Adjunct Professor Jeffrey L. Carmichael
CHAPTER 1: AN OVERVIEW OF THE NONPROFIT SECTOR
Nonprofit law is the intersection of three different bodies of law.
First, you’ve got state nonprofit statutes. In IN, it’s the Act of 1991, with prior law
being in 1976. There’s a statute setting up requirements you have to meet to be a NPC under IN
law. Most states have their statutes, except for Delaware.
Second, you’ve got federal tax law. Most NPCs are also tax-exempt at the federal level.
A lot of times that means they’re exempt at the state level as well. Tax-exempt: there are some
kinds of taxes that you’re exempt from, and others you’re not, unless certain requirements are
met. NPCs don’t usually have a wide-margin of success versus failure. The tax-exempt status is
their lifeblood, and losing it may kill the organization. Understanding the boundaries set by the
federal tax law for TE organizations is a primary thrust of the course.
Third, there is ―other law.‖ We won’t spend any dedicated time on that (antitrust issues,
securities issues). A lot of the same rules applying to for-profit organizations apply to NPC, but
they sometimes apply a bit differently.
What are Nonprofit Organizations?
Red Cross pension funds
churches legal service organizations
Salvation Army political interest groups
YMCA March of Dimes
NCAA childcare centers
Amnesty Int’l zoos
nursing homes other health organizations
religious orders museums
charitable societies orphanages/adoption agencies
fraternity United Way
universities Cystic Fibrosis Foundation
primary/secondary schools 4-H Clubs
alumni groups labor unions
country clubs offender re-entry programs
NRA NFL / PGA
The designation that we now think of as 501(c)(3) is the federal tax law way of saying
that charitable organizations ought not be required to pay income tax.
―Tax exempt‖ refers to the federal tax law, but does not refer to the same thing as
―nonprofit.‖ NP is a term originating in the state law. You’re an NPC because you satisfied the
NPC requirements of the state law. An additional step is required to get a tax exemption.
―Charitable.‖ Charitable organizations are often NPC and often tax exempt, but are not
Some organizations, like college fraternities, country clubs, the NFL, some pension
funds, political interest groups, and labor unions may be NPC but not tax-exempt.
The nondistribution constraint.
Remember that an NPC can, and probably should, be making a profit. What’s different
about NPCs isn’t what they make but what they do with what they make. The idea is that a for-
profit organization, the leftover money goes to shareholders. A NPC is supposed to take its
income and put it back into its purpose (whatever purpose it is that qualified the organization for
The ―Concentric Circle‖ View:
Outer circle is ―All Organizations.‖
Within that, some will be Nonprofit.
Within that, some nonprofits will be tax-exempt.
Within that, some tax-exempt will be charitable organizations.
Within that, some charitable organizations will be public charities.
What are the ―Good Reasons‖ and some ―Bad Reasons‖ for having a nonprofit sector?
PRO: public benefit, supplements governmental services
PRO: strengthens freedom, non-majoritarian
PRO: stimulates group activity
CON: technically nonprofit, but c’mon
CON: conflicts of interests
CON: tax expenditure and decrease in property taxes to local schools
CON: lack of scrutiny
Currently under consideration in legislation, e.g., should the requirements for hospitals
obtaining tax-exempt status be altered
One of the largest money-makers in the tax-exempt sector are health care organizations. The
current debate in legislature is whether we must revisit this standard to make sure there is more
charity care being provided by hospitals in order to justify what we’re losing in tax revenue by
giving them the tax exemption?
(1) Market Failure. The market does very well in providing specific goods: a need for a
factory, a need for a sandwich shop, etc. But if you start looking to the need for
charitable healthcare, the market doesn’t do so well. We need a supply to meet the
(2) Contract Failure. Purchasers of services are not the same as the consumers. The
nonprofit cannot take its profits and keep it. The purchasers may be unable to assess the
adequacy of services themselves (e.g., nursing home, where consumer is the patient), so
they often trust a nonprofit more than a for-profit.
(3) Government Failure. Government is supposed to serve the majority, and minorities
often do not get the voice that a nonprofit organization otherwise gives.
(1) The first corporations were NPCs. The NPC isn’t the ―bastard stepchild‖ in this situation.
It wasn’t until colonization where money became a foremost concern for an enterprise,
and that’s where the modern shareholder corporation originates.
(2) We have a rich tradition of recognizing these organizations as something warranting
(c) Public Policy
(1) Public benefit. We need nonprofits, for the various things they do and the various ways
they serve the community.
(1) Hospitals: Do the economic rationales work? No, as proven by the plethora of for-profit
hospitals out there, thriving. Is it contract failure? If you’re injured, you probably choose
the close hospital over the ―nonprofit‖ hospital. Some rationales simply work better for
some organizations than for others.
(2) Maybe none of these rationales capture the entire sector. You can get a more unified
theory, for instance, during a discussion of just charitable organizations.
Introductory Problem, Page 58
(1) What do you want to do?
(2) What is the mission of the organization? We know they want to do CLEs, and they want
to do this part-time.
(b) Financial Goals.
(1) What do you want financially?
(2) Is this your retirement? Do you need money?
(3) Do you want to serve?
(c) Source of Funding
(1) Where does your capital come from? Other business? Your own salary? Donations?
(2) Investors? That means for-profit because they’ll be expecting dividends.
(3) Depending on source of funding, they may be a private foundation (subject to more rules)
or they may be a public charity (more hurdles to clear, but less rules once you’ve cleared
(d) State Law Issues.
(1) Organizational form: most NPCs nowadays choose to become nonprofit corporations.
But that is not an absolute requirement. A 501(c)(3) tax-exempt organization can be an
unincorporated association, a charitable trust, or a nonprofit corporation.
(2) Look to the state act to determine the requirements for creating whatever kind of
organization they want to be.
(e) Federal tax issues.
(1) Must have certain things in Articles of Incorporation to qualify under 501(c)(3).
(2) Form 1023: Federal document used to request exemption from federal income tax,
submitted to IRS. IRS sends a 120-day letter in response. You respond to any further
request from the IRS, and sometimes rethink things as originally established.
(3) In Indiana, you’re exempt from state income tax by virtue of the federal ruling, but in
many states you have to apply separately to get an exemption from the state.
CHAPTER 2: FORMATION AND DISSOLUTION
Determining what form the organization should take: Tax issues and non-tax considerations (see
Three kinds of organizations: These are three of the forms a 501(c)(3) organization can take.
(a) Unincorporated Associations
(b) Charitable Trusts
(c) Nonprofit Corporations
(a) Very informal; requires no filings to begin one.
(b) Lack of corporate formalities: flexible, but possible personal liability
(c) Holding property: questionable area; not always clear, especially to those doing business
with an unincorporated association.
(a) Involves donor, beneficiaries, and trust property
(b) Trust = relationship between trustee and beneficiaries with respect to the trust property
(c) Duty of ―utmost care‖ required of trustee; trustee is a fiduciary.
(d) Difference between charity trust and regular trust is the beneficiary. The charitable trust is
meant to benefit society at large, rather than a small group of persons or entities.
(e) Easier and faster to set up than nonprofit corporations; don’t have to select a board, file
papers with the state to create the organization, etc.
(f) Fewer ―housekeeping requirements‖ than nonprofit corporations
(g) Disadvantages: Not as popular here as in England
(a) Limited liability
(b) Governed by statutes comparable to state corporate law, giving them a model to follow
(c) Internal governance is more flexible
(d) Corporation is a separate entity that can hold property, sue, and be sued
(e) Society may be more comfortable giving benefits to a nonprofit corporation than to another
form of organization
There are many ways to approach the fundamental issues of nonprofits. There is a wide disparity
between states. Indiana, for instance, generally tracks the model nonprofit act.
The Model Nonprofit Corporation Act was adopted in 1952 and revised in 1957 and 1964; it is
still followed by most states. There is also a Revised Model Nonprofit Corporation Act.
A Tour Through the Indiana Nonprofit Corporation Act of 1991
See the lifecycle of an organization: what it takes to get it started, how it functions, what
hurdles it must clear to enter into various transactions, and ultimately, what it must do to close its
(a) Act begins with general issues, then into definitions, where many of your key terms are
found, including ―distribution.‖
(b) Purposes. 23-17-4-1. The old approach was to be very narrow about what kind of purpose a
nonprofit corporation could have. The modern trend is to be more expansive, allowing any
purpose that is a legal purpose. That doesn’t get you what you need for a tax-exemption,
which still requires a more narrow purpose.
(c) Powers. 23-17-4-2. The first 13 are virtually identical to the business act. The next ones,
like imposing dues on members, establishing conditions for membership, carrying on a
business, establish the differences between a for-profit and a nonprofit. A NPC can purchase
insurance for its directors and offices, and can serve as a trustee.
(d) Members. 23-17-7. In contrast to ―shareholders‖ of for-profit. Members will have certain
rights, including electing a board, establishing membership criteria, allowing termination of
(e) Directors. Standard of conduct, how many directors a corporation may have, what they will
be allowed and responsible for doing, what they should accomplish at meetings, and how
they are elected.
(f) Officers. Similar but shorter than directors; officers do not have as many responsibilities as
(h) Corporate records.
(i) Dissolution and sales of assets.
The process of forming a NPC (see page 66).
Refer back to the problem from last week (page 58). What are the steps?
(a) Decide what state in which to incorporate.
(1) What state will be most favorable to your organization?
(2) There isn’t a lot of variation between states, at least, not to the extent that you would find
when establishing a for-profit organization.
(3) Usually use the state where the organization is located, or where it will be acting.
(b) Prepare Articles of Incorporation
(1) See IC 23-17-3-1, et al.
(2) Corporate name
(3) Establish whether corporation is a public benefit, a mutual benefit, or a religious
(4) Street address of state office & name of corporation’s initial registered agent
(5) Name & address of each incorporator
(6) Whether corporation will have members
(c) [side issue] What might you need at the federal level?
(1) The organizational test: the state law is not your ending point.
(d) Obtain consents (if necessary)
(e) File Articles of Incorporation with Secretary of State
(f) Establish and adopt bylaws
(g) Hold organizational meeting
(1) Board elected
(2) Officers appointed
(3) Bylaws approved
(4) Authorization to open bank account granted
(5) Sometimes this meeting is accomplished by written consent, rather than actual meeting
(h) File application for tax-exempt status
(i) In some states, you must then file for recognition of exemption from state taxes, and possibly
from property taxes.
A Note on Indiana Tax Exemptions:
(a) There used to be 3 types of Indiana income taxes: adjusted gross, supplemental net, and
gross. Organizations that are 501(c)(3) are automatically exempt from the first two. You
used to have to apply for exemption from one type of income tax, but due to recent changes
to the Indiana code you no longer have to do that. Recognition of exemption at federal level
automatically exempts you at state level. Sales tax, however, involves a different form and
application. Property tax is a major sticking point; states are willing to sacrifice the income
tax with no fight at all, but are not so willing to surrender the revenue on a piece of property
through a property tax exemption.
Public Benefit Corporations, Mutual Benefit Corporations, and Religious Corporations
(a) These only apply to nonprofit corporations, not to charitable trust or unincorporated
(b) Public benefit is for the benefit of society at large, a larger group than just the people who are
part of the organization.
(1) See IC 23-17-2-23: Has a public or charitable purpose
(c) Mutual benefit really is about its members and doing something for them.
(1) See IC 23-17-2-19: This is the ―default‖ for a NPC. Not religious or public benefit, so it
(1) See IC 23-17-2-25: Primarily or exclusively for religious purposes
(e) You’ll see overlap between religious and public benefit corporations in 501(c)(3).
Problems, Page 71
(a) Charitable trust: She is time pressured, she is doing this herself, and she wants some control
(b) Mutual benefit or unincorporated association: He wants to get grants, so he needs some kind
of organizational structure to go through the process of being tax-exempt. Is there an
existing group that you can associate with, rather than setting up your own? If not, maybe
UA: he doesn’t need a lot of formality, and just being able to set some loose guidelines is
(c) Public benefit corporation: if they let other children besides their own be part of the school.
Certainly better to have a corporate form for the liability protection.
(d) Mutual benefit corporation: Might want the liability protection.
At the state level, we begin with determining whether the purpose is ―lawful.‖ Who
decides? In Indiana, no one reviews the Articles to determine whether the purpose is appropriate
or not; the Secretary of State serves a ministerial function.
In State ex rel. Grant v. Brown the Secretary found the purpose contrary to public policy
and refused to stamp the Articles of Incorporation. The dissent in that case points out that the
Attorney General is the entity charged with alleging an improper purpose; it is not the Secretary
of State’s position.
See page 87. The dictionary definition focuses on relief of the poor and underprivileged,
but from a federal tax standpoint, the definition is much broader. The legal definition is usually
a function to promote the general welfare that is not violative of public policy.
You stop looking like a NPC when you look too much like a business. If what you’re
doing is really a clever way to run a business without taxes, somewhere you’ll get caught.
In People ex rel. Groman v. Sinai Temple, a Jewish organization runs a cemetery. The court
concludes that statutes generally allow any purpose that isn’t unlawful, and running a cemetery
Note this is a corporate powers question, not a question of whether or not the corporation
is religious. So long as the commercial activity has not overtaken the religious, then the
organization isn’t likely to lose its tax-exempt status.
The Unrelated Business Income Tax is a tax that otherwise tax-exempt organizations
have to pay on their unrelated business income. The cemetery operation in Groman might be
subject to this kind of tax. But Groman was solely about the corporate power, not about its tax
See Northstar Resarch, page 85. This is the wave of the future in nonprofits. It’s called a
―joint venture.‖ In the nonprofit sector, a lot of times you see a nonprofit coming together with a
for-profit for some kind of joint venture: a partnership, or an LLC. Depending upon its structure,
it may affect the exempt status of the nonprofit.
Let’s say the joint venture wants to be a nonprofit itself. Does it have a nonprofit
character and appropriate purpose? Is the JV more like its nonprofit member, or more like its
for-profit member? Is its purpose primarily to promote education, or is it primarily to get
economic advantage for the member businesses? In the Northstar case, the court found it more
educational than anything else.
Problem, Page 86
Whether or not an organization is charitable turns on the nature of the activity, not the use of the
Problems, Page 105
(a) Court interpreted this to mean that money should go to someone elderly who needed the
money, making it charitable.
(c) Not charitable. The ―straight-faced‖ argument: it’s hard to make an argument with a straight
face that the earth is flat and money should be directed to that purpose.
(d) Not charitable. This is just a guy who wants to get a benefit so he doesn’t have to pay a
commercial publisher to get his works published.
(e) Not charitable. It is contrary to public policy. The name of the group indicates non-passive
means, possibly violence.
(f) Depends on the group’s methodology. Even if this is civil disobedience, it’s still breaking
the law and won’t pass muster as charitable purpose. If it’s just distributing literature and
educating people, that’s charitable.
Dissolution and Distribution of Assets
Generally the corporation must distribute its assets for public benefit purposes: to another
public benefit corporation. The Internal Revenue Code requires the corporation specify in its
Bylaws that it will do so upon dissolution to get 501(c)(3) status.
In Re Los Angeles County Pioneer Society (p. 106): Does this look like a mutual benefit
corporation, or an educational corporation? It’s a close call with arguments on each side.
Problems, Page 115
Problem # 1
(a) If the trust was set up as a revocable trust, it can be changed by amendment.
(b) Assuming it’s just an unincorporated association, not a 501(c)(3), then he and the other
members can just split up the money and leave.
(c) Look at state act. The center probably got 501(c)(3) status, so they’ll have to distribute their
assets to another 501(c)(3) corporation, probably as their directors choose.
Three different kinds of distribution:
(a) Chapter 21: General dissolution. The corporation wants to dissolve. Maybe they’ve
accomplished their purpose, or given up on it. Maybe they’ve lost donor support and the
enterprise isn’t viable. Directors make a recommendation, members approve by a certain
(b) Administrative dissolution. The Secretary of State forces dissolution because you’re not
making your filings. Group probably will go through process of being reinstated, pay small
(c) Judicial dissolution. The Attorney General says you’re violating the prohibition against
distribution, and files an action in court. There is a hearing.
The Doctrines of Cy Pres and Deviation
For one reason or another, the charitable trust cannot accomplish what the trust instrument
(a) Cy Pres means ―as near as possible.‖ When the purpose has become impossible or
impracticable, then the trustee can substitute another charitable object that is as near as
possible to the original charitable object. Looks at whether the purpose is impossible to
fulfill in its own right.
Elements of Cy Pres:
(1) Valid charitable trust exists
(2) Settlor’s specific charitable obligation is frustrated, necessitating cy pres modification to
carry out the settlor’s wishes
(3) Settlor’s general charitable intent is not restricted to the precise purpose identified in the
(b) Deviation involves an administrative detail about the trust. For instance, maybe the trustee
decided to invest in a particular company, and that company closes its doors. The trustee
shows that it’s impossible on the administrative side. Looks at whether the purpose is
impossible to fulfill because of some administrative detail.
Distribution of Assets to Public Benefit Corporations
Does the organization generally hold these funds as a trustee, so that it is obligated under
trust principles even if it is organized as a non-profit corporation?
For example, suppose a hospital desires to open a child care wing. It conducts fundraisers
and benefits, declaring its intent for a child care wing, and it receives donations from the
community. Later, the hospital has a surplus of money from its child care wing donations. Is
there a trust created in connection with that gift? How much flexibility should the hospital
have in this instance to change the use?
o The law generally holds that a trust relationship is created. An organization has said
to people that it will use the money in a particular way, and it is bound to actually use
it in that way.
How would the hospital go about changing what that money goes to?
o We could call it cy pres, because there is an original purpose that has been frustrated
(in a good way) because it’s already accomplished.
o You could work with the Attorney General on this, since the AG has the
responsibility for enforcing charitable trusts in the state.
CHAPTER 3: OPERATION AND GOVERNANCE
The loosest organized
Not as clear what the duties are of the people running the organization
Maybe an agency relationship
Don’t have the body of law like you do for non-profit corporations or trusts
Charitable trusts & NPC:
Fiduciary duties—has slightly different nuances between the two kinds of organizations
Members are the non-profit corporation’s version of a for-profit corporation’s
What is a ―member?‖
o IC 23-17-2-17
o Member votes for the directors who run the organization
o May have influence over some activities like merger, dissolution, selling all or
substantially all of the assets, amending organizational documents like by-laws
and articles of incorporation
o Have rights that you cannot strip from them without satisfying certain established
Precision is important. Don’t call someone a ―member‖ for convenience; try to create
some distinct term. Or send the party a letter describing the bounds and terms of their
―membership‖ if they aren’t actually to be a full member with all the rights implied.
Boards of Directors and Trustees
Six Principal Functions:
1. Select, encourage, advise, evaluate, and (if needed) replace the CEO
2. Review & adopt long-term strategic directions and to approve specific objectives, financial
and other, such as reviewing the basic mission of the organization in light of changed
3. Ensure to the extent possible that the necessary resources, including human resources, will be
available to pursue the strategies and achieve the organization’s objectives
4. Monitor the performance of management
5. Ensure that the organization operates responsibly as well as effectively
6. Nominate suitable candidates for election to the board and to establish and carry out an
effective system of governance at the board level, including evaluation of board performance
They are responsible for fulfilling the mission of the organization, identifying what the
organization needs to be doing to fulfill it, and making sure the resources are there to do that.
Standard of Care
Sources of Law
1. Trust standard: negligence, reasonable care
2. Corporate standard: gross negligence
3. Business judgment rule (or ―Best Judgment Rule‖)
a. If a director made a decision by informing herself in good faith without a disabling
conflict of interest, there will be neither judicial inquiry nor liability even if the action
was unfortunate for the organization or its membership.
b. Indiana’s statute IC 23-17-13-1(a) basically codifies the business judgment rule for its
standard applied to Directors.
Two Main Fiduciary Duties
1. Duty of Care
i. Properly manage or supervise the corporate entity
ii. Regularly attend meetings
iii. Review minutes and written materials
b. Informed decision-making
i. Make an informed decision about important transactions
ii. Hear presentations, ask questions, and get rationale behind each side before
iii. Get recommendations from experts
iv. Get outside information as necessary
v. Ask for additional information from officers, when necessary
i. Set policies and oversee corporate agents
ii. Delegation must be reasonable; must have some basis for why this is a good
selection and be confident in the qualifications of the person selected
i. Read and evaluate materials
ii. Reasonably believe the contents are accurate
iii. Honestly assume the agents presenting the report are within their professional
or expert competence
2. Duty of Loyalty
i. The director must put his organization ahead of his own interest.
ii. The director must not use his position to usurp any opportunity, and the
director should not benefit from a transaction, even if the company also
iii. Procedural: Did the board have procedures in place, and did they follow them,
to ensure fairness in transactions?
b. Interested Transactions:
c. Corporate Opportunity Doctrine: Engaging in an opportunity of which an officer
or director or employee becomes aware in connection with his role as a corporate
i. Offeror intends the opportunity to go to the corporation
ii. Offeree reasonably should believe the non-profit would be interested
iii. Activity in which the non-profit typically engages (relates to the ―line of
iv. This applies to agents as well, who cannot usurp an opportunity that should go
to the principal: see the Galloway case in the Supplement.
Problems, Page 186-187
(a) Mrs. Vandergelt is not required to attend meetings, so she would fail the Duty of
Attention and Informed Decision-Making prongs of the Duty of Care. Maybe establish a
―Board of Advisors‖ or some other supplementary board such that Vandergelt can still be
attached to the organization in some fashion but without the potential problems
associated with being a Director.
(b) Trustees violated the duty of Attention; they didn’t get detailed reports from their CEO,
and just let him say, ―Things are fine.‖
Directors are nervous about potential liability. They hear this and they feel very uncertain about
when a court might decide they’ve ―crossed the line.‖ Some very qualified people decide that
fear of liability discourages them from serving on boards. It is for that reason you get various
protections for Directors.
There used to be charitable immunity that said a charity, by definition, was immune from suit.
But the directors could still be liable.
Statutes sometimes limit liability for directors. Indiana has an act that protects volunteer
directors, and there is the Federal Volunteer Act when the directors are unpaid.
Indemnification is where the organization pays the legal expenses of a director who gets sued but
prevails in the end. The organization may provide additional protection, saying that it will pay
legal expenses regardless of whether the director prevails at suit.
Duty of Loyalty
A transaction may be void or voidable if entered into in violation of the Duty of Loyalty. In
some situations, the organization will be held to the deal made.
The question of the transaction’s validity is secondary to the question of whether the director did
what he was supposed to do.
The Adelphi case points out that any transaction might be approved or held up, but we’re not
concerned about that final outcome. We’re concerned about whether the people are acting as the
proper stewards for the organization.
Problems, Page 226
(a) Brown hasn’t misled the corporation into buying something harmful to the company; the land
she’s selling is still a good piece of land for the company. So what’s the problem? She did
breach the duty of loyalty. Is the transaction void or voidable? She has the burden of
proving that the transaction is fair to the company. If she meets that burden then the
transaction may stand.
(b) Legally, the standard is the same as in (a). She will have to prove the transaction was fair,
and here, she probably won’t be able to because of the toxic waste. She’d only be saved if
the company got a fabulous deal on the market price of the land.
(c) Brown should still disclose her interest to the board before any decision is made. This is a
―gray area‖ where both she and the company would benefit from the transaction. From a
director standpoint, disclosure is the foremost concern. From a corporate standpoint, there
must be a conflict of interest policy. What are the elements of a good policy?
a. Up front disclosures. The policy is often given to the director when he comes onto
the board. It says we want to know about every business interest you have,
companies in which you’re a major investor, companies in which your family are
major investors, etc.
b. Update. The organization should annually circulate to its directors a summary of
what they disclosed previously and ask for updates/changes.
c. Have a process for when a conflict of interest arises. For example, have the interested
party make all necessary disclosures, answer all questions the board has about the
transaction, and then leave the room when the further discussion takes place and the
actual vote is made.
(d) Smith is an agent, so his duty is somewhat lower than if he were an officer or director. This
was an odd question. I have blocked the answer from my head.
(e) She should disclose this to the museum, as it may color her judgment.
(f) I dunno. I’m clearly not paying attention. I have the attention span of… a goldfish, or
something else with little to no attention span.
Duty of Obedience
Duty to carry out the purposes of the organization as expressed in the articles of association or
certificate of incorporation. Nonprofit directors may not deviate in any substantial way from the
duty to fulfill the particular purposes for which the organization was created.
Does an untrained director, a lawyer, versus the investment expert, both on the Board, do they
owe the same duty?
Is the prudent investor rule out of touch? The text suggests that investment has gotten ahead of
the prudent investor rule, and what used to be prudent is now so overly conservative that it
actually may not be prudent at all.
CHAPTER 4: REGULATION OF CHARITABLE SOLICITATION
Why is attorney general interested?
AG has oversight, guardian duties of nonprofit corporations.
Simultaneously regulating and defending nonprofits.
Pros of Regulation:
Protect public perception
Cons of Regulation:
Impinge on free speech interests
Charitable solicitation is more than commercial speech. There is a special protection that
Problems, Page 315
1.a. & b. The 95% for the Tuna organization may be a better investment, because their
message is stranger and less well-known to the public, and they may view that money going to
the mailers as being a good investment for publicity. On the contrary, the Social Security
organization doesn’t need to invest in public awareness in the same way.
1.c. You cannot make the ―gift‖ be equal to the contribution, because if it was, the donor
would just be buying a good rather than making a charitable contribution. This is actually a
small example of fraud, because the organization is promising something that it isn’t doing. If
the organization says it will give a key ring, but in fact there is no key ring, then they’re
soliciting under false pretenses.
2.a. Would this even pass rational basis scrutiny for forbidding police and fire organizations
from hiring professional solicitors? Probably not. When you have the right to speak, you also
have the right to hire someone to speak on your behalf.
2.b. This is probably a reasonable time, place and manner restriction. There is a safety
consideration with allowing someone to ―speak‖ on the busy roadways.
2.c. If just applied to commercial organizations, this would be okay. But when you’re
restricting people with a right to speak above commercial, there is an overbreadth problem that
would probably kill the ordinance.
Solicitation Over the Internet (p. 312)
The fact that something is happening in cyberspace doesn’t change the activity. If a non-profit
can’t do something gin the ―real world,‖ it cannot do it on the internet either. For example, a
501(c)(3) organization cannot engage in political activity. Therefore, such an organization
cannot have a link to a ―Re-Elect The Mayor‖ website on their webpage. How many links are
okay? What if a 501(c)(3)’s site links to some other site that has a link to a political site? We
don’t know yet if that’s okay, or how many links of distance will be okay.
If a state decides to have nonprofits register, does everyone soliciting via a website have to
register as well? Thus far, nonprofits are not required to register everywhere that can access their
website. It is a minimum contacts analysis, and it is an issue of whether you’re deliberately
directing your activity toward the forum state.
CHAPTER 5: TAX EXEMPTION: PUBLIC BENEFIT ORGANIZATIONS
―The requirements for obtaining federal tax-exempt status, the Code’s elaborate system of
classifying nonprofits, and the accompanying maze of charitable deduction rules must be a
constant presence for nonprofit directors, managers, fundraisers, and philanthropists.‖ (p. 322)
The chapter is headed ―public benefit organizations.‖ The handout from Week 2 with the table
showing the interplay between some of the state law terms and the federal categories of
organizations is helpful in clarifying this. When we’re talking about PBOs, we’re talking about
tax-exempt under 501(c)(3) or under 501(c)(4).
Every 501(c)(3) is either a private foundation or a public charity. IRS starts out assuming that
you’re a private foundation, and the applicant has the burden of showing that it is a public
charity. Private foundations are generally subject to rules and excise benefit taxes that
organizations usually prefer to not have to deal with.
Rationale for Charitable Tax Exemptions
Public Benefit Income Capital Subsidy Donative
Subsidy Theory Measurement Theory Theory
Church Fails—gov’t cannot Supports (see Supports Supports—the
get involved in this example below) bulk of income is
activity so no burden donations
School Supports—more Iffy—tuition Iffy Iffy—donations
schools are public looks like goods not primary
than private) for payment source of
Hospital Supports Iffy—looks a lot Fails—private Iffy—donations
like a business, hospitals are not primary
but they still get taxed and survive source of
contributions. just fine. revenue
Salvation Supports Supports Supports Supports—the
Army bulk of its
Traditional Public Benefit Subsidy Theory: The benefits provided by the organization relieve
the burdens of government by providing goods or services that society or government is unable
or unwilling to provide.
Income Measurement Theory: Public benefit organizations are exempt because they are
inappropriate objects of income taxation. The concepts used to consider income tax just do not
seem to apply very well to nonprofit organizations. This works less well for schools and
hospitals where there is a more logical service-for-pay notion of their income.
Example: Most of a church’s money comes from the offerings it collects from its congregation.
That doesn’t really look like income in the way that we’re used to seeing it.
Capital Subsidy Theory: The exemption serves to compensate for difficulties that nonprofits
have in raising capital, and that this ―capital subsidy‖ can promote efficiency when employed in
those industries in which nonprofit firms serve consumers better than their for-profit
counterparts. The idea is that even a marginal tax on nonprofits will essentially tax them out of
Donative Theory: The primary rationale for a charitable exemption is to subsidize those
organizations capable of attracting a substantial level of donative support from the public. If an
organization receives a certain threshold of donations, then the public favors that organization
enough to justify giving it an exemption. Where that threshold line is drawn makes a lot of
difference. For instance, a school may get only 15% of its revenue from donations, so if a
―majority‖ of the revenue must come from donations, then the school wouldn’t fit. But if the
line was drawn to be more than 10% of revenue comes from donations, the school is in.
Requirements For Exemption under 501(c)(3)
1. Organizational Form
a. ―Corporations, and any community chest, fund, or foundation…‖
i. Unincorporated association
ii. Charitable trust
iii. Nonprofit corporation
iv. Limited liability company
2. Organized and Operated Exclusively for Charitable Purpose
a. ―…organized and operated exclusive for religious, charitable, scientific, testing
for public safety, literary, or educational purposes, or to foster national or
international amateur sports competition (but only if no part of its activities
involve the provision of athletic facilities or equipment), or for the prevention of
cruelty to children or animals…‖
b. Organizational test: 1.501(c)(3)-1(b)
i. Articles must limit you to purposes acceptable under 501(c)(3), and the
Articles cannot permit you to engage in activities that are not acceptable
ii. Articles must state a purpose as broad as, or more specific than, the
purposes stated in 501(c)(3) (the purpose cannot be broader).
iii. Distribution of assets upon dissolution
c. Operational Test: 1.501(c)(3)-1(c)
i. Primarily: The word ―exclusively‖ is interpreted as ―primarily‖ because
otherwise even something like a school’s bake sale would be
ii. No private inurement
iii. Not an action organization
1. Main or primary objective may be attained only by legislation or
defeating proposed legislation
2. It advocates or campaigns for the attainment of such main or
d. Charitable purpose
iv. testing for public safety
vi. educational purposes
vii. foster national or international amateur sports competition
viii. prevention of cruelty to children or animals
e. Not inconsistent with public policy
3. No Private Inurement
a. ―[N]o part of the net earnings of which inures to the benefit of any private
shareholder or individual…‖
4. No Substantial Lobbying
a. ―[N]o substantial part of the activities of which is carrying on propaganda, or
otherwise attempting, to influence legislation…‖
b. Not an outright prohibition: you can do some, but not too much
5. No Political Campaign Activity
a. ―[A]nd which does not participate in, or intervene in (including the publishing or
distributing of statements), any political campaign on behalf of (or in opposition
to) any candidate for public office.‖
b. Unlike lobbying where the organization can do an insubstantial amount, political
campaign activity is forbidden entirely.
1. Tries to ask the questions that go to the points outlined above, and to determine whether
the organization will be a public charity or a private foundation.
2. Note that a church, for example, doesn’t have to file a Form 1023 because of First
3. Group Exemption Letter: Boy Scouts and Girl Scouts use this. It grants exemption to the
National organization and all of its sub-organizations and subparts.
4. Form was revised in October 2004. The downside is that it’s longer, but the up-side is
that it’s more comprehensive, thereby lessening the chances of follow-up questions from
5. Must submit it within 15 months of creation, but you get an automatic 12 month
extension. The tax exempt status will relate back to the date of incorporation.
Bob Jones University v. U.S., 461 U.S. 574 (1983):
Bob Jones University: Issue is that interracial marriage and dating were prohibited based
upon religious beliefs.
For an organization to be charitable, there is a common law understanding of what
―charitable‖ means, and something inconsistent with general public policy is inconsistent
with that meaning of ―charitable.‖
To be 501(c)(3), you must be ―charitable‖ in a sense that sort of umbrellas over the other
subcategories. You can’t claim to be educational ―rather than‖ charitable, because
educational is part of charitable.
The Court says, ―[A] declaration that a given institution is not ―charitable‖ should be
made only where there can be no doubt that the activity involved is contrary to a
fundamental public policy. But there can no longer be any doubt that racial
discrimination in education violates deeply and widely accepted views of elementary
Racial discrimination in other contexts, and gender discrimination, have not been held to
be of the same level of utmost importance.
Problems, page 383
(a) This is racial discrimination in a religious context, rather than educational, differentiating
it from Bob Jones. It’s an open question.
(b) Here the issue falls within the ambit of Bob Jones, even though it’s affirmative action.
We haven’t yet had the Court decide whether to apply Bob Jones to affirmative action
situations. Additionally, there is gender discrimination occurring, and that (thus far) has
not yet been identified by the Court as a problem requiring attention like under Bob
(c) We think of discrimination constitutionally, but this is a private college, so we set aside
the constitutional scrutiny. Is there a fundamental public policy being violated by this
college? Right now, the only public policy that has been specifically held to be
fundamental enough to preclude tax-exempt status is race discrimination in education.
Thus, this situation passes muster.
(d) If you’re an educational organization, you have to affirm in your Form 1023 that you
have a non-discrimination policy that you will follow. The IRS may believe that Blue
Prep hasn’t been following its policy because it only has one non-white student.
(e) This is a very closed group of people who have chosen a very specific set of beliefs and
practices. The exclusion may be a result of the premises on which the school is founded,
more than a pretext for racial discrimination.
(f) Is this a pretext? Or is this a group of people trying to benefit an ethnic group?
Economic Activity of § 501(c)(3) Organizations
1. Does the activity jeopardize the tax exempt status?
a. Organizational level
i. Commerciality doctrine
1. ―Looks like‖ for-profit business
2. Is it substantial?
3. Is it ―too successful?‖
4. What is the purpose?
ii. Commensurate-in-Scope doctrine
1. Expenses—how much are you spending on the activity?
2. Revenue—how much are you making off it?
3. Personnel—how much man hours are going into the activity?
4. Ratio—there is some notion of a ―speed limit‖ out there, like you
can come close to it or a bit over and won’t get in trouble, but
there’s not some ―posted‖ number
b. Individual level
i. Private benefit
ii. Private inurement
2. Is there a potential monetary sanction?
a. Excess benefit
i. An excess benefit transaction is one between a disqualified person and an
applicable tax-exempt organization where the benefits received by the
disqualified person is greater than the benefit received by the applicable
ii. Disqualified persons are generally the president, a substantial donor, etc.
These are persons with substantial influence over the group’s decisions.
3. Is the activity taxable?
[NOTES FROM CON LAW]
Grutter v. Bollinger (2003) [supp. 133]: Justice O’Connor was the swing vote.
- There was a compelling government interest in diversity of student body, and the court
found that the Law School was using a properly narrowly tailored means to accomplish that.
When we consider whether the program is ―narrowly tailored‖ to the goal of providing a
diverse student body, the following factors will be considered:
- No quotas (no reserving X number of seats for minorities, no strict percentages), but
goals are okay (―critical mass‖)
- Flexibility—individual consideration
- Consideration of race neutral (or less discriminatory) alternatives
- Temporary—Only used as long as necessary. Shouldn’t keep the remedy longer than
- Can’t unduly burden the rights of non-minorities—race is a ―plus‖ factor, but won’t
automatically eliminate anyone because they weren’t of the right race.
- Many diversity factors other than race
Gratz v. Bollinger (2003) [supp. 156]: This fails under the ―narrowly tailored‖ prong. The
compelling governmental interest remains the same, but unlike Grutter, the undergrad
program is not narrowly tailored enough: the automatic 20 points for being of a particular
race seems to be the failing point.
Is it a real difference that the undergrad program says ―you get 20 extra points‖ whereas the law
school says that ―it is a plus factor‖? Or is the undergrad program just being more honest?
- For the 25 years between Bakke and Gratz/Grutter, schools had operated believing that as
long as they abided by the factors listed above, they would be in compliance. O’Connor
uses the argument of reliance interest, saying that if educators have used this method for this
long, the Court may not want to ―flip-flop‖ all of a sudden. The country has relied upon
[END CON LAW NOTES]
What Is Charitable?
§ 170 allows deductions for individuals and companies for ―charitable‖ contributions. What §
170 does in terms of defining what is charitable is reference the kind of organization exempted
Community Benefit Standard
For hospitals, the old standard was ―charity care.‖ The modern standard under Rev. Ruling 69-
1. Open staff privileges
2. Open emergency room
3. Reinvests earnings in the organization
4. Community board
5. Accepts people who cannot afford it (―charity care‖)
Note that this is actually relaxing the old analysis of whether a hospital was providing ―charity
care.‖ Thus, in the Eastern Kentucky Welfare Rights Organization v. Simon case, a group of
poor people brought a suit arguing that under the Community Benefit analysis, the only way they
could get care is if it was an emergency.
IRS Examination Guidelines:
(These are factors considered, but no one factor is dispositive.)
1. Does the hospital have a governing board composed of prominent civic leaders rather
than hospital administrators, physicians, etc.?
2. If the hospital is part of a multi-entity system, do the minutes reflect corporate
separateness? Do they show that the board members understand the purposes and
activities of the various entities?
3. Is admission to the medical staff open to all qualified physicians in the area?
4. Does the hospital operate a full-time emergency room open to everyone, regardless of
ability to pay?
5. Does the hospital provide non-emergency care to everyone in the community who is able
to pay either privately or through third parties including Medicare and Medicaid?
Problems, page 395:
(a) There is very little by way of community benefit. Two major strikes against them are the
emergency room referrals, and the fact that they are only accepting patients who can pay.
They have an open staff and a community board, but the most important of the factors
(the community benefits) weigh against them.
(b) The IRS will probably ―nudge‖ the hospital in the direction of a modified policy. The
hospital will have to weigh their interest in the policy against their desire to be tax-
exempt, and they will probably modify their policy to satisfy the IRS.
(c) For-profit group practice, doctors represent 40% of the board, and the doctors have an
exclusive contract with a for-profit practice… the staff isn’t open, the board isn’t a
(d) A key issue is that this is ―at cost‖ as opposed to ―below cost.‖ Essentially, they are still
running a business. The fact that it is medical goods and it’s not specifically to patients
of a hospital (a hospital pharmacy selling drugs to its patients is a different situation),
won’t get ―over the hump‖ of requesting tax exemption.
Public Interest Law Firms and Other Legal Services
Problems, page 402:
(a) It is about the broad importance of the issue, not about the position taken by the firm.
(b) Didn’t go over
(c) The students tried to figure out a way to get a nice competitive advantage in the practice.
Because they’re tax-exempt they can afford to charge under-market prices. But it is not a
charitable group that’s receiving that benefit, so it’s not going to get there.
Community Development and Low-Income Housing
What makes an organization about community development as opposed to business
Helps lessen prejudice and discrimination against minority groups
Lessening neighborhood tensions and dissatisfaction arising from the lack of employment
Combats community deterioration
Problems, page 409
(a) You’ve got three out of five that are ―members of the business community‖ on the board.
Two of the five are business owners.
See § 1.501(c)(3)-1(d)(3) (page 470 of the statutory supplement)
The term ―educational‖ means
(a) the instruction or training of the individual for the purpose of improving or developing
his capabilities; or
(b) instruction of the public on subjects useful to the individual and beneficial to the
An organization may be educational even though it advocates a particular position or viewpoint
so long as it presents a sufficiently full and fair exposition of the pertinent facts as to permit an
individual or the public to form an independent opinion or conclusion.
Voter education / registration:
[Notes from Anne Eisele, from 10/3/05, when I was absent]
There is a line between advocacy and educational.
See pg. 416 Rev. Ruling 78-305
The nature of the issue is not the subject of examination but rather the method
Big Mama Rag v. US
The IRS said that BMR is not about education but rather about advocacy. That BMR did not
present a ―full and fair exposition‖.
BMR claimed that the ―full and fair exposition‖ test is vague. The DC circuit agreed that the test
Pg. 430 Problems
2) Denial of exemption because it promotes illegal activity
3) There is a distinction between discriminatory practices and a discriminatory idea. Even if an
idea is unpopular it still might be acceptable to educate people about it. This group is promoting
research. If there is a full and fair exposition rather than advocacy then it could be considered
educational. There is a weak argument to be made that this is against public policy. Bob Jones
does not go that far.
4) This seems to be educational in a broad sense.
5) How much of this organization’s activity is educational? They do perform abortions which is
There is no definition of religion given in the Code.
Religious schools, publishing companies, religious bookstores, religious broadcasting
companies, outreach and ministry activities can all be considered religious.
Religion is difficult to define and there are also constitutional issues to consider.
Two questions to ask:
1) Is it religious?
2) Is it a church?
The IRS is unlikely to attack a group based on the first question of is this a religion because it is
Holy Spirit Assn. V. Tax Commission
Pg. 434—There are two parts to question 1 (Is it religious?)
1) Does the religious organization assert that the challenged purpose and activities are
2) Is that assertion bona fide? Sincerely held?
Why is question 2—is it a church—an important issue?
Churches by definition are public charities and thus they are subject to fewer regulations than a
GC Memo 36993
The witchcraft group was found to be a church.
Pg. 442—Church characteristics—These are 14 points the IRS considers when evaluating if it is
Pg. 448 Problems
1) Religious? Yes. Is it a church? Probably but there still could be an issue of illegality.
2) Religious? Yes. Is it a church? If it is primarily religious (has a minister, holds services)
then it is a church. If it is just broadcasting then it is probably not a church. This would likely
qualify as a church.
3) Religious? Yes. There view about a Supreme Being is that there is no Supreme Being. Is it a
church? Possibly. This is an organization that might want to be considered a church for its tax
advantages. This is definitely an educational purpose.
Other Exempt Purposes
Prevention of cruelty to children and animals (This is probably included as a separate categories
because of the animals component. Additionally if a group is training individuals for the
Olympics, the group should be 501(c)(3) exempt).
Pg. 457 Problems
There is potential for abuse
1) College athletics is considered to be educational and not for revenue.
2) There are private inurement problems. This will not qualify because it is for the benefit of the
parents and their children.
State and local tax Exemptions
Indiana’s approach. If you are exempt under 501(c)(3) you are exempt from IN income taxes.
Property taxes: States are more cash strapped than ever.
PILOTS and SILOTS: Municipalities want some payment. Instead of paying taxes the non-
profit will voluntarily pay the government something.
The standard for property tax exemption is: 1) Ownership and 2) Use of the property.
Commercial Activities and Joint Ventures
1) Is this activity going to affect your tax exempt status?
--Commensurate in Scope
--Individual (maybe an individual who is running it is getting a huge salary)
(Either problems with the organization or with the individual can cause the IRS to revoke the tax
2) Might an individual be sanctioned as a result of the activity?
--Excess benefit transaction
(Both involve financial penalties to the individual)
3) Is the activity taxable?
--Unrelated business activity is going to be taxed. See §511-514
Economic activity, if excessive, can cause you to fail the operational test or the organizational
Commerciality doctrine: If you are too much like a business then you are less about being a
Commensurate in scope: How much are you putting into your charitable endeavor?
Pg. 478 Problems
1) Charitable. There is a social benefit to helping those with dependency problems. See pg. 472
(e) of the Statutory Supplement.
This is a related activity and it is not a problem even though it is substantial.
2) Historically YMCA’s have had exempt status. Property tax issues for the state might present
a problem. How can they be more charitable? They could have a sliding scale for membership
dues. They could allow children to come in on the weekends.
[End of Notes from when I was absent]
What is commercial activity? Any activity in which money changes hands.
When does it become a problem? It could jeopardize the tax-exempt status.
There isn’t one single case to look to in defining the commerciality doctrine. It is a very
nebulous idea. When a nonprofit organization starts to look too much like a for-profit business,
its tax-exempt status may be compromised.
When the activity becomes substantial, that’s a problem. A 501(c)(3) can engage in an
insubstantial amount of unrelated activity, but if the economic activity becomes too substantial,
that’s a problem.
Also, when it becomes too successful, that can be problematic. The organization is so large and
successful that it no longer seems like a nonprofit business.
Ultimately, it’s all about a purpose. Why are you engaging in the activity? If you are engaged in
a commercial business that does not further your exempt purpose and it is substantial, then
you’re no longer ―organized and operated exclusively [primarily] for a charitable purpose‖ as
required by 501(c)(3).
At what point does something become substantial? What would you tell your client organization
when it says we’re going to run a business and we want to know how big it can get before it
becomes a problem?
How much of your personnel’s time goes into the activity? How much are you spending on it?
How much are you making from it?
Page 478 Problems Continued
(a) see above
(b) see above
(c) In the real-life situation on which the problem is based, the IRS denied exemption. What
factors may have been important? The competition aspect is important. The locations
are interesting: they are located in health food centers and malls, making it ―one more
restaurant in the food court,‖ on some level.
(d) The fact that they operate at cost makes it different; if it was below cost then it would be
okay. The IRS wants to see the organization make a sincere effort at putting the services
under cost. The IRS wants to get the idea that it’s being operated for a charitable purpose
rather than a business advantage.
(e) Does the method of preparing stories for the magazine have an educational spirit to it?
Even if the magazine is large (like National Geographic), having an educational
character can help you qualify. One of the big hurdles here is that it was for-profit
before, so they’d need to be doing something differently to make it nonprofit.
(f) What programs are they offering? Are they educational? How? Can someone come and
get the benefit of going to the educational courses if they want to, but they don’t have to?
Additional problems from supplement:
(g) There are a large group of organizations out there that are private foundations. Those are
(h) I have no idea what’s going on because I’m not paying attention.
(i) A ―feeder‖ organization is required to pay all of its assets over to a separate 501(c)(3)
organization, and that kind of organization typically doesn’t qualify.
Functionally, we’ve got a nonprofit on one side. You could have a JV with another nonprofit, or
you could have a JV with a for-profit.
What sort of legal structure is the JV going to take? Often a partnership. Commonly now it will
be an LLC. But it’s an LLC that has elected to be treated as a partnership for tax purposes.
What’s a major advantage of the corporate form? Pass-through taxation. But they have a choice
and could also elect taxation as an entity.
What is a ―whole hospital joint venture?‖ The nonprofit hospital puts all of its assets into the JV
including the actual hospital.
Whole enterprise joint venture
Ancillary joint venture: The hospital gets involved in a JV to provide surgical service. This is
one small component of what the hospital is doing, as it still has all the rest of its programs. It
just takes one little piece and gives that to a JV. 2004-51 asks whether the income from the
activity will be taxable. The IRS says that depends on the purpose. If the JV is set up in a way
to further exempt purposes, then you’ll be okay and won’t have unrelated business income tax.
Fundamentally, 2004-51 answers two questions: (1) If it is an ancillary joint venture, your tax
exempt status won’t be jeopardized because it’s an insubstantial activity. (2)
Private Inurement: We are concerned about benefit to insiders.
Where does the private benefit doctrine come from?
What is private benefit, and how does it differ from private inurement?
Private inurement deals with insiders: directors, officers, members
Private benefit deals with anyone.
Private inurement says any is a problem—even $1 of benefit to an insider. But you’re going to
be incidentally benefiting individuals.
Private benefit says that ―more than substantial‖ is problematic. This flows from the use of the
word ―primarily‖ (as it is read into the requirement that the 501(c)(3) be organized and operated
exclusively/primarily for charitable purpose.
The IRS had a quandary about this because there was no penalty other than revoking tax-exempt
status that it could implement. Intermediate sanctions on excess benefit transactions are the
penalties the IRS created.
Code § 49-58 imposes excise taxes. These are tax penalties so severe that you cannot make an
informed business decision to violate it and take the penalty. What is an excess benefit
transaction? One between a disqualified person and an applicable tax-exempt organization
where the benefits received by the disqualified person is greater than the benefit received by the
applicable tax-exempt organization. The church pays more than fair market value by way of
compensation to its minister: that’s an excess benefit transaction.
Some people are assumed to be disqualified persons (substantial contributors, president). The
disqualified persons all have substantial influence over the decision. Some are presumed not to
be: 501(c)(3) organizations. The thorny category is the third category where you don’t say
they’re deemed to be or not to be disqualified, you just have to determine it based on the facts
and the factors set forth by the IRS.
Rebuttable presumption of reasonableness: IRS says if you meet the procedural requirements it
will presume the transaction is reasonable. It can be rebutted, but there are 3 criteria that are
essential: (1) decision made by disinterested group, (2) group making the decision relies on
appropriate data as to comparability, (3) deciding body must document the reasons for its
When will the IRS say that it is enough that they won’t just look to excess benefit penalties, but
will actually revoke 501(c)(3) status? When the improper activity starts to look pervasive, and
starts to look like it’s about benefiting the disqualified persons more than focusing on its claimed
Problems, page 518
1(a). Two people involved: department head and CEO. The CEO exercises substantial
influence and is thus automatically a disqualified person. There is a 501(c)(3), so there is an
applicable tax exempt organization. Reasonable compensation is not private inurement, which
makes sense because otherwise the nonprofit organizations couldn’t pay its employees. Private
benefit talks about benefit to anyone, not just outsiders. The IRS will say that because this can
be treated under private inurement it doesn’t need to be treated as private benefit.
What about the radiologist?
1(b). Private inurement? Fishbein is not an insider at the point when the contract is made, so
inurement doesn’t really apply since it only deals with insiders. Excess benefit? Here, the key
statutory term is someone with ―substantial influence.‖ Fishbein doesn’t appear to be one of
those. Private benefit? Question becomes whether or not it’s reasonable compensation.
LOBBYING Summary, Review & Highlights
Lobbying: Issue is whether there is substantial by 501(c)(3) organization. Mentioned that
lobbying these rules apply to public charities; I didn’t talk about the private foundation flip-side.
As we’re talking about lobbying, we’re talking about rules app. to public charities, and there are
more restrictive rules for private foundations which can do absolutely no lobbying, period, and
no political campaign activity (like charity). Insubstantial lobbying is okay for public charity,
but any lobbying is problem for private foundation.
How figure out if lobbying is substantial? Two tests:
Substantial Part Test: Basically applying language from Code, saying that if substantial part of
activities is lobbying. Difficult in practice because charities don’t know exactly where the line
is, and have no clear-cut guidelines. 501(h) Election allows a specific guideline, a clear line that
the organization cannot cross. It may be a lot of hassle for the org. to do just a little lobbying to
go for the 501(h). But if you’re concerned about crossing the substantiality threshold, it’s a good
idea to do the Election. The more lobbying you do, the more important certainty will be.
Problems Page 577:
1. We need to know the Exempt Purpose Expenditures (EPE): Everything spent in
furtherance of its exempt purpose. The problem gives the illustration that all activities listed in
some way furthers the exempt purpose, but what’s different is the IRS says that the political
activity must be carved out for closer monitoring. That gets us to the $1.25 million amount.
What about the Lobbying Non-Taxable Amount (LNTA)? You can spend up to a threshold
without being taxed. Anything below that LNTA is not taxed, but anything over that is taxed.
Grass Roots Non-Taxable Amount (GNTA): Same as LNTA.
Through the calculations… LNTA = $500,000 x 20% = $100,000; $500,000 x 15% = $75,000;
$500,000 x 10% = $25,000 = $200,000
GNTA = $200,000 x 25% = $50,000
List of Activities Direct Grass Roots All Lobbying
1 150,000 0 150,000
2 0 0 0
3 0 50,000 50,000
4 0 0 0
5 15,000 0 15,000
6 0 10,000 10,000
7 0 25,000 25,000
TOTALS 165,000 85,000 250,000
Because the organization spent over its threshold, it must pay a penalty in taxes. The IRS taxes
the greater of the overages. Because its ―all lobbying‖ overage is greater than its Grass Roots
overage, it taxes that.
At what point does it become a problem that the org. is going over its threshold? It is not a
problem after just one year of going over. The key word is ―normally.‖ If the org. ―normally‖ is
below the threshold, they’re okay. The IRS looks at a four-year time-span.
Page 579, other parts of the question:
If they had made an effective 501(h) expenses, and their expenses remained constant for four
years, then yes, they would jeopardize their tax-exempt status.
Will making the election serve as a red flag prompting a likely audit? The IRS says it won’t,
but do we believe them? A lot of org. haven’t made the selection, and those that have don’t
seem to have been pulled for auditing with any greater frequency than those that haven’t, but
it will probably take a longer study period to say for sure.
Practical suggestions… How might SAGE have restructured its activities to avoid excise tax
exposure? Anything they could’ve done differently? Usually start with the highest number:
the $150,000 (item 1). For the first part, it was okay; it was the ―urging to contact
legislators‖ that was a problem. We talk about the issue so long as we don’t urge action.
Section 4911 imposes the tax.
Private Foundation Issue: If SAGE makes the 501(h) election, it is stating that it is going to
be doing a certain amount of lobbying activity. A private foundation cannot do through
grants to other groups what it cannot do itself, so it can’t grant money to a 501(h)
organization for lobbying because the private foundation cannot lobby itself. The org. will
have to do specific accounting and show that the grant money from private foundations was
used for something besides lobbying in order to keep getting those grants.
If it loses its 501(c)(3) exemption, it cannot switch over to a 501(c)(4) org.
Let’s frame the problem. What the litigants in this area are saying to the IRS when it challenges
exempt status, they are saying it’s unconstitutional to condition a benefit on my agreement not to
exercise my political/constitutional rights. ―If you agree to sacrifice your right to petition
legislature, you can have this benefit.‖ You shouldn’t condition 501(c)(3) status on me saying I
agree to give up my right to political advocacy. That argument has failed at the Supreme Court
Lobbying: No substantial lobbying. Political Campaign Activity: None, zero, zilch. Cannot do
any PCA. Even the smallest amount can cost you your tax-exempt status.
What are some issues this raises? Where does this rule come from? Comes right out of the text
of 501(c)(3). Page 233 in the supplement. ―Does not participate in or intervene in…any political
campaign on behalf of or in opposition to any candidate for public office.‖
Political campaign. At what point does something become a political campaign? Is Sen.
McCain involved in a political campaign for presidency? Is Hilary Clinton? What about
advocating for Rudy Guilani? At what point does someone become a candidate?
At what point are you going beyond an educational function about issues versus an advocacy
function about an individual.
What is a political office anyway? The Supreme Court? 501(c)(3) organizations can get
involved making statements about Harriet Miers within the lobbying limitations because she’ll
go up or down based on Congressional activity. We are looking at elected offices for this.
Then you’ve got lurking behind all that the question: is the IRS consistent in the way this gets
enforced? You’ve got a taste of it in the text when it talked about Branch Ministries v. Risotti.
Case is about a full-page ad placed by a church about then-candidate Bill Clinton. He becomes
President, and IRS questions whether church was involved in improper activity. Had election
gone the other way, would IRS have raised that question? Would the investigation being done
now with the NAACP involving pro-Kerry statements be ―flip-flopped‖ if Kerry had won, and
would different charitable organizations be getting that attention? IRS constantly says no, but
it’s interesting to see in post-election times which organizations get the attention.
Page 579, Question 2
(a) First, as a practical matter, they would have a little more room in a mailing just to their
own members than one to the general public.
a. Then: how many issues? Can it be all about age, or does it have to be broader
than that? They don’t want to talk about a lot of issues.
b. An endorsement will be problematic.
c. Organizations with more of a political bent typically cast themselves in the
context of being educational or more generally charitable to ―stay within the
(b) Look at whether the chairman signed the statement in his own capacity, or in the capacity
as chairman? At what point are an individual’s activities attributed to his organization?
a. Let’s say he does everything in the statement except mention SAGE, but he
makes as harsh a statement as you can imagine.
b. It would be a very clear issue if the statement was on SAGE letterhead.
c. What other facts might make you attribute the statement to the organization? Was
he contacted at home to sign, or at his SAGE office? How does the general
audience perceive the person?
d. What’s the custom when statements are made by individuals on the board? Do
they typically speak on behalf of the organization, or do they typically speak only
for themselves with no imputation to the group?
e. How might they make changes? First, if they don’t have a good record already,
they should. Let’s get some policies in place and let’s have people making
statements who are not seen as the public face of the organization.
(c) If they are only publishing information about candidates, that’s different than publishing
information about a good cross-section of legislators. But it should not be just one party
or the other, and it shouldn’t be just people who voted against SAGE’s policy, etc. The
timing is relevant too: the closer to an election it comes, the more it looks like
campaigning. If it’s a regular publication, then it doesn’t look so much like campaigning.
(d) The organization is not encouraging people to attend the rally. It is being more subtle,
and maybe not deliberate. It is simply allowing its members to use the office facilities.
Show that it’s low-level employees, no board members or officers, and that no one told
them to do it, that they were just doing it of their own accord. Those would be favorable
facts for the organization.
(e) Voter registration projects are generally permissible even when you’re doing them in an
area that is generally for one particular candidate. If you are turning away some people,
though, that would be problematic. Must be done in non-partisan manner.
(f) Sponsoring candidate forums? Generally permissible. Have issue here with exclusion of
minority candidates. How significant must candidate be before included in forum? Must
be consistent, reasonable criteria applied.
(g) Renting mailing list should be okay if it’s donw on the same terms to others that are non-
political. If you’re renting to one party at a lower rate than another, you’ve got a
(h) Establishing & supporting political action committee is an obvious problem. A 501(c)(3)
cannot form a political action committee. It can form a (c)(4) and that (c)(4) can form an
(i) That’s okay, it’s a c4 forming the committee.
An incentive is created to donate to a c3 versus a c4 by allowing a deduction for c3 rather than
for a c4.
Standing by 3d Parties To Challenge Tax-Exempt Status: 3d party cannot generally do that. It
might be able to come in and encourage the IRS to raise the question.
PRIVATE FOUNDATION PREVIEW
These were charitable organizations for a while that escaped public scrutiny. You’ve got
essentially… let’s use Bentz’s name. We’ll set up the Bentz foundation. This is a great org.
doing charitable things. Bentz won powerball lottery and decided to give chunk of cash to
charitable org., the B Foundation, and we are the pool of people who want some of that money.
The problem in a nutshell is if you didn’t have some body of law, B sets up the org., who’s to say
it does anything charitable from that point? She can say it is to support education but it in fact
doesn’t do anything, doesn’t give grants, doesn’t have an active program, but B gets a massive
tax deduction. That’s what was happening. The early capitalists. Text points out that this is a
situation where the ―charitable‖ description was being abused because there was no
accountability to anyone. No laws adopted by Congress, and not accountable to general public
because they weren’t based in contributions from the public. Congress said we’ve got a certain
number of organizations should get that kind of public scrutiny, and some of them get that
scrutiny because of what kind of org. they are: church, hospital, school. Thus, public charities
may be public charities because of what they are.
Some get public scrutiny because of how they’re funded, e.g., United Way or Museum. If the
United Way stops doing what it’s supposed to, people stop contributing. Thus, Class II is how
the org. is funded.
Class III is org. closely tied to other public orgs. called supporting organizations.
We will look at how orgs. escape being classified as private foundations. For the PFs, we need
(Congress needs) some rules that apply to those orgs. to make sure that this org. really is
accountable, that they really are engaging in charitable activities, that they’re not being operated
solely to benefit their insiders. So Congress enacted §§4940-4945 of the IRC. 4941 deals with
self-dealing, insider transactions. § 4942 deals with qualifying distributions: that means this is
the amount the PF annually has to pay out for charitable purposes. We’re making sure they’re
using that massive endowment in order to advance charitable purposes. § 4945 is taxable
expenditures: these are things that we do not want PFs to spend its money on. We don’t want
you making grants to individuals unless you’ve got a scholarship procedure. Any lobbying
expenditure you make is forbidden under 4945, as is any political campaign contribution.
When I talk about the excise taxes under 4941 and 4945, we’re talking about taxes at the 200%
level. This is not like a situation where you might still engage in the activity despite the tax.
If you’re 501(c)(3) tax exempt, if you’re a public charity there are benefits that you won’t get if
you’re a private foundation. PF doesn’t really get defined anywhere in the code. It says you’re a
PF unless you fit one of the set exceptions.
Four features that private foundations typically have:
1. Charitable organization: Charitable in broad sense.
2. Funding. It is typically funded from 1 source or just a few sources. Examples:
a. Family Foundation: The largest PF in the country is the Bill & Melinda Gates
Foundation. The money came from them.
b. Corporate foundation: Ford Foundation. You’ll see relationships b/w corp.
foundation and the corp.: overlap b/w Board of Directors, or Board of the foundation
was appointed by the corp. Board. The charitable arm of the corp.
3. The Ongoing Funding Comes From Investment Income.
a. It is expected to do something with its annual return. But it is not like an organization
like a museum. Museums avoid treatment as a PF, even when funded from just one
or a few sources.
4. Making Grants.
a. The charitable activity of PF is making grants (as opposed to conducting an active
Why does it matter whether you’re treated as a PF versus treated as public charity (―PC‖)?
One reason is the charitable deduction that your donors can get. That issue will be put off
until the last class session.
The big reason this chapter selects for why you want to be a PC rather than PF is excise
taxes. These are not the kind of taxes where you go, ―This is the cost of doing business.‖
These excise taxes impose a significant initial tax and then come around with a second level
tax that is much, much greater. The IRS is trying to prohibit an activity by saying that if you
engage in it you’ll be taxed so extensively it would be fatal to your organization.
1. Investment Income § 4940.
a. Imposes tax of 2% on PF’s net investment income, a tax base that includes items
such as dividends, interest, royalties, & net capital gains, less directly related
2. Self Dealing § 4941.
a. Penalize virtually any transaction b/w PF and disqualified person.
b. Initial penalty is 5% of amount involved in the transaction on the self-dealer, and
2.5% (with a $10,000 cap) on foundation managers who participate & know what
c. Second-level taxes of 200% and 50% (with $10,000 cap) of the amount involved
are imposed if the self-dealing is not corrected.
d. Disqualified Person
i. substantial contributor
1. Any person (individual or corporations or other PFs) who
contributed or bequeathed aggregate of more than $5,000 to the PF
IF that amount is more than 2% of the total contributions &
bequests received by foundation from its inception through the end
of its taxable year when contribution is received.
2. Creator of charitable trust is always substantial contributor.
3. Person ceases to be treated as substantial contributor as of the close
of a foundation’s taxable year if, for a ten-year period ending at the
close of that year, the contributor or related person neither makes
any contribution to PF nor serves as the foundation manager.
ii. foundation manager
1. Officers, directors, trustees, or individuals having similar powers
iii. more than 20% owner of a business entity that is a substantial contributor
1. Ownership threshold is crossed by owning more than 20% of the
voting stock of corporation, of the profits interests of a partnership,
or of the beneficial interests of other entities.
iv. member of the family of any of the above
1. Spouse, ancestors, children, grandchildren, great-grandchildren,
and spouses of children, grandchildren, and great-grandchildren
v. corporations, partnerships, trusts or estates in which any of the foregoing
(as a group) have greater than 35% ownership interests.
1. ―Ownership interests‖ include voting stock, partnership’s principal
interests, or the trust or estate’s beneficial interests
3. Minimum Distribution Requirements § 4942.
a. Penalizes the failure to meet the charitable payout requirement of annual
―qualifying distributions‖ equal to 5% of the fair market value of the PF’s net
4. Excess Business Holdings § 4943.
a. Imposes tax on PF’s holdings that exceed a 20% ownership interest in the
enterprise (principal donor’s family business), reduced by the percentage owned
by disqualified persons.
5. Jeopardy Investments § 4944.
a. Penalizes 5% on amounts invested in a manner that jeopardizes the carrying out
of their exempt purposes.
6. Taxable Expenditures § 4945.
a. Include any expenditure for lobbying, electioneering and voter registration, grants
to individuals, grants to any organization that is not classified as a public charity,
and any other expenditure for non-charitable purposes.
You start out with a presumption that a 501(c)(3) is a PF. Your burden as the organization’s
attorney is to be able to say how you can get out of the PF category. The rules are in 509(a)(1)-
(4). Rather than go numerically, we’ll treat them conceptually. There are 3 ways (but 4 code
subsections) for how you escape treatment as a PF.
Policy Considerations for PF Exceptions
First, the type of organization. Second, where your money comes from. Third, because you
have a close relationship with another public charity. What do these three things have in
common? We are concerned with keeping the public eye on these activities. Congress says you
put the money in a PF, we have no idea what you’re doing, so we have all these excise tax rules
to bring your activities into the public light and make sure what you’re doing is really charitable
in the way it should be. On the other hand, there are certain groups that are already in the public
eye and we know they’re accountable to the public, because if they aren’t, they won’t be funded,
or because they have a close relationship to another organization that is accountable to the
public, or because they’re publicly accountable purely because of what they are and what they
509(a)(1): A charitable organization is a public charity
Problem, page 649-650
Who are the disqualified persons?
Amanda Burbank – substantial contributor & spouse of a sub. cont.
Earl Burbank – substantial contributor & spouse of a sub. cont.
3 local community leaders on the Board of Directors (as foundation managers)
Walter Russell – foundation manager & family member & sub. cont.
Aretha Burbank Russell – daughter of Amanda, of Earl, and spouse of foundation
manger/sub. cont. Walter
First, took chart on p. 650 and broke it down to pull out details. Then added up the total
across four years because what the public support calculation looks at, is the amount of
support the organization ―normally‖ receives. We’re looking at the numbers for a four-
PRIVATE OPERATION FOUNDATIONS
Operate like public charities but funded like PFs. A POF has usually been funded through a
small number of donors, or gets income from investement income rather than active program.
Instead of doing what most PFs do, a POF has actual active programs in addition to grant-
making. It uses its own money to do good works rather than just giving money to other people to
do good works.
DO NOT HAVE TO KNOW TESTS FOR THIS.
Problem, Page 664-666
They don’t want to deal with the excise taxes. They want to get the maximum charitable
contribution deduction that they can.
Yes. It certainly looks like they’re engaged in a charitable activity.
Qualify as supporting org.?
Organizational & operational test: probably, yes.
Operated/supervised/controlled by would be parent-subsidy relationship.
They don’t have that.
Supervised/controlled in connection with would be bro-sis relationship.
They don’t have that either.
Operated in connection with (either responsive or integral)? If JCF was
appointing at least one member of the Board, that would help by giving
them a voice for responsiveness. If the Ross Foundation engages in
activities such that but for the Ross Foundation the JCF wouldn’t do the
activities, then they’d meet the integral test.
Control: No. It is controlled basically entirely by disqualified persons.
A Few Additional Points
170(b)(1)(a)(6) sometimes called donative-supported public charity. The distinction is from
a 509a2 org. described as a ―service provider‖ publicly-supported charity.
Foundation is not a magic word when it appears in an organization’s name. E.g., the Cystic
Fibrosis Foundation is a public charity that collects from the broad population. The fact that
it has the word ―foundation‖ in its title doesn’t change anything.
Community Foundation: not private foundations, usually. Must pass public support test.
What they do is take donations for the community and use those donations to benefit the
community. Just because the word ―foundation‖ appears doesn’t make them a private
An issue with setting up a private foundation, and we saw it in the problem at the end of the
text with the Ross Foundation: One option that is used a lot of times by people in this
financial situation of wanting to donate a lot of money to a cause, is a donor advised fund.
The group to whom it is given holds the money and has control over it fully. The donor then
makes recommendations each year as to how they’d like to see that money used. The org.
does not have to comply with those suggestions but commonly does.
―Exclusively‖: In the 501(c)(3) org. & operational test we know the word ―exclusively‖
means ―primarily.‖ In the 509(a)(3) org. & operational test, ―exclusively‖ really does mean
o The org. you have to benefit to pass the org. test must be named in your articles of
incorporation. For example, if the Ross foundation is just going to benefit the
Jewish Community Federation, they must say that in their articles.
o There are situations where you can name a category (e.g., ―all the churches in
Valparaiso‖). When you can and cannot do that is complex, so it’s better to work
from the presumption that you should name the org. you’re supporting in your
Supporting orgs. are receiving a lot of attention from the IRS because of concerns regarding
abuse. It is a hot area in the press.
A. Jeopardize Exemption?
2. Private benefit
3. Private inurement
1. Excess benefit
1. U.B.T.I. (unrelated business taxable income)
i. Is $ Unrelated business taxable income?
1. regularly carried on [1.513-1(c)(1)]
2. trade or business [1.513-1(b)]
3. not substantially related [1.513-1(d)]
2. Subject to modifications
3. Less deduction
4. 512(a)(3): some of the things that are modifications for c3 or c4 orgs. are not
available for c7 orgs., specifically investment income.
5. 514: Debt-financed
U.S. v. American College of Physicians:
Commercial advertising space in the professional journal
This is not the income from the journal itself, the general subscription income. That would
They accept any advertisement, don’t try to control what the ad says
It’s an ongoing publication, so it is regularly carried on.
Hi-Plains Hosp. v. U.S.
Pharmacy within the hospital selling pharmaceutical to non-hospital patients
Three groups buying pharmaceuticals: hospital patients, general public, and private patients
of hospital doctors.
Hospital patients: substantially related to the hospital’s exempt purpose.
General public: not substantially related (rendering it subject to UBIT)
Private patients of hospital doctors: substantially related
Appeals court says this is a rural hospital that needs to give doctors some incentive to locate
their practice there. This is related, then, because it brings in the physicians that provide the
exempt service that would otherwise be unavailable.
The rule is basically, though, that most hospitals have the ―private patient‖ category on the
other side of the line, making it not substantially related.
Revenue Ruling 80-296
Sale of broadcasting rights by collegiate athletic conference
Regularly carried on? It is annual
Trade or business? Yup.
Substantially related? Yes. But why?
The purpose of intercollegiate athletics is to ―promote education,‖ not to generate income (so
National Collegiate Athletic Ass’n v. Commissioner
Advertising in the final four program
Occurs infrequently, because it only happens for just this one event
This advertising revenue wouldn’t be substantially related
However, this is not ―regularly carried on‖ because the event for which the program is used
is only a once-a-year function
Revenue Ruling 73-104
Art museum selling greeting cards with reproductions of art prints on them & information about
Is this substantially-related to the museum’s purpose? Yes.
Art museum with a gift shop, selling instructional literature, souvenirs, non-art related books, etc.
The things that had to do with art were not taxed, but the non-art related stuff was taxed
because those items weren’t substantially related to the museum’s purpose of promoting art.
Why isn’t selling the scientific literature educational? It may well be educational, but it has
to be related to the purpose of that specific org., which in this case is art promotion.
Note the trend: Trade or business, if discussed at all, is discussed briefly; this isn’t an issue.
Regularly carried on may produce an argument. When you’ve got a one-time sale going on and
a one-time event, you can say it’s not regularly carried on, so it doesn’t matter if it is unrelated to
your exempt purpose.
Corporate sponsorship activities:
Got very big; it was the bowl games that drove the IRS to act.
There is a line between sponsoring an event and advertising at the event. It is when a qualitative
statement is made about the sponsor that crosses the line into advertising. Just having a logo on
the field or having the announcers say the sponsor’s name is fine.
PROBLEMS, page 800-801
1. We have a private university with graduate colleges as well; we’ve got some
separately-incorporated entities the college controls.
a. Travel Tour Program: Not substantially related; it’s not tightly related enough to
b. Campus golf course: Golf team, students and faculty/staff use may be
substantially related. However, the general public doesn’t have a good argument
as to why that would be substantially related, so that becomes UBTI.
c. Commercial dairy run by college of agriculture: the income from milk and cream
sales would not be taxable, but further manufactured products like butter and ice
cream would be taxable
i. See 513-1(d)(4)(ii)
d. Auditorium: Dual-use facility being used for a purpose that is clearly non-profit
exempt activities, and also for commercial purposes.
e. Tennis club: unrelated so long as it’s regularly carried on
f. Summer sports camp: university would argue that the high school camp attendees
were prospective college students, and therefore making it substantially related
g. Football & basketball programs:
i. admission fees: related
ii. program advertising: unrelated
h. Parking garage: spectators & general public would be unrelated; but using it for
the convenience of patients, staff, physicians, visitors to the hospital, then that fits
in the ―convenience‖ exception and is excluded from UBIT.
i. Pharmacy: the patients visiting the private physicians is UBTI.
j. Daily news advertising revenue: if you’ve got students involved in selling ads for
the newspaper, then they are learning a vital component of the newspaper
business and it is educational. That argument is fortified if the students are also
designing the advertisements.
Problem, Page 818
1. Sturdley University problems
a. Football team pays rent to the university. That rent comes with some expenses,
like maintaining the playing surface. They also have to provide dressing room
and linen service, so those salaries will reduce the income that will be taxed; those
salaries paid will be offset against the rent income.
Other Exempt Organizations
There are other exempt organizations besides 501(c)(3).
501(c)(4): Political, whereas (c)(3) Not
What’s the difference between a WWF and a Sierra Club? Both have a purpose of protecting the
environment, and put that in their 1023. How they do it, is the difference. WWF doesn’t do it
predominantly through political avenues, but Sierra Club does. That is primarily where (c)(3)
and (c)(4) orgs. differ.
Mutual Benefit Organizations
These are primarily for benefiting their members, rather than the public. So why are they
collectively given some favorable tax treatment? Collective activity. We won’t tax it because
people are coming together to do it, because if they did it individually they wouldn’t be taxed.
501(c)(5): Labor, agriculture and horticultural organizations
Your unions have virtually nothing in the code that describes what they can and cannot do,
and you don’t get much more in the Regs. The org. needs to be devoted to betterment of the
conditions for those involved in those pursuits and occupations.
Pension funds do not fit in here.
No private inurement.
501(c)(6): Trade associations and other business leagues
Nonprofit business leagues, chambers of commerce, real estate boards, boards of trade, and
professional football leagues
Dues and investment income received are exempt from tax.
Must be organized to promote a common business interest provided the organization does not
engage in a regular business ordinarily carried on for profit.
o The ―line of business‖ test. We’re not thinking about something to benefit a
particular individual organization, and we are trying to think more widely than
that. What failed in the case was an organization built around IBM and its users.
The only group benefiting was IBM, and it was not a full ―line of business‖
benefiting from it.
o This is not involved in conducting business for profit. The fact that the members
make more profit as a result of the organization and its activities is fine; but the
organization itself shouldn’t be in the practice of making profit.
Political activity: They can do it, and it can be that the (c)(6)’s common business purpose is
advanced by the political activity. However, we learned with (c)(3) that what govt. does not
want is for political activity to be its primary goal.
Problems, Page 729
1(a): Do you have a line of business being served? The line of business is women-owned
businesses, and that is going to be acceptable under (c)(6) to qualify.
1(b): You have the IBM problem. The merchant in the mall isn’t really benefiting; the mall
developer is benefiting. If that’s the only interest being served then there’s no line of business.
2. Dues problem… the deductibility of the dues that the members pay will be impacted if
the organization is participating in political activity, even when it won’t jeopardize its (c)(6)
Problems, Page 909
(a) Uh-oh, tuned out. I have no idea what the answer was.
(b) Tell Ira not to specify what to do with the money. Just have Ira ―strongly suggest‖ that
the organization do that.
(c) Not if it’s earmarked because it’s going to the grad student rather than to the students.
Besides, it’s benefiting him, as a researcher—he’s getting his own research funded by a
donation that he’s making.
Dan should make the donation to the university’s geology department. He might be able
to earmark it to fund graduate research in that department.
(d) The donation of services is not deductible. Reasonable out of pocket expenses incurred
in the course of assisting an exempt organization are deductible.
(e) IRS doesn’t want to ―open the door‖ on putting a value on body parts.
(f) The recognition is fine; it’s deductible.
(g) He is buying a chance to win, and that has value. It becomes a quid pro quo, and it is not
(h) The difference between what she paid and the value of the item received is deductible.