MISSION CREEP COSTS A SECTION 501(c)(3) ORGANIZATION ITS EXEMPTION

SUMMARY: A change in function of a Section 501(c)(3) organization results in the IRS revoking its exemption.

To receive Section 501(c)(3) status, exempt organizations apply for exemption from the IRS. The exemption application provides details on what the organization intends to do, and the IRS confirms that it is an appropriate activity for a Section 501(c)(3) organization.

Many times, as organizations evolve they move into other areas and functions. Such organizations must monitor their functions and determine that the new functions are exempt functions under Code Section 501(c)(3).

In a recent Taxpayer Assistance Memorandum, an exempt organization and public charity was formed to operate a private school. Over time, its function drifted to the purchase or lease of school buildings that it then renovated, leased, and subleased to nonexempt charter schools. The IRS determined that such landlord functions were not an exempt purpose under Code Section 501(c)(3), and it revoked the exempt status of the organization.

The TAM is interesting for a number of reasons, including:

   1. It is a warning to exempt organizations that the IRS will not tolerate mission creep away from the original exempt purposes of the organization. Organizations undergoing a change in purpose and function should advise the IRS of these changes prospectively and confirm that such changes do not jeopardize exempt status.

   2. Leasing real estate is generally a nonexempt trade or business carried on for profit.

   3. At times, a business can be regarded as exempt if it is an integral part of the exempt activity of a related exempt entity. Counsel for Bibliographic and Information Technology, T.C. Memo. 1992-364. In the TAM, the lessees, while they were schools, were not exempt entities.

   4. Further, an organization may conduct a business in a charitable manner to promote the exempt purpose of an unrelated exempt organization. For example, the provision of leased space at rents well below market the levels can be exempt. Rev.Rul. 69-572. This was not helpful in the TAM because again, the lessees were not exempt organizations. Further, while the exempt organization did reduce the rents below market values, the reduction was not low enough since the exempt organization recovered its costs and also accumulated a surplus.

   5. That an organization conducts some exempt activities along with its non-exempt activities may not act to save the exemption. Here, the organization conducted an educational summer program. The TAM concluded that this constituted only a minor portion of its time and resources, and thus the activity could not be considered a substantial purpose or basis for exemption. The TAM cited the U.S. Supreme Court in Better Bus. Bureau of Washington, D.C. v. U.S., 326 U.S. 279,283 (1945) which provided "that the presence of a single non-educational [exempt] purpose, if substantial in nature, will destroy the exemption [under § 501(c)(3)] regardless of the number or importance of truly educational [or other exempt] purposes."

TAM 201438034

NO INFORMAL ABANDONMENT OF RESIDENCY ALLOWED

 

SUMMARY: The Tax Court rules against informal abandonment of resident status.

Individuals who are admitted to the US as lawful permanent residents ("green card" holders) are treated as U.S. residents for income tax purposes. Code section 7701(b)(1)(A)(i). As such they are subject to U.S. income taxes on their worldwide income. Resident status is deemed to continue unless it is rescinded or administratively or judicially determined to have been abandoned. Treas.Regs. section 301.7701(b)-1(b)(1).

In a recent Tax Court case, a green card holder argued that he ceased to be a U.S. resident for income tax purposes by informally abandoning his U.S. resident status by selling his Hawaii residence, moving away, and only visiting the U.S. infrequently thereafter. In support of such informal abandonment, the taxpayer cited United States v. Yakou, 428 F.3d 241 (D.C. Cir. 2005). In that case, a defendant who held a green card was able to successfully argue he was not a U.S. person under the Arms Export Control Act via having left the U.S.

The Tax Court found that Yakou did not apply. Principally, this was because the Arms Export Control Act and related law was silent on how lawful permanent resident status terminated for those purposes. Under Treasury Regulations, however, there is explicit guidance on how permanent resident status is terminated for tax purposes. Treas.Regs. section 301.7701(b)-1(b)(3) provides:

Administrative or judicial determination of abandonment of resident status. An administrative or judicial determination of abandonment of resident status may be initiated by the alien individual, the Immigration and Naturalization Service (INS), or a consular officer. If the alien initiates this determination, resident status is considered to be abandoned when the individual's application for abandonment (INS Form I-407) or a letter stating the alien's intent to abandon his or her resident status, with the Alien Registration Receipt Card (INS Form I-151 or Form I-551) enclosed, is filed with the INS or a consular officer. If INS replaces any of the form numbers referred to in this paragraph or §301.7701(b)-2(f), refer to the comparable INS replacement form number. For purposes of this paragraph, an alien individual shall be considered to have filed a letter stating the intent to abandon resident status with the INS or a consular office if such letter is sent by certified mail, return receipt requested (or a foreign country's equivalent thereof). A copy of the letter, along with proof that the letter was mailed and received, should be retained by the alien individual. If the INS or a consular officer initiates this determination, resident status will be considered to be abandoned upon the issuance of a final administrative order of abandonment. If an individual is granted an appeal to a federal court of competent jurisdiction, a final judicial order is required.

Since the taxpayer did not follow the above procedures, he will still be considered to be a U.S. resident regardless of any informal abandonment. The court noted that lawful permanent resident status for Federal income tax purposes turns on Federal income tax law and is only indirectly determined by immigration law. The court also was influenced by the House Ways and Means Committee report accompanying the enactment of section 7701(b)(1)(A)(i) and (6) which provided that “an alien who comes to the United States so infrequently that, on scrutiny, he or she is no longer legally entitled to permanent resident status, but who has not officially lost or abandoned that status, will be a resident for tax purposes.” H.R. Rept. No. 98-432 (Part 2), supra at 226, 1984 U.S.C.C.A.N. at 1166.

Thus, green card holders who desire to terminate their U.S. resident status for income tax purposes via abandonment should follow the procedures set out in the regulations and not rely on other mechanisms or arguments.

Gerd Topsnik v. Commissioner, 143 T.C. No. 12, 09/23/2014

APPLICABLE FEDERAL RATES–OCTOBER 2014