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Sunday, September 11, 2005

Private Inurement and §501(c)(3) Status - Proposed Regulations Issued

Organizations that seek exemption from federal income tax under §501(c)(3) of the Internal Revenue Code cannot operate in a manner that its earnings benefit private individuals or organizations. An organization seeking exemption files an application with the IRS to see if it qualifies.

Once qualified, an exempt organization may be subject to a special excise tax if it operates in a manner that benefits private interests (Code §4958). Proposed regulations issued on September 8, 2005 provide proposed guidance on the interaction between Code §4958 violations and §501(c)(3) status.

These proposed regulations provide that the anticipated violation of Code §4958 by an organization applying for Code §501(c)(3) status may jeopardize the issuance of a favorable Code §501(c)(3) ruling.

Further, for organizations that already have a Code §501(c)(3) ruling, the regulations provide certain criteria to be applied by the IRS in determining whether an organization’s Code §501(c)(3) ruling should be revoked. These factors are (A) the size and scope of the organization's regular and ongoing activities that further exempt purposes before and after the excess benefit transaction or transactions occurred; (B) the size and scope of the excess benefit transaction or transactions (collectively, if more than one) in relation to the size and scope of the organization's regular and ongoing activities that further exempt purposes; (C) whether the organization has been involved in repeated excess benefit transactions; (D) whether the organization has implemented safeguards that are reasonably calculated to prevent future violations; and (E) whether the excess benefit transaction has been corrected (within the meaning of section 4958(f)(6) and §53.4958-7 of this chapter), or the organization has made good faith efforts to seek correction from the disqualified persons who benefitted from the excess benefit transaction.

Prop Reg § 1.501(c)(3)-1 , Prop Reg § 53.4958-2.

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