Sec. 501(c)(4) and Private Benefit Ellen Aprill John E. Anderson Professor of Tax Law Loyola Law School Los Angeles, CA Overview • Recently, the IRS has invoked the private benefit doctrine to deny or revoke 501(c)(4) status for a number of organizations, all which also had a political tinge. • That is, the IRS asserted that these groups primarily benefited a private group of citizens and thus could not be exempt. • Are these actions a new approach or business as usual? Quick Review - what is a 501(c)(4)? • • • • “Civic leagues or organizations not organized for profit but operated exclusively for the promotion of social welfare.” “Exclusively” means “primarily.” Must be operated “primarily for the purpose of bringing about civic betterment and social improvements.” Reg. 1.501(c)(4)2(i). “Organization must be a community movement designed to accomplish community ends.” Erie Endowment No private inurement Comparing 501(c)(3) and 501(c)(4) • Greater latitude given to 501(c)(4)’s, i.e. can benefit a smaller group than (c)(3)s. – Organization formed to preserve and develop beauty of a city qualifies for 501(c)(3). Rev. Rul. 68-14. – Organization with membership limited to those on city block and formed to preserve and beautify public areas in the block does not qualify for 501(c)(3),but does for 501(c)(4). Rev. Rul. 75286. Comparing basis for private benefit limitation on eligibility for exemption • • • For 501(c)(3), doctrine derives from requirement that a 501(c)(3) serve a public rather than a private purpose. Reg. 1.501(c)(3)-1(d)(ii), American Campaign Academy. For 501(c)(4), doctrine is a logical extension of requirement that organization must promote “common good and general welfare of people of community.” Reg. 1.501(c)(4)-2(i), 1981 EO CPE Note: Private inurement prohibition applies to both 501(c)(3) v. (c)(4): Presence of NonExempt Activity or Purpose per EO CPE • 501(c)(4)’s may engage in substantial non-exempt activities. • In contrast, under Better Business Bureau (BBB), presence of a single, substantial noncharitable purpose will be disqualifying under 501(c)(3). • That is, per case itself, BBB does not apply to 501(1)(4). Services to members and other private parties by 501(c)(4)s per EO CPE • A 501(c)(4) generally cannot limit its services and benefits to members. – Some membership groups, however, primarily serve community interests. • 501(c)(4) organization cannot impose restrictions that bear no relationship to fulfillment of the organization’s social welfare aspirations. • Some private benefit permissible, but activities must remain primarily social welfare. PLR 201224034: Recent denial of 501(c)(4) status because of private benefit • Organization formed to promote solutions to State’s challenging problems through advocacy and publicity. – Anticipated programs include those aimed at environment, enforcement raids, school programs, job development. – Founder is sole director; president, secretary, and treasurer (only officer) and primary funder. PLR 201224034 con’t • Activities suspended during Founder’s election campaign • Founder maintains blog; 5 of 17 entries criticized former opponent in race for elected office and contained link to Founder’s campaign website • Organization will also conduct activities in connection with Founder’s election as chair of statemandated County organization . Conclusion in PLR 201224034: Not eligible for exemption under 501(c)(4) • Ruling states that programs designed strictly to promote Founder and Founder’s pursuits. • Cites BBB – does it apply? • Relies on Contracting Plumbers Cooperative Restoration Corp to conclude not eligible if primarily benefit private group. • – That case involved repair to city streets only by members of organization, thus advancing members’ business interest – But here no members. Issue is benefit to Founder, who is also sole director and officer. • Why not use private inurement? PLR 201224034 con’t • Emphasizes Founder as single member and officer of board and absence of community input or oversight. • Is ruling in fact based on governance concerns? – See, e.g., PLR 201203025 (inurement when board members related) – Some have suggested that IRS concludes that there is per se inurement/private benefit in such situations. Hopkins, Fishman. – See Leff, Federal Regulation of Nonprofit Board Independence: Focus on Independent Stakeholders as a ‘Middle Way,’ 99 Ky. L. 731 (2011). PLR 201224034 con’t • Does ruling turn on assumption of future inappropriate dealings with entities such as statemandated County organization? • Ruling also states: “Additionally, you have not established that your primary activity is not to engage in direct or indirect political intervention.” • As others have noted, requiring an organization to show that it is not a political organization is unusual. Recent rulings identified by press as involving affiliates of Emerge America • • • • All groups are devoted to cultivating female political Democratic leaders 3 groups – Nevada, Maine, Massachusetts – denied exemption as 501(c)(4)s in 2011 in near identical, heavily redacted rulings. – PLRs 201128032, 34, 35 5 groups – probably California, Arizona, New Mexico, Wisconsin, and Kentucky – have exemption revoked in 2012 in near identical, less redacted rulings. – PLRs 201221025, 26, 27, 28, 29 None of the rulings asserted excessive campaign intervention Rulings rely on American Campaign Academy to conclude that organizations primarily benefit private parties and individuals. • Ruling states that standard for determining private benefit described in American Campaign Academy applies to (c)(4) as well a (c)(3). • Thus, an organization which conducts education to benefit a political party and candidates serves private interests. • Despite benefit to community, primary benefit is to Party and its candidates; activities have partisan objective. American Campaign Academy, 92 T.C. 1053 (1989) • School founded to train campaign professionals seeks 501(c)(3) status. • Denied on basis that it served Republican entities and candidates more than incidentally and thus did not operate exclusively for exempt purpose, as c-3 operational test and BBB requires, because it operated for the benefit of private interests. American Campaign Academy con’t • Although no formal placement program, record lacked evidence that any graduate for Democratic candidate; 85 grads worked in Republican campaigns; several worked as consultants; one in foreign country. • Outgrowth of National Republican Congressional Committee program; funding from National Republican Congressional Trust; affiliation of applicants could be deduced American Campaign Academy con’t • Case distinguished primary private benefit provided to students from secondary private benefit provided to eventual employers. • Court accepts IRS argument that “where the training of individuals is focused on furthering a particular targeted private interest, the conferred secondary benefit ceases to be incidental to the providing organization’s exempt purpose.” American Campaign Academy con’t • Even if political candidates and entities comprise a charitable class, must prove that “its activities benefited the members of the class in a nonselect manner.” • Court concludes that organization cannot meet strict 501(c)(3) tests, which require service to public interests rather than to private ones. American Campaign Academy con’t • Purported to distinguish rulings which gave 501(c)(3) status to programs to train individuals to work in particular industry and funded by that industry. • “[P]etitioner must show that Republican entities and candidates possess charitable characteristics.” Criticism of American Campaign Academy by Prof. John Colombo • • • The notion that training violates the private benefit rules because a majority of graduates gravitate to one political party over another is like saying that Stanford should lose exemption if we found that its graduates disproportionately worked for Apple. But arguably different result, namely denial of exemption, should obtain if noncharitable organization has special access to charitable benefits denied to others, e.g. Republican party having special access to ACA graduates. Others (Darryll Jones, Laura Chisolm) make similar criticisms. Can American Campaign Academy be applied to 501(c)(4)s? • Case decided private benefit very much on the basis of (c)(3) standards – Those receiving secondary benefit must constitute a charitable class. – Cannot have substantial nonexempt purpose under BBB. More on extending American Campaign Academy (ACA) • ACA criticized even when applied to (c)(3). – Under ACA, Emerge America groups would not be eligible for (c)(3) under suggested Colombo’s revised private benefit doctrine of special access by noncharitable groups (here Democratic Party) • When are (c)(4)s subject to BBB requirement of no substantial nonexempt purpose? • (c)(4)s allowed to be partisan • No allegation of campaign intervention in these rulings But, whatever the academic criticism, American Campaign Academy is precedent • It is a longstanding IRS position that, per ACA, activities conferring substantial private benefit upon partisan political interests prevent qualification for 501(c)(4) as well as 501(c)(3), even if the activities do not constitute campaign intervention. – ABA 2004 Report on 501(c)(4) citing 1997 letter from IRS to Empower America. • If so, why was exemption initially granted to the Emerge America affiliates? Should these groups in fact 527s? • An activity engaged in in between elections, which is directly related to, or supports, the process of selection, nomination, or election of an individual in the next applicable political campaign is an exempt  function. – Reg. 1.527-2(c)(1) . • Between elections . . . P does train staff members for the next election, – Reg. 1.527-2(c)(5) Example 7. Do these rulings suggest that organization’s burden re inurement and private benefit will be higher when organization has a clearly an identifiable partisan flavor?