Free Law School Outline - Class Notes Non Profit Organizations Schaffer

ClassNotesNonProfitOrganizationsSchaffer LawSchool | RecentChanges | Preferences | Edit (Sponsored Links, Helps Support Bandwidth Costs) Nonprofit Organizations Monday, November 25, 2002 (Class 1)      1/3 state law, 2/3 tax law In class, open-book exam x3345; d.schaffer@neu.edu No class on Wednesday Nonprofit organization o Does not mean they don't make a profit, but is called surplus of revenue over expenses o Cannot distribute assets, except to another nonprofit--nondistribution constraint. Tax-exempt organization o Subset of nonprofits, exempt from federal income tax. IRS Code Section 501 Section (c): organizations that are exempt from federal income tax, at least 25 kinds Doesn't include other exempt organizations, such as pension funds. Section (c)(3): donations to these organizations are tax deductible. Statue Section 170: deduction for charitable contributions; 170(c) lists organizations which can receive tax deductible contributions [same as 501(c)(3)]. American Automobile Club: nonprofit that is not tax exempt, not covered in this course. Private Foundations: subject to stricter rules than other 501(c)(3), live on investment income. Why are there nonprofit organizations? o Don't fit well into economic theory o Nonprofits have been around much longer than private corporations, e.g., church, universities o Sometimes you have a task which you can't supervise (either technically or logistically); imagine for-profit that says it will ship food to Africa.          o o Or hospital: you have no idea if they know what they're doing. Don't want surgery just so hospital can make profit. On the other hand, we don't use this system for auto mechanics, where same problems exist.  Why tax-exempt organizations? o Nonprofits can't sell stock, need alternative to attract capital. o But there have been times when hospitals have been cash-rich, but aren't treated differently ("in sickness and in health" book). Most of course is about line between tax-exempt and non-tax-exempt, and 501(c)3 and other nonprofits. State law concerning duties of nonprofit boards/executives generally not enforced. Duties of loyalty and care taken on by the Federal Tax Code, which is enforced. Example of non-tax-related law: whether solicitations can be limited, if nonprofit does not use money for charitable purpose but instead, for example, for salaries. 501(c)3 cannot lobby but can educate, difficult distinction--first amendment law.      Monday, December 2, 2002 (Class 2)  Mutual Benefit vs. Public Benefit Non-Profit Organizations o Public Benefit organizations not taxed in order to encourage activity. o "Social club" or other Mutual Benefit Organization is not taxed because members are doing together what they could otherwise do separately. o Public Benefit organization: assets and earnings cannot go to private individual. E.g., corporations code of New York, "there shall be no dividends." o California code divides public benefit and mutual benefit corporations into different sections. o Mutual benefit organizations can distribute assets to members or to buy out a member. IRS Code 501(c)3: what kind of organization can qualify (statute book p233): several undefined terms. o Kind of entity is irrelevant for federal tax law--i.e., unincorporated association, charitable trust, nonprofit organization. o State law does distinguish, however. Questions of State Law:  Can unincorporated association sue, or only individual members?  Can association be sued, or just members, etc..  Which assets are reachable by lawsuit against associations. o Labor unions and political parties, unincorporated associations. o Federal labor statute provides that a labor union has capacity to sue and be sued; that it can be liable for violating collective bargaining agreement, and can bring suit against employer for violating agreement; only assets of Union, not assets of members, are subject to liability.    Very unusual for a lawyer to suggest unincorporated association as legal form. Charitable trust o Useful to grantor because trustee has high fiduciary duty; must prefer interests of beneficiary above all others. o Typical entity in England o Charitable trust can be perpetual, while private trusts cannot because of rule against perpetuities (restricted to life of someone plus 21 years). o Because class of beneficiaries is indefinite (e.g., "the hungry"), no one will hold trustee to his duties. Attorney General supposed to enforce charitable trusts. o Heirs might challenge a charitable trust in order to get money; if trust is not for proper purpose and is perpetual, then is invalid. o Could be "for charitable purposes" (broad) or "to aid young people to attend college" (narrow). o Lawyer will usually write "for the purposes set out in section 501(c)3 of the IRC." o If you leave out something, e.g., who is the trustee, courts will generally fill it in. o Typically create small charitable trust prior to death, then give money to trust in will. Corporation (more common in United States) o Need to go through formality of writing Articles of Incorporation o Nothing in IRC matters to trust vs. corporation o Under State Law, Directors of Corporation have duty of care and loyalty to corporation (like fiduciary duty of trustee). o Differences: for example, if Charitable Trustee vs. Director of Corporation wants to lease property to the organization, will be different. o Directors are held to lower standard of care than charitable trustees. Charitable trustees generally treated by analogy to private trustees; charitable directors by analogy to corporate directors. Courts tend not to second guess boards of directors as business is inherently risky and entrepeneural as long as they act in good faith--often a lot of money is made by doing something that many think won't work at all.    Problems cb71    Woman is told she will have high income taxes; suggest that she give money to charitable organization. Wants to set up organization to take care of llamas. o Charitable trust: can be set up quickly, fewer requirements, she could be trustee. Would need to be careful to keep funds separate from her own. Person wants to set up literary group, eventually receive donations from funds. o Unincorporated association would make sense at first. If they want to receive funds later, they would need some sort of articles to qualify for 501(c)3. Could incorporate later if needed. Parents want to establish nonprofit child care center. o Nonprofit corporation.  Person wants to start cricket association, someone donates $10,000. o Mutual benefit society. Would want understanding about what happens to money if organize disbands. Sections B and C on syllabus for Wednesday.  Wednesday, December 4, 2002 (Class 3) State ex rel. Grant v. Brown   Secretary of State denies application for gay-rights organization; Court finds Secretary has discretionary power to accept or reject applications. Today Secretary of State would no longer have this discretionary power; controversy appears more in tax law than in incorporation. Judicial attempt to define charitable purpose quite difficult.  De Costa v. De Paz [2 Swans 487] 1754 Chancery (cb93)   Organization for "Jesiba"--assembly for daily reading of Jewish law--against official religion of England. Funds eventually were given to teach children Christianity. Re Shaw (deceased). Public Trustee v. Day and Others [1 All E.R. 745] 1957 Chancery Division (cb96)   Shaw, famous playwright, wills money to trust to determine how much time could be saved if we had a better alphabet. Why isn't this just educational trust? No element of teaching. Advancement of knowledge by itself is not charitable purpose. Problems    Trust giving $100 per week to "oldest" respectable inhabitant of Biloxi. o Only benefits one person, not a valid charitable trust. But could be modified. Courts are likely to modify charitable trusts to be valid--e.g., "oldest poor person." Unlike private trusts, charitable trusts are exempt from rule against perpetuities. Legacy to study whether Shakespeare's plays were written by Bacon; the Flat Earth Society. Professor who wants to set up trust to publish books he wrote.   Would be easier if you could find University that would accept grant rather than set up independent trust. Used to be that changing law could not be charitable purpose, although today it would be accepted. Wendell Phillips: left charitable trust for abolition of slavery; but after civil war, court changed purpose to something "close"--aid for freed men. Called power of cy pres--"so near". Need to determine whether trust was for general purpose or specific one. For next time: dissolution of a nonprofit organization.    Monday, December 9, 2002 (Class 4) In Re Los Angeles County Pioneer Society [257 P.2d 1] 1953 California Supreme Court (cb106)   Question: is Pioneer Society a "social club" or a "charity"? Social club could distribute assets to members, while charitable organization must give assets to another charitable organization. Woman who wants to change purpose of organization from caring for llamas to caring for birds. o May want narrow definition but not too narrow in order to allow these sorts of changes. Group forms Trollope Society as unincorporated association, when it breaks up just divide assets among members. Charitable corporation, wants to go out of business and dissolve. Need to make sure funds are used by other charitable organization; question is how close purposes need to be. Corporation formed to operate a hospitable and do acts of charity for the sick. Wants to change to operate outpatient clinic.     Cy Pres     Question of whether testator had "general" charitable intent or specific intent to form this charitable purpose and no other. E.g.: person left money in his will to create segregated city park, but specified that gift would fail if segregation were no longer possible. Money left for scholarship to white female; modified to go to females. Deviation: instruction to operate trust in a way other than originally specified. Distribution of Assets to Public Benefit Corporations    Does charitable corporation hold property as trustee or outright? o I.e., can use of donations be changed if given for a particular purpose? Issue arises frequently in conversion of non-profit health industry to for-profit Typically, nonprofit organization buys stock of for-profit, has to give away profits (nonprofit hospital/HCA example). Multiple Sclerosis Service Organization of New York   MSSO is dissolving, found distributees engaged in substantially similar activities; National Multiple Sclerosis Society intervenes claiming its purposes are more akin to those of MSSO. New York Statute interpreted to mean that nonprofit organization has some flexibility, recipient doesn't need to be "as close as possible". For next time: duties of officers and board (read all of assignment).  Wednesday, December 11, 2002 (Class 5)     Duties of Nonprofit Directors Fiduciary duty not exactly equivalent to for-profit corporation since there are no shareholders to be accountable to Duty of care: need to be informed, and insist on being informed. Duty of loyalty: need to put institution's interest above your own. George Pepperdine Foundation v. Pepperdine [271 P.2d 600] 1954 2d Circuit California Court of Appeals (cb155)  Court is unwilling to punish Pepperdine, who ran foundation poorly that he had started with his money. Question is generally what standard of care to hold directors to.  Stern v. Lucy Webb Hayes National Training School for Deaconesses [381 F.Supp. 1003] 1974 District of Columbia District Court (cb167)    Typical formulation of standard of behavior Judges tend not to second guess business decisions of corporate directors. Since nonprofit directors aren't compensated, aren't held to as high a duty of care. Problems (cb186)     Well-known interior designer, philanthropist, and socialite, is asked to join board. She agrees but does not want to attend board meetings. o Will not be fulfilling duties if she doesn't know what's going on with organization; instead could appoint her to be an honorary director. Hospital with deficit, hires CEO to reduce deficit by $200,000 per year. Trustees don't receive annual audits, CEO reports "Things are going okay." In two years, deficit grows from $4M to $10M. Public radio station decides to publish magazine, loses lots of money, never found out that 9 out of 10 magazines fail. o Should have gotten expert advise, but weren't necessarily liable. o Issue is not whether the right decision was made, but whether the right procedure was followed to make it. Radio station hires consultants who turn out to be crooks. o Should have gotten references, etc., about consultants. Conflict of Interest--Section 8.31 of Revised Model Nonprofit Corporation Act o Transaction is not voidable if transaction was fair at time it was entired into  The Committee to Save Adelphi v. Diamandopoulos http://www.nysed.gov/regents/docum.html 1997 Board of Regents of the University of the State of New York (cb206)   Another way in which corporation can be harmed: lost opportunity Start with problems on page 226-230 for Monday. Monday, December 16, 2002 (Class 6)  Class cancelled Wednesday, December 18, 2002 (Class 7)  Problems (cb226) o No breach of duty of loyalty if fair price was paid, even if material facts were not disclosed as to self-dealing. Solicitation Monday, January 6, 2003 (Class 8)    Issue of how much of money raised goes to "program expenditure" vs. "cost of solicitation" States want to regulate nonprofits to force them to disclose to public breakdown of expenses Law never imposes requirement of competency on nonprofits; usually just concerned with accounting. Riley v. National Federation of the Blind [487 U.S. 781] 1988 United States Supreme Court (cb290)   What if Court had decided the opposite result, that the State could require solicitors to disclose proportion of donations going to fundraising? o Likely that nonprofit would go back to in-house fundraising, where it's much harder to account for separate fundraising expenditures. Result is opposite from that which is often employed: forced full disclosure. Young v. New York City Transit Authority [903 F.2d 146] 1990 2d Circuit Court of Appeals (cb306) Problems (cb315)  For Wednesday, Part V Section A (procedure for determining exempt status) and B. Monday, January 13, 2003 (Class 10)  Federal tax law is primary battleground for determination of charities. Bob Jones University v. United States [461 U.S. 574] 1983 United States Supreme Court (cb356)   Bob Jones University is religiously based racially discriminatory school, IRS challenges its tax exempt status. Strange procedural history: Government had announced they would grant tax exempt status to Bob Jones University.     Court looks to history of definition of history; looking at entire statute in context suggest that there is a common law definition of charity which does not violate public policy which is incorporated into statute. But 501(c)4 does not include "charitable" language, yet it is hard to imagine racially discriminatory HMO could be tax-exempt. Constitutional issue (not discussed): does granting exemption constitute state action sufficient to support 5th amendment claim? Court practices doctrine of Constitutional avoidance--doesn't answer Constitutional question. Problems cb383 Calhoun Academy v. Commissioner [94 T.C. 284] 1990 Tax Court (cb379) Hospitals     Health industry is very large in United States, question of obligations of hospitals under 501(c)3. Requirements under Revenue Ruling 69-545 o Must give emergency room treatment to indigent o Must treat those with health insurance or medicare (why not medicaid??) Should hospitals have to treat everyone to be charitable? IRS has held they do not. Chapter 5 Part D and Part E for Wednesday. Wednesday, January 15, 2003 (Class 11)  When hospital only treats 5% of patients for free, why give it complete tax exempt status? Even if HMO's are ultimately determined not to be within 501(c)3, they could always become 501(c)4 organizations. Educational organizations (cb414) o Issue is organizations "at the periphery"   Big Mama Rag v. United States [631 F.2d 1030] 1980 District of Columbia Circuit Court of Appeals (cb418)     Big Mama Rag was feminist newspaper. IRS hold that it did not qualify as educational organization under §501(c)3. IRS held that Big Mama Rag did not present other points of view, i.e., mere presentation of unsupported opinion. Court finds regulations is overly vague, thus has chilling effect on speech. Methodology test: question of whether organization's methodology qualifies as educational. See cb427 for examples of non-educational. Church of Scientology of California v. Commissioner [823 F.2d 1310] 1987 9th Circuit Court of Appeals (cb495)  IRS won several cases against Scientologists, but then gave up. United Cancer Council, Inc. v. Commissioner [165 F.3d 1173] 1999 7th Circuit Court of Appeals (cb503)       Claim that United Cancer Council funds were inuring to private person. 7th Circuit reversed tax court. UCC is small organization, essentially without any funds, signs contract with W&H, professional solicitors. Court holds that inurement provision only applies to insiders, thus outside fundraiser is not violating inurement prohibition. W&H doesn't control UCC. IRS and Court don't look into how much profit W&H made. Court of Appeals remands to tax court for deciding whether board has violated duty of care. Revoking exemption is "atomic bomb" and often harms the wrong people; IRS eventually got alternative remedies: intermediate sanctions (cb359). Next class look at 511 foward for alternative remedies.   Wednesday, January 22, 2003 (Class 12) Monday, January 27, 2003 (Class 13)  Questions cb520 o Question of fact: what are people paid for this kind of work? Outside of field of lawyer's expertise. Lobbying         Usually lumped together with political campaign, but actually very different. 501(c)3 only forbids substantial amount of organization's activities from lobbying. Because it is very difficult to determine whether substantial amount of activities are lobbying, 501(h) has set up safe harbour agreement. If lobbying activities are exceeded for four consecutive years, organization will lose its exempt status. Safe harbour does not apply to churches, because of religious freedom issues. o If called to account for lobbying activities, church might claim opinion was being expressed by minister rather than church. Volunteer political action can pass under § 4911, since it's only the amount that you spend on lobbying that matters. Lobbying non-taxable amount. More concern with tax exempt organizations contacting constituents than with contacting elected representatives directly. Regan v. Taxation with Representation of Washinton [461 U.S. 540] 1983 United States Supreme Court (cb536)       IRS denied TWR tax-exempt status on basis that substantial part of activities would be lobbying; TWR seeks declaratory judgment that they are under 501(c)3. Supreme Court follows IRS suggestion that organization can be two organizations, one 501(c)3 and one 501(c)4. NAACP and NAACP Legal Defense Fund--another example of split organization. Blackmun concurrence: concerned about protecting 501(c)3 exemption when 501(c)4 organization is split off. Same problem as Rust v. Sullivan (conditioning fundamental rights). Supreme Court has been quite tolerant of arbitrary distinctions in tax law. Could be viewed as tax case or 1st amendment case. Wednesday, January 29, 2003 (Class 14)     Lobbying non-taxable amount--can't be exceeded for four years in a row, in 501(h). Purpose of § 4911 is not to tax away tax exempt status but to penalize nonprofits for exceeding lobbying limit Lingering question: should Revenue Service be regulating nonprofits at all? Problems cb578 o (1) is urging members to contact legislators to encourage them to vote in a certain way lobbying/grassroots lobbying?  § 4911: influencing legislation: lobbying expenditures are expenditures for the purpose of influencing legislation. Appears to be grassroots lobbying. (b)(2).   Communications with members vs. Communications with general public 4911(d): definition of lobbying. 4911(e)(2): definition of legislation. 4911-2(d)(1)(ii) (sp611) Private foundations: no lobbying at all o (3) $50,000 grassroots lobbying o (4) Not lobbying o (5) Direct lobbying, not grassroots lobbying o (6) $10K grassroots lobbying o (7) Unclear whether there is a "call to action". If there were call to action (contact your legislators), then this would count as grassroots lobbying. $50,000 of lobbying expenses would be taxable--$250,000 plus $2000 (NTA). Tax at 25%, thus $12,500.     Wednesday, February 5, 2003 (Class 16)      Can deduct fair market value of donations to 501(c)3 of property rather than cost--not consistent with other tax law. 170 (b) percentage limitations o Only certain percentage of annual income can be given and deducted; does not apply to gift or estate tax Different limitations on deductible donations to charitable organizations vs. private foundations. "Little gifts" (cb900) -- e.g., get mug for donation More substantial gifts, need to deduct difference between donation and what you got.    Exam: two questions, hard. Spot issues. Does a nonprofit corporation hold its assets in trust? Unknown. Lawyers and judges tend to be more familiar with nonprofit corporations than trusts. 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