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Public Charity Or Private Foundation Status Issues Under IRC 509(A)(1)-(4), 4942(J)(3), and 507

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Public Charity Or Private Foundation Status Issues Under IRC 509(A)(1)-(4), 4942(J)(3), and 507 Public Charity or Private Foundation Status Issues under IRC 509(a)(1)-(4), 4942(j)(3), and 507 By Virginia G. Richardson and John Francis Reilly Exempt Organizations-Technical Instruction Program for FY 2003 Public Charity or Private Foundation Status Issues under IRC 509(a)(1)-(4), 4942(j)(3), and 507 By Virginia G. Richardson and John Francis Reilly Overview Purpose This article presents an overview of the issues confronted when dealing with whether an organization is a public charity or a private foundation, whether it is a private operating foundation, and what are the rules regarding termination of private foundation status. Introduction: To a great extent, the Tax Reform Act of 1969 is based on the distinction Public between private foundations and public charities. Private foundations are Charity/Private subject to the excise taxes imposed by IRC chapter 42, while public charities Foundation are not. It is, therefore, most advantageous for an IRC 501(c)(3) organization Distinction to be classified as a public charity rather than as a private foundation. In This Article This article contains the following topics: Topic See Page Overview 1 Organizations That Engage in Inherently Public Activity (IRC 7 509(a)(1) and 170(b)(1)(A)(i)-(v)) IRC 170(b)(1)(A)(ii) Exclusion - Certain Educational 16 Organizations IRC 170(b)(1)(A)(iii) Exclusion - Hospitals and Medical Research 27 Organizations IRC 170(b)(1)(A)(iv) Exclusion - Endowment Funds Organized 40 and Operated in Connection with State and Municipal Colleges and Universities IRC 170(b)(1)(A)(v) Exclusions 43 IRC 509(a)(4) 45 Publicly Supported Organizations Described in IRC 509(a)(1) and 46 170(b)(1)(A)(vi) Community Trusts 76 Publicly Supported Organizations Described in IRC 509(a)(2) 85 The 33 1/3 Percent Good Support Test and the 33 1/3 percent 98 limitation on Gross Investment Income and UBI – Computation of Normal Support Supporting Organizations Described in IRC 509(a)(3) 116 IRC 4942(j)(3) – Private Operating Foundations 146 IRC 507 – Termination of Private Foundation Status 169 Detailed Subject Directory (Numerical) 221 Detailed Subject Directory (Alphabetical) 228 Continued on next page Public Charity or Private Foundation Status – page B-1 Exempt Organizations-Technical Instruction Pro gram for FY 2003 Overview, Continued Introduction Organizations described in IRC 501(c)(3) fall into two categories, private foundations and public charities. IRC 509 makes the statutory distinction between private foundations and public charities. S IRC 509 does not define "private foundation”; instead, it provides that all organizations, foreign and domestic, described in IRC 501(c)(3) are private foundations except the types of organizations set forth in IRC 509(a)(1), (2), (3), or (4). S "Public charities" is the generic term given to the excepted organizations. Distinction The private foundation/public charity distinction applies to both foreign and Includes domestic organizations. Foreign Organizations Importance of The distinction between private foundation and public charity classification is the Distinction critical; public charity status is by far the more advantageous category. The principal reason is that private foundations are subject to the provisions of IRC chapter 42. They must: S Refrain from acts of self-dealing (IRC 4941), S Meet minimum distribution requirements (IRC 4942), S Abstain from "excess business holdings" (IRC 4943) and "jeopardizing investments" (IRC 4944), and S Refrain from making certain expenditures (IRC 4945) - while public charities are not subject to the provisions of IRC chapter 42. Public charities are, however, subject to IRC 4958. Continued on next page 2 Exempt Organizations-Technical Instruction Program for FY 2003 Overview, Continued Importance of Additional advantages flowing from public charity classification involve: the Distinction, continued S Exemption from the IRC 4940 tax on net investment income to which most private foundations are subject, S Less burdensome reporting requirements (the annual information return that private foundations must complete, Form 990-PF, is more complex than the information returns filed by public charities (Forms 990 and Form 990-EZ)), S Exemption, in the case of certain public charities, from various federal excise taxes, and S Additional fundraising opportunities. Fundraising The fundraising advantages take several forms. Advantages S Higher dollar limitations apply to contributions made by individuals and corporations to public charities. S Under IRC 642(c), organizations classified under IRC 509(a)(1) may establish and maintain pooled income funds; other organizations described in IRC 501(c)(3) may not. S The expenditure responsibility rules of IRC 4945(d)(4) make it far more likely that a public charity will receive grants from private foundations. Continued on next page Public Charity or Private Foundation Status – page B-3 Exempt Organizations-Technical Instruction Pro gram for FY 2003 Overview, Continued Types of Essentially, the types of organizations that qualify as public charities can be Organizations categorized as follows: that Qualify as Public Type A. Organizations That Engage in Inherently Public Activity Charities (IRC 509(a)(1) and IRC 170(b)(1)(A)(i)-(v)) S Churches or conventions or associations of churches (IRC 509(a)(1) and 170(b)(1)(A)(i)) S Educational organizations that normally maintain a regular faculty and curriculum and normally have a regularly enrolled body of students in attendance at the place where their educational activities are regularly carried on (IRC 509(a)(1) and 170(b)(1)(A)(ii)) S Hospitals and medical research organizations (IRC 509(a)(1) and 170(b)(1)(A)(iii)) S Organizations that provide support for a state college or university (IRC 509(a)(1) and 170(b)(1)(A)(iv)) S Governmental units of the United States (IRC 509(a)(1) and 170(b)(1)(A)(v)) Type B. Publicly Supported Organizations (IRC 509(a)(1) and 170(b)(1)(A)(vi); IRC 509(a)(2)) S Organizations that receive substantial support from a governmental unit or from the general public (IRC 509(a)(1) and 170(b)(1)(A)(vi)) S Organizations supported by exempt function income (IRC 509(a)(2)) Type C. Supporting Organizations (IRC 509(a)(3)) Type D. Organizations That Test for Public Safety (IRC 509(a)(4)) Continued on next page 4 Exempt Organizations-Technical Instruction Program for FY 2003 Overview, Continued Determining Determining private foundation classification under IRC 509 is not always a Private simple matter. Whether an organization qualifies as one that engages in an Foundation inherently public activity, as a publicly supported organization or as a Classification supporting organization may involve the application of some very arcane under IRC 509 rules. S The Tax Court has characterized the IRC 170(b)(1)(a)(vi) regulations as "almost frighteningly complex and difficult" (Friends of the Society of Servants of God v. Commissioner, 75 T.C. 209, 213 (1980)), while a district court, in considering the IRC 509(a)(3) regulations, commented that "the IRS has drafted fantastically intricate and detailed regulations to thwart the fantastically intricate and detailed efforts of taxpayers to obtain private benefits from foundations while avoiding the imposition of taxes." Windsor Foundation v. United States, 77-2 U.S. Tax Cas. (CCH) 9709 (E.D. Va. 1977) Types of Private foundations are also subdivided into the categories of private Private operating foundations and private nonoperating foundations. Foundations S Private operating foundations are private foundations whose income or assets are used, to a substantial extent, for operations that directly benefit the public, rather than for grant-making purposes. This article also deals with the tests for qualification as a private operating foundation. Terminations The final topic of this article concerns termination of private foundation status under IRC 507. All organizations that have private foundation status are subject to the IRC chapter 42 provisions and to the supervision that results from the enforcement of those sanctions. Only by demonstrating that this supervision is no longer necessary can a private foundation terminate that status. Continued on next page Public Charity or Private Foundation Status – page B-5 Exempt Organizations-Technical Instruction Pro gram for FY 2003 Overview, Continued Terminations, S The only way an organization can terminate its private foundation status continued is to comply with the requirements of IRC 507, that is, by showing that its assets are subject to public supervision, either through transfer of its assets to a publicly supported organization, by operation as a publicly supported organization, or by following the rules of IRC 507(a)(1) relating to voluntary terminations. This article will discuss those termination rules as well as the rules relating to the situation where a private foundation transfers its assets to another private foundation. 6 Exempt Organizations-Technical Instruction Program for FY 2003 Type A. Organizations That Engage in Inherently Public Activity (IRC 509(a)(1) and IRC 170(b)(1)(A)(i)-(v)) IRC The IRC 170(b)(1)(A)(i) exclusion covers "a church or a convention or 170(b)(1)(A)(i) association of churches." Exclusion- Church or Convention or Association of Churches Meaning of The term "convention or association of churches" generally refers to the "Convention or central association or convention of a group of churches or to an organization Association of of churches of differing denominations. Churches" S Thus, an organization having a membership comprised of churches of various denominations in a geographic area for the purpose of developing the spirit of Christian fellowship and cooperative mission among the local churches and of promoting the spiritual, moral, social, and civil welfare of the area qualifies as an "association of churches" within the meaning of IRC 170(b)(1)(A)(i). Rev. Rul. 74-224, 1974-1 C.B. 61. Relationship of Churches are a subset of IRC 501(c)(3) organizations organized and operated IRC for religious purposes.
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