4.76.2  Special Features of IRC § 501(c)(3) Organizations

4.76.2.1  (05-15-2003)
Introduction

  1. This IRM section contains specific examination guidelines for organizations recognized as exempt from income tax under IRC § 501(a) as an organization described in IRC § 501(c)(3), including organizations classified as public charities described in IRC § 509(a)(1), (2), or (3), and private foundations described in IRC § 509(a) or 4942(j). It provides examination techniques effective in identifying issues commonly encountered during the examination of IRC § 501(c)(3) organizations.

  2. These guidelines provide specific guidance for examining IRC § 501(c)(3) organizations and are not all-inclusive. The purpose is to supplement the guidelines contained in IRM sections 4.75.10 through 4.75.16. The intent is not to restrict the examiner in identifying issues or using examination techniques not included herein.

  3. This IRM provides general information for identifying issues. When an issue is identified, the examiner should refer to IRM 4.76.3, Public Charities or IRM 4.76.4, Private Foundations, for development.

  4. Examination guidelines and procedures for specific types of IRC § 501(c)(3) organizations are discussed in:

    • IRM 4.76.5, NECT

    • IRM 4.76.6, Religious Organizations

    • IRM 4.76.7, Church § 501(c)(3) – Including Church Tax Inquiry Procedures

    • IRM 4.76.8, Private and Chartered Schools

    • IRM 4.76.9, Public Interest Law Firms

    • IRM 4.76.11, Educational Organizations

    • IRM 4.76.12, All Other § 501(c)(3) Organizations

4.76.2.2  (05-15-2003)
Examination Scope

  1. An IRC § 501(c)(3) examination should serve the following objectives to:

    1. Ensure the organization operates for public purposes rather than private interests;

    2. Determine if the organization engages in any substantial nonexempt activity, such as social or recreational activities;

    3. Ensure that the organization protects and preserves its assets exclusively for § 501(c)(3) purposes;

    4. Evaluate the organization’s procedures to account for funds disbursed to individuals or non-§ 501(c)(3) organizations;

    5. Determine if the organization pays, directly or indirectly, any excessive compensation, fees, allowances or taxable benefits;

    6. Determine if the organization engages in legislative activities or directly or indirectly participates in or intervenes in, any political campaign on behalf of, or in opposition to, any candidate for elective public office;

    7. Determine the organization's foundation status.

4.76.2.3  (05-15-2003)
Inurement, Excess Benefit Transactions, Private Benefit

  1. During the examination of an IRC § 501(c)(3) organization, the examiner should determine if the organization engaged in any financial transactions, including payment of compensation, which may result in inurement of earnings, an excess benefit transaction, or an impermissible amount of private benefit.

4.76.2.3.1  (05-15-2003)
Inurement, Excess Benefit Transactions, Private Benefit - Examination Guidelines

  1. Review salaries, employee contracts and other compensation amounts, such as reimbursable travel expenses, sales or exchanges of property, and other financial transactions to determine if they result in an excess benefit transactions under IRC § 4958, inurement of earnings, or otherwise confer a private benefit.

  2. IRC § 4958, which imposes an excise tax on certain excess benefit transactions entered into by public charities occurring on or after September 14, 1995, was added to the Code to provide an intermediate sanction short of revocation for transactions resulting in inurement of earnings. See IRM 4.76.3 for computation of tax.

  3. Inurement of earnings to private shareholders or individuals is prohibited by IRC § 501(c)(3) and can result in loss of exemption. However, for transactions occurring after September 14, 1995, the excise tax of IRC § 4958 should be imposed on the disqualified person in lieu of revocation (4941 if a private foundation) unless inurement is to such a degree that the organization no longer functions as an exempt organization.

  4. The term private benefit is used to refer to excessive benefits provided to persons other than private shareholders or individuals within the meaning of IRC § 501(c)(3) or disqualified persons as defined in IRC § 4958(f)(1). The restriction on private benefit is not absolute. Review contracts and lease agreements for indications of private benefit.

  5. IRC § 4941 imposes an excise tax on any direct or indirect act of self-dealing between a private foundation and a disqualified person. See IRM 4.76.4 for computation of the tax. Self-dealing transactions described under IRC § 4941(d) are:

    • The sale, exchange, or leasing of property

    • The lending of money or other extension of credit

    • The furnishing of goods, services, or facilities

    • The payment of compensation or expenses by the foundation to a disqualified person

    • The transfer or use of the foundation’s income or assets by or for the benefit of a disqualified person; and.

    • Payments to government officials.

4.76.2.4  (05-15-2003)
Lobbying Activities

  1. IRC § 501(c)(3) states that no substantial part of the activities of an otherwise qualified organization may be the carrying on of propaganda or otherwise attempting to influence legislation. Identify legislative activities such as:

    1. Direct lobbying by the organization or its officers to directly influence legislators;

    2. Grassroots campaigns, in which the organization urges members of the public to contact legislators for, or in opposition to, or to propose, some piece of legislation.

4.76.2.4.1  (05-15-2003)
Lobbying Activities - Examination Guidelines

  1. Review itemized billings or reports by representatives retained by the organization to monitor legislation to determine the amount of lobbying conducted by the representative of the organization.

  2. Determine, from a review of the organization's publications or financial records, or from a discussion with the officers whether the organization has engaged in the following in furtherance of their legislative interests.

    1. Articles or paid advertisements in newspapers or magazines, radio and television;

    2. Television, radio or other public commentaries;

    3. Articles published by the organization; or

    4. Direct mail campaigns.

  3. Analyze disbursements to determine if:

    1. Contributions were made to organizations engaged in legislative activities; or

    2. Payments were made to attorneys or other intermediaries for legislative purposes of the organization. These payments are frequently charged to advertising or professional fees and services accounts.

  4. Analyze dues paid to parent organizations and state or national organizations to determine if any portion of the dues are used for legislative activities. This activity might be imputed to the subsidiary organization paying the dues.

  5. If the organization is a public charity and has engaged in legislative activity, determine if it made the election under IRC § 501(h), subjecting it to the lobbying expenditures test. If not, it is governed by the substantiality test of IRC § 501(c)(3).

4.76.2.5  (05-15-2003)
Political Campaign Intervention

  1. An IRC § 501(c)(3) organization is prohibited from participating in or intervening in any political campaign. This prohibition includes publishing or distributing campaign statements. (However, see Rev. Rul. 78-248, 1978-1 C.B. 154, and Rev. Rul. 80-282, 1980-2 C.B. 178 for a discussion of certain "voter education activities." ) The sources set forth in IRM 4.76.2.4.1 also apply in finding evidence of political activity.

4.76.2.6  (05-15-2003)
Contributions and Receipts

  1. Contributions received by an organization described in IRC § 501(c)(3) is considered deductible to the donor unless there are restrictions incurred upon the use of the funds which benefit the donor.

  2. Larger organizations have specialized departments that solicit contributions in the form of cash, stocks, bonds, property, as well as life estate and annuity programs.

4.76.2.6.1  (05-15-2003)
Contributions and Receipts - Examination Guidelines

  1. Review contributions and grants received to determine if their use is restricted. If so, determine if the restrictions serve the business or private purpose of the donor.

  2. Review correspondence files for any acknowledgment letters provided to the donors of restricted contributions to determine if the organization properly notified the contributor of the portion of the payment that represents a quid pro quo contributions.

  3. If a restricted grant is received, determine that the restricted use does not violate the organization's exempt purposes. A future interest in tangible personal property is not an IRC § 170 deduction until all intervening rights have expired.

  4. Review annuities and determine that deductible portion is based on Service's present value tables.

  5. Determine that all charitable remainder annuity trusts, charitable remainder unitrusts and pooled income funds meet the requirements of IRC §§ 170(f)(2)(A), 642(c), and 664. (See IRM 4.76.5 for additional information.)

4.76.2.7  (05-15-2003)
Fund-raising Activities

  1. Under IRC § 170, the donor is responsible for determining the value of his or her donation. However, some organizations give receipts to donors for the fair market value (FMV) of the donation based on either the organization’s appraisal of the donation or the donor’s statement as to the value.

  2. IRC § 170(f)(8) specifies that no deduction shall be allowed for any contribution of $250 or more unless the taxpayer substantiates the contribution by a contemporaneous written acknowledgement of the contribution by the donee organization that includes the following:

    1. The amount of cash and a description of any property other than cash contributed;

    2. Whether the donee organization provided any goods or services in consideration, in whole or in part, for any property described above;

    3. Description and good faith estimate of the value of any goods or services referred to above.

4.76.2.7.1  (05-15-2003)
Fund-raising Activities - Examination Guidelines

  1. Review records of receipts, especially valuations of closely held stocks and bonds, personal property, and real property to determine if assigned values are reasonable.

  2. If the organization sold any donated property soon after receipt, compare the sales price, which, if the sale is at arms’ length, is the most likely indication of FMV, with the value assigned on the receipt given to the donor. Refer to IRM 4.76.51 for additional guidelines on fund-raising activities.

4.76.2.8  (05-15-2003)
Unrelated Business Income

  1. Any IRC § 501(c)(3) examination should include an inspection of activities that generate revenue to determine if the organization has unrelated business income. This inspection should include the following:

    1. Determine whether any activities represent carrying on a trade or business;

    2. Compare the business activity to the overall activities of the organization to determine whether the activity is substantially related to the organization’s exempt purpose;

    3. Determine whether the business activity is regularly carried on, similar to comparable commercial activities of nonexempt organizations;

    4. If an unrelated business is regularly carried on, determine whether the business activity is substantial enough to jeopardize the exempt status of the organization.

  2. For possible sources of unrelated business income, the examiner should analyze the following activities where appropriate:

    1. Sale of mailing lists (Rev. Rul. 72-431, 1972-2 C.B. 281);

    2. Sale of pharmaceutical items by a hospital to non-patients (Rev. Rul. 68-374, 1968-2 C.B. 242);

    3. Sale of scientific books and city souvenirs by a museum (Rev. Rul. 73-105, 1973-1 C.B. 264);

    4. Commercial sponsored scientific research if the results are not made available to the general public (Rev. Rul. 76-296, 1976-32 I.R.B. 6);

    5. Operation of a medical illustration department by a medical research foundation (Rev. Rul. 57-313, 1957-2 C.B. 316);

    6. Publication and sale of a book on a topic not related to the organization’s exempt purpose (Rev. Rul. 66-323, 1966-2 C.B. 216);

    7. The income derived by an exempt organization, organized and operated for the prevention of cruelty to animals, from providing pet boarding and grooming services for the general public (Rev. Rul. 73-587, 1973-2 C.B. 192);

    8. Sale of art objects at exhibits (Rev. Rul. 76-152, 1976-17 I.R.B. 18);

    9. Sale of advertising space in EO journal (Rev. Rul. 76-93, 1976-11 I.R.B. 11);

    10. Rental by a university of sports facilities such as stadiums, swimming pools, ski slopes, skating rinks (Rev. Rul. 76-402, 1976-2 C.B. 177);

    11. Sales of heavy duty appliances to senior citizens by an exempt senior citizens center (Rev. Rul. 81-62, 1981-1 C.B. 355);

    12. Rental by a university of its stadium to a professional football team for several months of the year (Rev. Rul. 80-298, 1980-2 C.B. 197);

    13. Operation of a health club facility (Rev. Rul. 79-360, 1979-2 C.B. 236);

    14. Operation of a miniature golf course (Rev. Rul. 79-361, 1979-2 C.B. 237);

    15. A travel tour program operated by a university alumni association (Rev. Rul. 78-43, 1978-1 C.B. 164).


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