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Tax Law News August 20, 2008 Hall, Render, Killian, Heath & IRS Releases Revised Instructions to Redesigned Form 990 Lyman is a full service health law firm with offices in Indiana, Kentucky, Michigan and On August 19, 2008, the Internal Revenue Service ("IRS") released a Wisconsin. Since the firm was founded by William S. Hall in 1967, second draft of the Instructions (the "August Release") to the redesigned Hall Render has focused its Form 990, Return of Organizations Exempt from Income Tax (the practice primarily in the area of "Redesigned Form 990"). The IRS expects to release the Instructions to health law and is now recognized as one of the nation's preeminent the Redesigned Form 990 in final form (the "Instructions") in late 2008, health law firms serving clients in but it does not anticipate significant changes to the August Release other multiple states. For more information about the firm please than changes in format and syntax. The Instructions provide visit us at www.hallrender.com. clarification and guidance to filing organizations that will complete the Office Locations Redesigned Form 990. Organizations must begin using the Redesigned Form 990 and its Instructions for tax years that begin in 2008 (2009 Indiana Offices filing season). One American Square Suite 2000 Indianapolis, IN 46282 In addition to the Instructions, the IRS has released three background (317) 633-4884 Contact: Andrea L. Impicciche papers on the Redesigned Form 990. The first document, Background Paper – Summary of Form 990 Redesign Process, provides an 8402 Harcourt Road explanation of the redesign process. The second document, Background Suite 820 Indianapolis, IN 46260 Paper – Form 990, Moving from the Old to the New, lists and (317) 871-6222 summarizes the parts and schedules of the Redesigned Form 990, Contact: James R. Willey highlighting which portions are new or significantly revised from the Kentucky Office 2007 Form 990, and comparing material differences between the 2007 614 West Main Street Suite 4000 Form 990 and the Redesigned Form 990 and Instructions. The third Louisville, KY 40202 document, Background Paper – Changes to April Draft Instructions (502) 568-1890 Contact: Rene R. Savarise ("Background Paper"), provides an overview of significant changes contained in the August Release of the Instructions. Michigan Offices Columbia Center, Suite 315 201 West Big Beaver Road Background Troy, MI 48084 (248) 740-7505 Contact: Michael J. Phibrick On December 20, 2007, the IRS Exempt Organizations Division 2369 Woodlake Drive, Suite 280 released the Redesigned Form 990, which is the information return most Okemos, MI 48864 charities and tax-exempt organizations are required to file annually. A (517) 703-0921 Contact: Brian F. Bauer few months later, on April 7, 2008, the IRS released draft Instructions to Wisconsin Office the Redesigned Form 990 for public comment ("Draft Instructions"). 111 East Kilbourn Avenue The period for public comment on the Instructions ended June 1, 2008. Suite 1300 Milwaukee, WI 53202 (414) 721-0442 According to the IRS Background Paper, the August Release includes Contact: Gregory J. Melgares changes in content and format intended to "provide greater clarity regarding the specific information sought," as well as, "additional Contact Us examples to illustrate key points, reduce information gathering and email@example.com reporting burden in key areas, and establish or revise definitions or standards in certain areas." The IRS has indicated that the August Release is still in "draft" form "because it has not yet completed the process of review by the IRS Forms and Publications." The IRS has additionally noted that it intends to make no significant changes to the August Release other than changes to format or syntax. However, the IRS has noted certain areas requiring further study for possible changes to the Instructions for 2009 and later tax years (2010 and later filing seasons).The August Release can be found at: http://www.irs.gov/charities/article/0,,id= 185561,00.html. Summary The Redesigned Form 990 consists of a core form, divided into eleven (11) "Parts," and sixteen (16) schedules. All organizations claiming exempt status under 501(a) must complete the core form, while the nature of an organization's activities determines which schedules must be completed. Below is an overview of certain significant revisions found in the August Release to the April Draft Instructions: Definition of Key Employee For purposes of reporting executive compensation, transactions with interested persons, governance and management, and other items, the revised three (3) part key employee definition will generally require reporting an individual as a key employee if such individual was an employee, other than an officer, director, or trustee (these individuals are subject to separate and distinct disclosure requirements), who met all of the following tests: 1. $150,000 Test. The individual had reportable compensation exceeding $150,000 for the tax year; 2. Responsibility Test. The individual had or shared organization-wide control or influence similar to that of an officer, director, or trustee, or managed or had authority over at least ten percent (10%) of the organization's activities; and 3. Top 20 Test. The individual was within that group of the organization's top 20 highest paid employees for the year who satisfied both the $150,000 Test and the Responsibility Test. Definition of Officer For purposes of reporting executive compensation, transactions with interested persons, governance and management, and other items, the revised definition of officer will include both: 1. Top Financial Official. The person having ultimate responsibility for managing the organization's finances; and 2. Top Management Official. The person having ultimate responsibility for implementing decisions of the organization's governing body or supervising the management, administration, or operation of the organization. Governance, Management and Disclosure For purposes of reporting governance and management, the August Release clarifies and revises the following: 1. Information Regarding Policies and Procedures. The IRS provides an explanation that information requested in the governance and management section of the core form is not required by the Internal Revenue Code and that "an organization should consider its particular facts and circumstances, including its size, type and culture, when it considers whether to adopt or modify its governance polices or practices." 2. Definition of Independent Voting Member. The August Release revises the Draft Instruction's proposed four (4) part test for determining the independence of a particular voting member stating that an individual is an independent voting member of the governing body if such individual meets the following three (3) part test: a. Compensation as Officer or Employee. The individual was not compensated as an officer or other employee of the organization or of a related organization; b. Compensation as Independent Contractor. The individual did not receive total compensation or other payments exceeding $10,000 during the organization's tax year from the organization or from related organizations as an independent contractor (excluding reimbursement for expenses under an accountable plan or reasonable compensation for services provided in the capacity as a member of the governing body); c. Involvement with Transactions. Neither the individual, nor any family member of the individual, was involved in a transaction with the filing organization (whether directly or indirectly through affiliation with another organization). 3. Religious Exception. The revisions to the definition of independent voting member were further clarified regarding the exception for religious voting members. Specifically, a member of the organization's governing body does not lack independence because they have taken a vow of poverty in any of the following circumstances: a. The individual receives compensation as an agent of a religious order or section 501(d) religious or apostolic organization, if such individual did not receive any taxable income; or b. The individual belongs to a religious order that receives sponsorship payments or other payments from the organization that do not constitute taxable income to the individual. 4. Membership Organizations. An individual who is a member of an organization's governing body will not be considered to lack independence because the individual receives financial benefits from the organization if such individual is a member of the charitable or other class served by the organization. 5. Reasonable Efforts Standard. The August Release implements a reasonable efforts standard, including examples, for which the reporting organization may rely on an express reasonable efforts process to obtain information required from interested persons or third parties. Examples of the fulfillment of the reasonable efforts standard in different areas are as follows: a. Independence of Voting Members. For purposes of gathering information to determine whether an organization's voting members are independent, to satisfy the reasonable efforts standard, an organization may rely on information they obtain in response to a questionnaire sent annually to each member of the governing body that includes the name, title, date, and signature of each person reporting information and contains the pertinent instructions and definition of an independent voting member. b. Family/Business Relationships. For purposes of gathering information to determine whether there is a family or business relationship between two officers, directors, trustees, or key employees, an example of a reasonable effort is for the organization to distribute a questionnaire annually to each such person that includes the name, title, date, and signature of each person reporting information and contains the pertinent instructions and definition of a business relationship. c. Interested Persons. For purposes of gathering information to determine if there has been a business transaction with an interested person subject to disclosure on Schedule L (Transactions with Interested) Persons, an example of a reasonable effort is for the organization to distribute a questionnaire annually to each current or former officer, director, trustee, and key employee listed in the core form, that includes the name, title, date, and signature of each person reporting information and contains the pertinent instructions and definition of an interested person. The organization is not required to distribute such a questionnaire to organizations or individuals with which it does business, but who are not current or former officers, directors, trustees, or key employees of the organization, in order to have made a reasonable effort for this purpose. 6. Delegation of Board Authority. The August Release adds an instruction regarding the number of voting members of the organization's governing body that requires the organization to disclose any broad authority delegated to an executive (or similar committee) in which the executive committee was delegated to act on the governing body's behalf. Such disclosure must also include the composition of such committee, the scope of such committee's authority, and whether any committee members are not members of the governing body. 7. Scope of Business Relationship. Filing organizations must generally report if any of the organization's officers, directors, trustees, or key employees had a family or business relationship with another of the organization's officers, directors, trustees, or key employees at any time during the organization's tax year exceeding a threshold of $10,000. The scope of a reportable business relationship is narrowed in the August Release by providing two exceptions from reporting: a. Ordinary Course of Business Exception. Business transactions between two of the aforementioned parties in the ordinary course of either party's business, on the same terms generally offered to the public. b. Privileged Relationships Exception. A business relationship does not include any of the following three (3) privileged relationships: (i) attorney and client; (ii) medical professional and patient; and (iii) priest/clergy and penitent/communicant. Schedule H: Hospitals For purposes of reporting in Schedule H, the August Release clarifies and revises the following: 1. Required Disclosures for 2008. Only Part V (Facility Information) is required for the 2008 tax year. 2. Definition of Facility Triggering Schedule H. Organizations operating "at least one facility that is, or is required to be, licensed, registered, or similarly recognized by a state as a 'hospital'" must complete Schedule H. This clarification is intended to encompass "licensing-equivalents" in states that do not have licensing procedures for hospitals. 3. Definition of Facility for Schedule H, Part V. For purposes of reporting on Schedule H, Part V (Facility Information), the definition of facility has been revised to "include each hospital or other facility that is licensed, registered or similarly recognized by a state as a 'health care facility,' including facilities other than hospitals." 4. Subsidized Health Services. For purposes of reporting subsidized health services for physician clinics and skilled nursing facilities, the August Release clarifies that physician clinics and skilled nursing facilities are eligible for treatment as a subsidized health service in accordance with the generally applicable rules. 5. Health Professions Education Costs. Clarifies that the definition of such costs includes costs of all health education programs open to the general public, even if employees of the organization may participate in such programs. 6. Internally Funded Research. Clarifies that the definition of internally funded research may include both the internally funded research the organization conducts, as well as the cost of research funded by a governmental entity, but may not include the cost of research funded by an individual or organization that is not tax- exempt or a government entity. 7. Cash or In Kind Contributions. Clarifies by example how to treat cash or in kind contributions funded through restricted grants from related organizations. 8. Bad Debt. Clarifies that organizations are required to use the "most accurate system and methodology available to [them]" for reporting bad debt expense as a cost. In addition, organizations must describe how they account for discounts and payments on patient accounts when determining bad debt expense. 9. Cost Reporting. Clarifies that, under Part III of Schedule H (Bad Debt, Medicare, and Collection Practices), organizations may report only allowable costs reported in Medicare Cost Reports, except for costs reported as subsidized health services or health professions education. 10. Medicare-Related Costs and Revenues. An additional instruction was added to clarify that Medicare costs not reported under Part III of Schedule H (because not an "expense" reported on a Medicare Cost Report) may be included in Part IV (Supplemental Information). The August Release also clarifies that an organization must describe in Part IV the costing methodology it uses to determine Medicare allowable costs reported in the organization's Medicare Cost Report. Schedule K: Supplemental Information on Tax-Exempt Bonds The August Release exempts refunding bonds issued after 2002 to refund pre-2003 bonds from reporting in Schedule K, Part III (Private Business Use). All other parts of Schedule K must be completed with respect to such refunding bonds under the generally applicable rules. Schedule J: Compensation Information The August Release clarifies the compensation reporting requirements for Part VII (Compensation) of the Core Form and Schedule J. With regard to reportable compensation, specific instructions are provided regarding the identification of compensation on Form W-2 and Form 1099-MISC. With regard to other compensation, details about what types of compensation should be reported are provided. For example, amounts for retirement plans, health benefits, and deferred compensation are reportable regardless of amount. However, such amounts may be estimated if actual amounts are not readily available. Schedule L: Transactions with Interested Persons For purposes of reporting on Schedule L, the August Release clarifies and revises the following: 1. Definition of Substantial Contributor. The revised definition of substantial contributor for purposes of Part III (Grants or Assistance Benefitting Interested Persons) simplifies the definition to mean a person contributing at least $5,000 to the organization during the tax year required to be reported by name on Schedule B (Contributions). 2. Interested Person Reporting. The thresholds for reporting an interested person for Part IV (Business Transactions Involving Interested Persons) are revised to require reporting if: a. All payments during the tax year from a single transaction between the organization and the interested person exceeded the greater of 10% or 1% of the filing organization's total revenues; b. All payments during the tax year between the organization and the interested person, whether from one or from multiple transactions, exceeded $100,000; or c. The organization paid compensation greater than $10,000 during the tax year to a family member of certain interested persons. 3. Payments Made During the Year. For purposes of reporting business transactions between a filing organization and an interested person in Part IV, reporting is based on payments made during the year, without regard as to when the transaction was entered into. Schedule O: Other The reporting in Schedule O is expanded to include required narrative reporting for all filing organizations on several items. Specifically, instructions have been added to require all filing organizations to provide certain supplemental explanations and four specific attachments, including: 1. Amendments to organizational documents in the case of a name change; 2. A list of subordinate organizations included in a group return; 3. Articles of merger or dissolution, resolutions; and/or 4. Plans of liquidation or merger required by Schedule N (Liquidation, Termination, Dissolution or Significant Disposition of Assets). Areas Requiring Further Study According to the IRS, the following areas, which the IRS intends to study for possible additions or changes for the 2009 or later tax years, were not revised or incorporated in the August Release: • Examples of Program Service Accomplishments; • Development of program service activity codes; • Development of an express reasonable effort process for use in reporting certain payments made to government officials or their family members; • Exploration of the expansion of community benefit reporting and other information reporting on Schedule H, to include benefits provided by an affiliated organization rather than by the filing organization, a disregarded entity of the filing organization, or a joint venture of which the filing organization is an owner. Conclusion The August Release of the Instructions represents the last piece in the redesign of the Form 990. At this time, tax-exempt organizations can be reasonably assured that the Redesigned Form 990, along with the August Release, represents an accurate picture of the tax-exempt community's new compliance and reporting obligations. Clearly, the Redesigned Form 990 will require the disclosure of a significant amount of new information for most tax-exempt organizations, and based on the new disclosures, many organizations may identify a need for new or revised organizational policies and procedures regarding governance and/or operations. Tax-exempt organizations are encouraged to carefully read and scrutinize the Instructions in conjunction with the Redesigned Form 990 to further understand and identify changes that should be made within the organization to satisfactorily complete the Redesigned Form 990. Should you have any questions, please do not hesitate to contact your regular Hall Render attorney, or Calvin R. Chambers at firstname.lastname@example.org or 317-977-1459, or Andrea L. Impicciche at email@example.com or 317-977-1578 or Chad P. Sukurs at firstname.lastname@example.org or 317-977-1452 . This publication is intended for general information purposes only and does not and is not intended to constitute legal advice. The reader must consult with legal counsel to determine how laws or decisions discussed herein apply to the reader's specific circumstances.
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