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Saturday, May 13, 2006


In the tax world, as in the rest of the world, there is usually a right way and a wrong way to do things. A recent ruling illustrates this in regard to charitable Section 501(c)(3) organizations.

Charitable organizations that seek to qualify as tax-exempt organizations under Section 501(c)(3) must be operated exclusively for charitable purposes. Some of these organizations provide down payment assistance to buyers of residential real property to help people in need acquire a home. Revenue Ruling 2006-27 provides three examples of such programs - two qualify under Section 501(c)(3) and one doesn't. Can you figure which one doesn't qualify?

a. A non-profit corporation X helps low-income individuals and families buy decent, safe and sanitary homes by providing part or all of the funds needed to make a down payment. It requires home inspections to ensure that the houses will be habitable. It provides financial counseling seminars and other educational programs to prepare potential home buyers for the responsibility of home ownership. Funding comes from a broad based fund-raising program, and it receives support from a wide array of sources. X ensures that its grant making staff doesn't know the identity or contributor status of the party selling the home to the grant applicant (or any other party who may receive a financial benefit from the sale), and it doesn't accept contributions contingent on the sale of any particular properties.

b. A nonprofit corporation Y provides services similar to those provided by X. However, to finance its down payment assistance activities, Y relies on most of its support from sellers and other real-estate related businesses. In deciding whether to provide assistance to a low-income applicant, Y's grant making staff knows the identity of the home seller and may also know the identities of other interested parties and is able to take into account whether the home seller or another interested party is willing to make a payment to Y. There is a direct correlation between the amount of the down payment assistance provided by Y in connection with each of these transactions and the amount of the home seller's payment to Y.

c. A nonprofit corporation Z combats community deterioration in an economically depressed area. Z cooperates with government agencies and community groups to develop a plan to attract new businesses to the area. It helps low and moderate-income families to acquire decent, safe and sanitary housing in the area. It provides counseling and financial assistance to prepare home buyers for the responsibilities of home ownership. Funding comes from a broad based fund-raising program that attracts gifts, grants and contributions from several foundations, businesses and the general public.

Under the Revenue Ruling, organizations X and Z, under examples a. and c., qualify for Section 501(c)(3) status. Corporation Y under b. does not. The problem under b. is that home sellers are providing funding to the program, and then receive a benefit from it when their contributions are directed to buyers of their properties based on the contributions given. While the IRS acknowledges some charitable benefit arises to the buyer from the transaction, the benefit to the seller keeps the program from being operated EXCLUSIVELY for charitable purposes and thus disqualifies corporation Y from Section 501(c)(3) status.

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