Issues for Nonprofit Organizations Raised by January 21 U.S. Supreme Court Decision in Citizens United v. FEC Pillsbury Winthrop Shaw Pittman, LLP January 28, 2010 1. Section 501(c)(3) Organizations. How does the Supreme Court decision affect an IRC Section 501(c)(3) tax-exempt organization -- charitable, scientific, educational, religious -- which is prohibited from engaging in any political activity? The prohibition against political activity for Section 501(c)(3) organizations continues and is not changed by the Supreme Court’s decision. The Internal Revenue Service maintains a "no tolerance" test for political activity prohibited in this category of federal income tax exemption. Independent expenditures by a Section 501(c)(3) organization supporting a candidate for elective office would clearly violate the prohibition. The constitutionality of the prohibition has been addressed by the U.S. Supreme Court and confirmed; essentially the Court concluded that organizations have traded their free speech rights in this area for the benefit of tax exemption in this category; see Reagan v. Taxation with Representation of Washington, 461 U.S. 540 (1983). This prohibition could be re-considered, or even overturned, in some future case, since the Supreme Court had also previously upheld the ban on corporate independent expenditures which it has now reversed. 2. Section 501(c)(6) Organizations. How does the Supreme Court decision affect a Section 501(c)(6) membership organization – a trade association, a professional society, etc. -- which must give notice to its members each year of the percentage of members' dues that are not tax deductible by the members by reason of the organization's lobbying expenditures or, in the alternative, must itself pay a "proxy tax"? Political activity expenditures are included in the definition of "lobbying" expenditures that affects the extent of members' dues non-deductibility or the organization's alternative proxy tax. IRS Regulations at Section 1.162-20(a)(1) interpret the non-deductibility broadly, disallowing amounts paid "for political campaign purposes (including the support of or opposition to any candidate for public office)." Independent expenditures now permitted by the Supreme Court decision would constitute amounts paid for political campaign purposes. Therefore Section 501(c)(6) organizations would be required to include independent expenditures in their calculations when they notify members as to what percentage of members' dues are estimated to be non-deductible or in their calculations when they pay the alternative proxy tax. 3. “Independent Expenditures.” What should an organization do to make sure that its independent expenditures are truly "independent" and will not be considered direct campaign contributions that remain illegal for corporations including incorporated nonprofit organizations? Essentially the organization must avoid coordinating its communications that are the subject of purported independent expenditures with candidates, political parties, or the agents of either. According to the Federal Election’s Commission’s regulations, 11 CFR 109.20(a), a communication is coordinated, and therefore not “independent,” if it is made in cooperation, consultation or concert with, or at the request or suggestion of, a candidate, a candidate’s committee or their agents, or a political party committee or its agents (the “candidate or party”). In order for a communication to be considered “coordinated,” it must satisfy the Commission’s lengthy and complex three-prong test addressing: (a) the source of payment, (b) the content/subject matter, and (c)the conduct (the interaction between whoever is paying for the communication and the candidate or political party). Only a communication that satisfies all three criteria is considered coordinated. It is not necessary for there to be a formal agreement or formal collaboration for a communication to be a “coordinated” communication. A candidate’s or party’s response to an inquiry about that candidate’s or party’s positions on legislative or policy issues, which does not include discussion of campaign plans, projects, activities or needs, is not considered the basis for an organization’s “coordinated” communication. Use of materials from publicly-available sources is also not considered the basis for an organization’s “coordinated” communication. 4. State Candidates. Are independent expenditures now permitted even for state candidates in states where there are statutory or regulatory bans on independent expenditures by corporations? It will depend on what occurs in each state that has an explicit or implicit ban on independent expenditures and on the wording of the ban. Some states may spontaneously and independently declare previously-banned independent expenditures by corporations to now be permitted (Texas did so on January 26, for example). In other states there may be legislative action or civil court action necessary before one can be certain that previous bans on independent expenditures by corporations have been lifted with respect to state candidates for state elective office by virtue of the U.S. Supreme Court decision. 5. Federal Excise Tax. An excise tax now applies when an exempt organization makes a direct campaign contribution to a state-race candidate in a state where those direct campaign contributions by corporations are permitted (Illinois, for example); will that excise tax apply to independent expenditures? The excise tax most likely will apply to independent expenditures permitted by the Supreme Court decision. Section 527(f) of the Internal Revenue Code provides that an exempt organization that is not a “political organization” (such as a political action committee or PAC) will be subject to an excise tax if the organization expends any amount during the taxable year directly (or through another organization) for an “exempt function,” which is defined in Section 527(e)(2) of the Code as "the function of influencing or attempting to influence the selection, nomination, election, or appointment of any individual to any Federal, State, or local public office or office in a political organization, or the election of Presidential or Vice-Presidential electors, whether or not such individual or electors are selected, nominated, elected, or appointed." Because the corporate independent expenditures allowed by the Supreme Court decision clearly fall within this definition of an “exempt function,” the expenditures can be expected to give rise to the excise tax under Section 527. 6. Federal Contractors and Grantees. Does a nonprofit organization that is a federal contractor or grant recipient benefit from the Supreme Court decision lifting the ban on corporate independent expenditures? This remains unclear. The Supreme Court did not deal with the federal contractor ban (2 USC 441c; 11 CFR 115.1 et seq.) which speaks in terms of contributions and expenditures to (but not more explicitly, as in the case of independent expenditures, on behalf of) federal candidates and political parties and committees. This is different than the "in connection with any election" language in 441b that the Supreme Court addressed. Therefore the prohibition appears to be narrower and could pass constitutional muster. Arguably, the same rationale expressed by the Court in its affirmation of the rights of corporations to make independent expenditures might reasonably apply as well to federal contractors, whether corporate or not. On the other hand, the federal courts -- and ultimately the Supreme Court -- might find a compelling reason to uphold the ban because of the status of federal contractors [just as the Supreme Court once upheld the ban for Section 501(c)(3) exempt organizations]. As matter of caution, therefore, the ban should be treated as still in effect for federal contractors and grantees until clarification is supplied either by an opinion of the Federal Election Commission or a federal court. 7. PACs. Can nonprofit organization-administered political action committees make independent expenditures from PAC funds? Yes. This remains unchanged. 8. FEC Reporting. What are the rules on reporting independent expenditures at the federal level? The rules are detailed and complex. Essentially, under the current Federal Election Commission regulations, persons or entities that make expenditures of $1,000 or more during a calendar year become “political committees” subject to FEC reporting. A person or entity that is not a political committee and that makes independent expenditures aggregating in excess of $250 with respect to a given election in a calendar year must file a report on FEC Form 5. Those filing reports must do so in accordance with the quarterly reporting schedule and must file reports for any quarterly period during which the independent expenditures that aggregate in excess of $250 are made and in any quarterly reporting period after that in which additional independent expenditures are made. If independent expenditures exceed $10,000 in a calendar year, the reports must be filed electronically. Additionally, depending on the timing of the communications in relation to a particular election, 24-hour or 48-hour reports may be triggered. 9. Foreign Corporations. Can Foreign Corporations now make independent expenditures as indicated by President Obama in his State of the Union speech on January 27? No. The court did not deal with that issue. The court was dealing with 2 USC 441b; the foreign national prohibition is in 441e. The foreign national ban should be assumed to be in full effect until a federal court rules otherwise. Here is a pertinent excerpt from the Supreme Court’s decision: "We need not reach the question whether the Government has a compelling interest in preventing foreign individuals or associations from influencing our Nation's political process (citation omitted)…Section 441b is not limited to corporations or associations that were created in foreign countries or funded predominantly by foreign shareholders. Section 441b would be overbroad even if we assumed, arguendo, that the government has a compelling interest in limiting foreign influence over our political process…." (Majority opinion at 47). 10. FEC Reaction. What can we expect next? The Federal Election Commission has made a statement that it is considering the impact of the Supreme Court’s decision on existing FEC regulations, as well as ongoing enforcement processes; the Commission will be providing guidance to the public as soon as possible regarding what steps will be taken to comply fully with the decision. **** The following Pillsbury attorneys contributed to this summary: Fred Lowell, Jerry Jacobs, Emily Barrett, and Megan Spratt.
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