people can use drugs under supervision designed to prevent overdoses, are included in a range of medically recognized substance abuse "harm reduction" strategies. As we reported, Safehouse was stopped in its tracks when the Trump DOJ sued for a declaration that Safehouse's primary mission -- operation of a safe injection site -- would violate federal law against the maintenance of traphouses. A traphouse, by the way, is typically an abandoned or otherwise derelict former residence in an urban, and often underserved and neglected community where dealers set up shop; consumers come, buy, use, and are often "trapped" in that retail place for days turning tricks or robbing and stealing in adjacent neighborhoods to feed their addiction indefinitely. Cars, people on bikes, kids in their dad's car, and professionals from all professions "come thru" at all hours of day and night.
Here is how Wikipedia describes traphouses:
Abandoned buildings ravaged by arson or neglect are utilized by drug dealers since they are free, obscure, secluded and there is no paper trail in the form of rent receipts. The sale of illegal drugs often draws violent crime to afflicted neighborhoods, sometimes exacerbating the exodus of residents. In some cases, enraged citizens have burned crack houses to the ground, in hopes that by destroying the sites for drug operations they would also drive the illegal industries from their neighborhoods.
Now, after litigation all the way up to the Supreme Court, leaving intact the 3rd Circuit's declaration that safe injection sites violate federal law, the Biden Justice Department has signaled a reversal, according to the Associated Press. The declaration of illegality would permanently end tax exemption for safe injection sites under the illegality doctrine. But let's be clear, a traphouse is something entirely different from a safe injection site. It was the description above that prompted dogged opposition by the Trump administration. They thought drug dealers were seeking income and property tax exemption, I guess. Safe injection sites are not the horrible places described in several senators letter to Biden:
It has been reported that the Department of Justice (DOJ) is considering supporting the use of supervised injection sites. Supervised injection sites are public facilities for drug users to consume illicit drugs like fentanyl, methamphetamine, or heroin, under the supervision of medical staff. This reported position by your Justice Department is concerning for a number of reasons.
Beyond this, recent government reports show that supervised injection sites do not reduce overall overdose deaths or opioid-related emergency calls. Additionally, supervised injection sites have led to an increase in crime, discarded needles, and social disorder in the surrounding neighborhoods. Advocates in favor of supervised injection sites assert that they provide connections for those with substance use disorders to find housing and treatment options. However, these sites have a poor record of moving drug users into treatment and recovery, with some referral rates as low as 1%. Supporting those with substance use disorders is critically important; however, supervised injection sites’ goals of limiting the spread of diseases pale in comparison to the grave consequences of enabling and normalizing the consumption of illicit drugs.
Senator Grassley is a primary author and signatory, so we might expect he will continue resisting efforts to allow tax exemption for nonprofit organizations operating safe injection sites. But a Cato Institute policy analysis discusses the benefits of safe injection sites -- thereby distinguishing them from traphouses -- as well as the emerging medical and sociological consensus that safe injection sites are preferable to the interminable and unwinnable (is there any debate about that?) war on drugs. Fault or personal moral failings aside, some people can't "just say no." Cato issued an update upon hearing the news from DOJ:
When a private, self‐funded organization in Philadelphia sought, with the City Council’s endorsement, to open Safehouse in the city’s Kensington District, it was thwarted by the Trump administration’s Justice Department. After losing in the Court of Appeals, the U.S. Supreme Court refused to hear the case. The harm reduction project is now in legal limbo.
Defying federal law, last summer the Governor of Rhode Island signed a bill permitting privately‐funded safe consumption sites beginning this spring. New York City opened two safe consumption sites last November and plans to open two more in coming weeks. San Francisco plans to officially open a site in the coming weeks. In the meantime, a de facto site is working under the radar in a Tenderloin District Linkage Center. The state legislature is entertaining a bill to legalize safe consumption sites statewide starting in 2023.
Since 2014 a safe consumption site has been secretly saving lives in the U.S. while being monitored by researchers at an independent non‐profit research institute based in North Carolina. The researchers provide data in the peer‐reviewed medical literature which they update regularly, while keeping the name and location of the site confidential. To avoid interdiction, the site is only able to operate part‐time.
In July 2020 the researchers provided five years (2014–2019) of data in the New England Journal of Medicine. There were 10,514 injections through 2019, with 33 overdoses over the 5‑year period—all of which were reversed. They reported that the types of drugs changed over that period, with combinations of opioids and stimulants comprising 5 percent of injections in 2014 and 60 percent of injections in 2019.
Last month these researchers reported in the Journal of General Internal Medicine that facility users were 27 percent less likely to visit emergency departments, had 54 percent fewer emergency department visits, and were 32 percent less likely to be hospitalized. Those who were hospitalized spent 50 percent fewer nights in the hospital. Therefore, in addition to saving the lives of people who inject drugs, safe consumption sites can reduce stress on the health care system.
Addiction is a public health issue.
Monday, January 30, 2023
Last week, the Service released recently updated Technical Guide 58, regarding IRC 4941 excise taxes on self-dealing. I was particularly tickled to see the announcement in the IRS email update to which I subscribe because the update is based on Chief Counsel Advisory 202243008. The Advisory was written to Casey Lothamer, Area Counsel (Tax Exempt and Government Entities), Mid-Atlantic Region. Casey is one of my former students from my days at Pitt. It makes me wanna hitch up my pants and brag when I see one of my former students out in the trenches. "Yeap. I taught that boy dang near ere'thang he knows about exempt organizations!"
Thursday, January 12, 2023
Call me bleeding heart, but I worry about the human being known as George Santos and hope he understands that this too shall pass. Maybe like a very painful gallstone, but it will pass if he doesn't let it kill him first. I mean, just think if every one of us had all of our boneheadness displayed in headlines and bright lights. Granted this was a whole lot more than the average boneheadedness, but watching him sitting all alone in the House Chamber last week and knowing that prosecutorial sharks are circling makes me worry about his mental state. He will inevitably lose his seat in Congress. I hope he lives through it and finds peace when all is said and done.
But meanwhile the nonprofit Campaign Legal Center has filed a complaint with the FEC alleging all sorts of malfeasance, including "straw donor contributions." Here are a few allegations from the complaint:"
2. Santos purported to loan his campaign $705,000 during the 2022 election.3 But it is far from clear how he could have done so with his own funds, because financial disclosure reports indicate that Santos had only $55,000 to his name in 2020,4 and his claims of having earned millions of dollars in 2021 and 2022 from a supposed consulting business that he started in May 2021, Devolder Organization LLC (“Devolder LLC”), are vague, uncorroborated, and non-credible in light of his many previous lies.5 As set forth below, the overall circumstances instead indicate that unknown individuals or corporations may have illegally funneled money to Santos’s campaign through the newly formed Devolder LLC.
3. In addition, Santos’s campaign appears to have routinely falsified its disclosure of disbursements. The campaign reported an astounding 40 disbursements between $199 and $200, including 37 disbursements of exactly $199.99.6 The sheer number of these just-under-$200 disbursements is implausible, and some payments appear to be impossible given the nature of the item or service covered. Accordingly, there is reason to believe Santos’s campaign deliberately falsified its disbursement reporting, among numerous other reporting violations. Moreover, some of the reported disbursements made by Santos’s campaign appear to violate federal laws prohibiting the conversion of campaign funds to personal use, including disbursements to pay rent on a candidate’s personal residence. This complaint is filed pursuant to 52 U.S.C. § 30109(a)(1) and is based on information and belief that respondents violated the Federal Election Campaign Act (“FECA”), 52 U.S.C. § 30101, et seq. “If the Commission, upon receiving a complaint . . . has reason to believe that a person has committed, or is about to commit, a violation of [FECA] . . . [t]he Commission shall make an investigation of such alleged violation.”
21. FECA provides that “[n]o person shall make a contribution in the name of another person or knowingly permit his name to be used to effect such a contribution, and no person shall knowingly accept a contribution made by one person in the name of another person.”
22. The Commission regulation implementing the statutory prohibition provides the following examples of contributions in the name of another: a. “Giving money or anything of value, all or part of which was provided to the contributor by another person (the true contributor) without disclosing the source of money or the thing of value to the recipient candidate or committee at the time the contribution is made.” b. “Making a contribution of money or anything of value and attributing as the source of the money or thing of value another person when in fact the contributor is the source.”
23. The requirement that a contribution be made in the name of its true source promotes Congress’s objective of ensuring the complete and accurate disclosure by candidates and committees of the political contributions they receive,35 and ensures that the public and complainants are fully informed about the true sources of political contributions and expenditures. Such transparency also enables voters, including complainant Wieand, to have the information necessary to evaluate candidates for office, “make informed decisions[,] and give proper weight to different speakers and messages.”
25. Straw donor contributions like those alleged here are serious violations of federal campaign finance law that have led to criminal indictments and convictions in recent years.39 As explained in one such indictment, the straw donor ban works in tandem with other campaign finance laws to protect the integrity of our electoral system and to ensure that all candidates, campaign committees, federal regulators, and the public are informed of the true sources of money spent to influence federal elections.40 Another recent indictment highlighted how straw donor schemes have been used to skirt FECA’s source prohibitions, such as the ban on contributions by government contractors.
26. Even for contributions that would otherwise be legal — i.e., contributions that would not be prohibited or excessive, if made in the true contributor’s own name — the prohibition of contributions in the name of another serves FECA’s core transparency purposes by ensuring that voters have access to complete and accurate information regarding the sources of electoral contributions.
Here is a brief primer on dark money and nonprofits.
Thursday, December 29, 2022
My college-aged daughter is home for the holidays and she is a Netflix junky. Some of the things she recommends are pretty good. Like Stranger Things -- I tried to explain that it was just a jazzed up version of Scooby-Doo and "those meddling kids" but she wasn't impressed that old folks could possibly recognize anything new and IT related. You gotta be a person of a certain age to understand the reference, I guess. Anyway, I thought of the show -- Stranger Things -- as I was scouring the internet looking for something interesting to say about nonprofit law. Its a slow news day, I think, in Independent Sectorville but I did run across this U.S. Attorney's press release from earlier this year. The PR announces an indictment against tax shelter promoters. More on that below. As near as I can tell, though, Stranger Things is about someone having let loose some kind of monster on the earth, and the meddling kids are involuntarily drafted into the effort to put the monster back into his confinement somewhere but neither in the real nor the virtual world. I guess that leaves the spiritual world but I really can't figure out what seems easy and normal to my daughter.
Stranger Things' basic plot, describes the on-going battle against Syndicated Conservation Easements (SCE). A monster has been loosed upon the tax landscape and those fearless government kids have been working feverishly to trap the monster back into its netherworld. Isn't that how most tax shelter battles go? Every time we smash the monster, it reincarnates for another tax season and here we are on Season 5, I think, of Stranger Things. We have previously blogged about SCEs here and here. The only recent thing I found was a district court's denial a few days ago of a motion to dismiss in United States Fischer, et. al. But I worked backwards and happened upon the indictment in that case. I swear I don't know how I made it through law school back in the stone ages. It was all theory and argument, cost benefit, utilitarianism and all that jazz, usually too divorced from facts to be of interest except as required to pass the class. All with chalk and blackboards, if the Professor was really feeling the topic that day. I also walked ten miles in the snow with no shoes to make it to class, but kids these days have it so easy and interesting. They can find real life examples of pretty much every dry legal theory ever IRAC'd. Anyway, the indictment is informative because it almost puts the reader in the room while the nefarious conspirators -- in short sleeve shirts and ties, glasses, number 2 pencil and pencils pocket in place, no doubt -- plan out the monster's release upon the tax landscape. I find these real life examples make students look up from their laptops more often than one of my dry old Dad jokes. I have cut and pasted liberally from the indictment below the fold but you can only really get the "in the room" otherworldly feel for how syndicated conservation easements are hatched and loosed by reading the whole indictment. The indictment describes what seems like an unbelievable plot that nevertheless persisted long enough to wreak havoc in some quarters of the tax landscape.
Thursday, December 15, 2022
The IRS is replacing entire sections of the Internal Revenue Manual with new Audit Technique Guides (ATGs) and Technical Guides (TGs). Most recently it announced publication online of the following three TGs:
- TG 0 Technical Guide Overview
- TG 3-4 Exempt Purpose, Scientific Organizations 501(c)(3)
- TG 17 Supplemental Unemployment Benefit Trusts
The first TG listed above explains that the IRS initially promulgated internal Technical Resource Guides (TRGs) to replace previous IRM sections 7.25, 7.26, and 7.27, and ATGs to replace previous IRM section 4.76. The IRS is now creating publicly available TGs based on the TRGs and ATGs, and retiring the related TRGs and ATGs as the TGs become available. The full set of TGs and at least some of the ATGs (but not any of the TRGs) can be found at this IRS webpage.
I first noticed this change when I attempted to located the IRM section addressing a particular topic, only to discover it was no longer available. Unfortunately it appears the topic I was interested in is still stuck in TRG limbo, available internally at the IRS but not to the public. Hopefully it, and the rest of the topics still only in TRGs, will soon become publicly available again.