7.26.4  Private Foundations Defined IRC 509(a)(2) Exclusion

7.26.4.1  (04-01-1999)
Overview

  1. The IRC 509(a)(2) exclusion is generally available for organizations that receive few gifts or grants, but which normally receive their support from fees for services such as admissions or sales of material supporting their exempt function.

    Example:

    a museum, zoo, or part which charges an admission fee, or an organization which charges a fee for its educational services or materials.

7.26.4.1.1  (04-01-1999)
Qualifications for Exclusion

  1. For an organization to be excluded from private foundation status as an organization described in IRC 509(a)(2), it must normally receive more than one-third of its support from any combination of gifts, grants, contributions, membership fees, and gross receipts from permitted sources, and not more than one-third of its support from gross investment income and the excess of the amount of unrelated business taxable income over the amount of taxes imposed by IRC 511.

    1. Reg. 1.509(a)–3(a)(4) states that the one-third support test and the one-third gross investment and unrelated income test are designed to insure that an organization that is excluded from private foundation status under IRC 509(a)(2) is responsive to the general public rather than to a limited number of donors or other persons.

    2. Both tests are to be computed on the basis of the nature of an organization’s normal sources of support. See IRM 7.26.4.4 for the method for computing an organization’s normal sources of support.

  2. Reg. 1.509(a)–6 states that if an organization is described in both IRC 509(a)(1) (an organization described in IRC 170(b)(1)(A) other than in clauses (vii) and (viii)) and IRC 509(a)(2), the organization will be treated as described in IRC 509(a)(1).

7.26.4.2  (04-01-1999)
More Than One-Third Support Requirement

  1. The 509(a)(2) exclusion requires a two-part test. the first test is the one-third support test.

  2. In computing whether an organization meets the one-third support test of IRC 509(a)(2)(A),

    1. the organization’s total support (as defined in IRC 509(d)) is the denominator of the fraction.

    2. The numerator is the amount of support received (subject to certain limitations) from any combination of gifts, grants, contributions and membership fees, and gross receipts from admissions, sales, performance of services, or furnishing of facilities related to an activity which is not an unrelated trade or business. Reg. 1.509(a)–3(a)(2).

7.26.4.2.1  (04-01-1999)
Limitations on Includible Support

  1. For purposes of the one-third support test, support is includible in the numerator of the fraction only to the extent it comes from permitted sources. Permitted sources include —

    • Persons, other than disqualified persons as defined in IRC 4946(a)(1),

    • governmental units described in IRC 170(c)(1),

    • organizations described in IRC 509(a)(1).

  2. Since disqualified persons are not permitted sources, support derived therefrom is wholly excluded from the numerator of the fraction.

  3. A further limitation on includible support applies with respect to gross receipts from admissions, sales, performance of services, or furnishing of facilities related to an activity which is not an unrelated trade or business that are received from any one person or governmental unit.

    1. Such support is includible in the numerator of the fraction for any taxable year only to the extent that it does not exceed the greater of $5,000 or one percent on the organization’s support in the taxable year. See IRM 7.26.4.2.6 for a discussion of the treatment of gross receipts from related activities.

7.26.4.2.2  (04-01-1999)
Accounting Method for Purposes of Support Computation

  1. Reg. 1.509(a)–3(k) provides that in the computation of the one-third support test, support is determined solely on the cash receipts and disbursements method of accounting described in IRC 446(c)(1) so that, for example, a grant payable over a term of years is includible in the support fraction of the recipient organization only to the extent actually received. See Regs. 1.509(a)–3(b)(2) for an illustration of an application of the one-third support test.

7.26.4.2.3  (04-01-1999)
Gifts and Contributions

  1. The terms "gifts" and "contributions" , for purposes of the one-third support test, have the same meaning as they have under IRC 170(c), and they also include bequests, legacies, devises, and transfers within the meaning of IRC 2055 or 2106(a)(2). Thus, any payment of money or transfer of property without adequate consideration is considered a "gift" or "contribution" . Where payment is made or property transferred as consideration for admissions, sales of merchandise, performance of services, or furnishing of facilities to the donor, the payment or transfer will not be considered a "gift" or "contribution" to the extent of the value of the quid pro quo. See Reg. 1.509(a)–3(f) and Rev. Rul. 67–246, 1967–2 C.B. 104.

  2. The amount of the gift, grant, or contribution of property, or use of such property, that is includible in computing support is the property’s fair market value or rental value at the date the gift is made. Reg. 1.509(a)–3(f)(2).

7.26.4.2.4  (04-01-1999)
Grants Distinguished From Gross Receipts

  1. Payments from permitted sources that are classified as grants are included in full in the numerator of the support fraction. If the payments are classified as gross receipts, they are included in the numerator only to the extent that the amount received from any person or governmental unit does not exceed the greater of $5,000 or one percent of the organization’s total support.

  2. A payment is normally considered a grant if paid to encourage the recipient organization to carry on programs or activities in furtherance of the recipient’s exempt purposes even if the payee of the grant receives an incidental benefit. Terms and conditions may be imposed on the grant by the payor to insure that the funds will be used in a manner compatible with the payor’s programs and result in public benefit. However, the imposition of terms and conditions and the possibility of benefits resulting to the grantor will sometimes make it difficult to distinguish a grant from other amounts received as gross receipts from the carrying on of exempt activities. See Reg. 1.509(a)–3(g)(1).

  3. Reg. 1.509(a)–3(g)(2) states that if a payment requires the recipient organization to provide a specific service, facility, or product that serves the direct and immediate needs of the payor, such payment is considered gross receipts to the payee and not a grant. Furthermore, where the specific service, facility, or product received by the payor is one that is usually provided by a profit-making organization in its normal course of business, that fact is considered evidence that the payment constitutes gross receipts.

  4. This provision also states that payments made research leading to the development of tangible products for the use or benefit of the payor will generally be considered gross receipts, whereas payment for basic research in the physical or social sciences will generally be considered a grant. See Reg. 1.509(a)–3(g)(3) for two examples which illustrate the distinction between grants and gross receipts.

  5. The fact that the agreement pursuant to which payment is made is designated a "contract" or a "grant" is not controlling for purposes of classifying a payment as a grant or gross receipt under IRC 509(a)(2).

7.26.4.2.5  (04-01-1999)
Membership Fees

  1. An organization’s receipt of fees from members may be classified, depending on the particular facts, either as gross receipts or membership fees with the attendant result on the support fraction previously discussed. As a general rule, if an organization uses membership fees as a means of selling admissions, merchandise, services, or the use of facilities to the general public, who have no common goal (other than the purchase), then the income received from such fees from related activities constitutes gross receipts; however, to the extent the basic purpose for making the payment is to provide support for the organization rather than to purchase admissions, merchandise, etc., the income received from such fees constitutes membership fees, Reg. 1.509(a)–3(h).

7.26.4.2.6  (04-01-1999)
Gross Receipts

  1. IRC 509(a)(2)(A)(ii) provides that gross receipts from related activities (activities that are not unrelated trade or business within the general rule of IRC 513(a)) are includible in the numerator of the one-third support test of IRC 509(a)(2)(A) only to the extent that the amount received from any person or any bureau or similar agency of a governmental unit described in IRC 170(c)(1) does not exceed the greater of $5,000 or one percent of the organization’s total support in any taxable year.

    1. In other words, a recipient organization includes gross receipts from related activities from any person or governmental unit in the numerator of its support fraction to the extent of $5,000 or one percent, whichever is greater, of its total support. The limitation is applied on a year to year basis and is not cumulative.

  2. Gross receipts from IRC 513(a)(1), (2), or (3) activities are treated as gross receipts from related activities and, therefore, subject to the $5,000 or one percent limitation. In general, such activities relate to thrift shops, university or hospital convenience shops, and businesses operated by charitable organizations where substantially all work is performed by volunteers. See Reg. 1.509(a)–3(1).

7.26.4.2.6.1  (04-01-1999)
Gross Receipts From a Bureau or Similar Agency of a Governmental Unit

  1. Because the $5,000 or one percent limitation under IRC 509(a)(2)(A)(ii) applies separately to the gross receipts an organization receives from each bureau or similar agency of a governmental unit, the definition of what constitutes a bureau or similar agency of a governmental unit is important.

  2. A governmental unit described in IRC 170(c)(1) includes a state, a possession of the United States, or any political subdivision of any of the foregoing, or the United States or the District of Columbia.

  3. Under Reg. 1.509(a)–3(i)(1), the term "bureau" means a unit functioning at the operating as contrasted to the policymaking level of government. A bureau is descriptive of a subdivision of a department of government. The term would not usually include those levels of government which are basically policymaking or administrative, such as the office of the Secretary or Assistant Secretary of a department, but would consist of the highest operational level under such policymaking or administrative levels. See Reg. 1.509(a)–3(i)(2) for 2 examples illustrating the definition of "bureau" for purposes of the gross receipts limitation.

  4. Gross receipts received from a unit functioning at the policymaking or administrative level of a governmental unit are treated as received from one bureau of such unit and are aggregated when applying the $5,000 or one percent limitation. Where an organization is receiving gross receipts from both a policymaking or administrative unit and an operational unit of a department of government it will be treated as receiving gross receipts from two "bureaus" within the meaning of IRC 509(a)(2)(A)(ii).

  5. "Sponsoring organizations" under the U.S. Department of Agriculture’s Child and Adult Care Food Program receive the following payments under the CACFP: (1) payment for meals (which they must pay over to sponsored providers) at a rate established by law; (2) administrative payments; and (3) one-time start-up payments to develop or expand successful CACFP operations in day care homes. All such payments under CACFP are "support" to the payee organization within the meaning of section 509(d) of the Code (and "gross receipts" within the meaning of IRC 6033(a)(2)(A)(i)). In determining if a sponsoring organization is other than a private foundation, meal payments are payments for the performance of the organization’s exempt function, and counted as "public support" under IRC 509(a)(2), in a manner similar to medicare and medicaid payments to health care organizations (see Rev. Rul. 83–153, 1983–2 C.B. 48, IRM 7.26.4.8(8), below). Administrative expense reimbursements and start-up payments are governmental grants/support (see Reg. 1.509(a)–3(g)(2); Reg. 1.170A–9(e)(8)).

7.26.4.2.7  (04-01-1999)
Earmarked Funds From IRC 509(a)(1) Organizations

  1. While a grant received from an organization described in IRC 509(a)(1) (public charity) is fully includible in computing the numerator of the one-third support test of IRC 509(a)(2)(A), an indirect contribution (one which is expressly or impliedly earmarked by the donor as being for, or for the benefit of, a particular recipient) from one of the public charity’s donors retains its character as a contribution from such donor. Thus, if a donor who is a substantial contributor (as defined in IRC 507(d)(2)) with respect to the ultimate recipient makes an indirect contribution through a public charity, such amount is excluded from the numerator of the support fraction. See Reg. 1.509(a)–3(j).

    Example:

    N is a national foundation for the encouragement of art and is an organization described in section 170(b)(i)(A)(vi). Grants to N are permitted to be earmarked for particular purposes. 0, which is an art workshop devoted to training young artists and claiming status under section 509(a)(2), persuades C, a private foundation, to make a grant of $25,000 to N. C is a disqualified person with respect to 0. C made the grant to N with the understanding that N would be bound to make a grant to 0 in the sum of $25,000, in addition to a matching grant of N’s funds to 0 in the sum of $25,000. Only the $25,000 received directly from N is considered a grant from N. The other $25,000 is deemed an indirect contribution from C to 0 and is to be excluded from the numerator of 0’s support fraction. See Reg. 1.509(a)–3(j)(3), Example (3).

7.26.4.3  (04-01-1999)
Gross Investment Income and Unrelated Business Income Test

  1. The second part of the IRC 509(a)(2) exclusion is the requirement that less than one-third of the support be from investment or unrelated business income activities.

7.26.4.3.1  (04-01-1999)
One-Third Limit On Gross Investment Income and Unrelated Business Income

  1. For an organization to be excluded from private foundation status by reason of IRC 509(a)(2), in addition to the one-third support test it must also meet the gross investment income and unrelated business income test set forth in IRC 509(a)(2)(B). An organization will meet this test only if it normally receives not more than one-third of its total support (as defined in IRC 509(d)) in each taxable year from gross investment income (as defined in IRC 509(e)), and from the excess of unrelated business taxable income over IRC 511 tax imposed.

  2. IRC 509(e) provides that the term "gross investment income" means the gross amounts of income from interest, dividends, rents, and royalties, but not including any such income to the extent included in computing the tax imposed under IRC 511.

  3. Unrelated business taxable income, as defined in IRC 512, includes gross income derived from any trade or business which is not substantially related to the exercise or performance by an organization of its charitable function or purpose constituting the basis for its exemption under IRC 501(c)(3), with certain exceptions.

7.26.4.3.2  (04-01-1999)
Gross Receipts Distinguished From Gross Investment Income

  1. Where an organization rents facilities or lends funds to a charitable class of persons in fulfillment of its overall exempt purposes, the income derived is considered gross receipts from a related activity rather than gross investment income or unrelated business taxable income. Consequently, such gross receipts that are related to exempt purposes would not enter into the numerator of the one-third gross investment income test. Reg. 1.509(a)–3(m)(1).

    Example:

    X, an organization described in section 501(c)(3), is organized and operated to provide living facilities for needy widows of deceased servicemen. X charges such widows a small rental fee for the use of such facilities. Since X is accomplishing its exempt purpose through the rental of such facilities, the support received from the widows is considered "gross receipts" within the meaning of section 509(d)(2). However, if X rents part of its facilities to persons having no relationship to X’s exempt purpose, the support received from such rental will be considered "gross investment income" within the meaning of section 509(d)(4), unless such income is included in computing the tax imposed by section 511. See Reg. 1.509(a)–3(m)(2).

7.26.4.4  (04-01-1999)
Normal Support Rule

  1. Both tests described above must be met on the basis of the organization’s "normal" support.

7.26.4.4.1  (04-01-1999)
Computation of Normal Support

  1. Both the test prescribed under IRC 509(a)(2)(A) (requiring at least one-third of support from gifts, grants, contributions, membership fees and "gross receipts" ) and the test prescribed under IRC 509(a)(2)(B) (requiring that not more than one-third of support be derived from investment income and unrelated business taxable income) are to be computed on the basis of the organization’s normal sources of support. See Reg. 1.509(a)–3(c)(6) for an example which illustrates application of the normal support rule.

  2. An organization will be considered as "normally" meeting these tests for its current taxable year and the taxable year immediately succeeding its current taxable year, if, for the four taxable years immediately preceding the current taxable year it meets both tests based on an aggregate of the results in the four year taxable period.

  3. Because an organization will be considered to be described under IRC 509(a)(2) for the two taxable years following a computation period in which it satisfies the support tests, it follows that after an organization once meets the support tests for a computation period it must thereafter fail these tests for two consecutive taxable years before it will fail qualification under IRC 509(a)(2).

  4. Where, for example, an organization meets the support tests of IRC 509(a)(2)(A) and (B) for a computation period of taxable years 1990 through 1993, it would be considered to be described under IRC 509(a)(2) for taxable years 1994 and 1995. It will continue to be described under IRC 509(a)(2) for taxable year 1995 even if it fails to meet the tests of IRC 509(a)(2)(A) and (B) for a computation period of taxable years 1991 through 1994.

  5. Generally, an organization’s applicable computation period consists of the four taxable years immediately preceding its current taxable year. However, different rules are applied for new organizations and for organizations which have experienced material changes in their sources of support.

7.26.4.4.2  (04-01-1999)
Special Normal Support Rule For New Organizations

  1. An organization that has not completed four taxable years may, if it has completed at least one taxable year consisting of eight months, substitute the taxable years it has been in existence for the four year period described in IRM 7.26.4.4.1 above to compute whether the support received in that abbreviated period satisfies the one-third support and one-third gross investment and unrelated business income tests of IRC 509(a)(2). If, by substituting in this fashion, a new organization can satisfy these tests then, even though it has not completed four taxable years, it will be considered an organization that normally meets such tests and, therefore, described in IRC 509(a)(2) beginning with its first taxable year. See Reg. 1.509(a)–3(c)(1)(iv).

  2. An organization that has completed at least one taxable year consisting of eight months may, alternatively, choose to apply for an advance determination of foundation status as a newly created organization, under the rules set forth in IRM 7.26.4.7.

7.26.4.5  (04-01-1999)
Special Rules for Material Changes in Support

  1. Because the IRC 509(a)(2) exclusion focuses on a "normal" support test, special rules exist for situations where there are material changes in an organization’s sources of support.

7.26.4.5.1  (04-01-1999)
Reliance Period for Organizations

  1. A determination that an organization is described in IRC 509(a)(2) because it is considered to have normally met the one-third support, and gross investment and unrelated business income tests of IRC 509(a)(2)(A) and (B) is effective for each taxable year of the computation period plus the two taxable years immediately succeeding the computation period. An exception to this pattern occurs if for the current taxable year there are "substantial and material" changes in the organization’s sources of support (other than a change arising from an unusual grant as described in IRM 7.26.4.6.

  2. In the year in which a substantial and material change occurs, the organization’s satisfaction of its normal support rule is determined on the basis of a new computation period consisting of the taxable year of the substantial and material change and the four immediately preceding taxable years. See Reg. 1.509(a)–3(c)(1)(ii).

  3. In the case of a new organization, one with fewer than five completed taxable years, the computation period encompasses the year of the substantial and material change and, in lieu of the four immediately preceding taxable years, all of the organization’s prior years of existence. See Reg. 1.509(a)–3(c)(1)(iv).

  4. An example of a substantial and material change is the receipt of an unusually large contribution or bequest which is not excluded from support as an unusual grant under See Reg. 1.509(a)–3(c)(3).

    Example:

    if there are substantial and material changes in an organization’s sources of support for taxable year 1976, then even though such organization meets the one-third support and gross investment and unrelated business income tests based on a computation period of taxable years 1971 through 1974 or 1972 through 1975, the organization will not meet the requirements of IRC 509(a)(2) for taxable year 1976 unless it meets the one-third support, and gross investment and unrelated business income tests for a computation period of the taxable years 1972 through 1976.

7.26.4.5.2  (04-01-1999)
Reliance Period For Grantors and Contributors

  1. Reg. 1.509(a)–3(c)(1)(iii)(a) provides that where an organization ceases to be described in IRC 509(a)(2) because of a substantial and material change in its sources of support, the organization’s status with respect to grantors and contributors will not be affected for purposes of IRC sections 170, 507, 545(b)(2), 556(b)(2), 642(c), 4942, 4945, 2055, 2106(a)(2), and 2522 until notice of change of status under IRC 509(a)(2) is made public (public notice is usually set forth in the Internal Revenue Bulletin) unless:

    1. The grantor or contributor was responsible for, or was aware of, the substantial and material change; or

    2. The grantor or contributor acquired knowledge that the Internal Revenue Service had given notice to such organization that it would be deleted from classification as an organization described in IRC 509(a)(2).

  2. If, prior to making a grant or contribution, a grantor obtains a written statement signed by a responsible officer of the recipient organization that such grant will not result in a substantial and material change leading to loss of the organization’s status under IRC 509(a)(2), the grantor will not be considered responsible for, or aware of, any substantial or material change. The written statement must include information, including pertinent financial data for the four preceding years, to assure a reasonably prudent person that the grant or contribution will not result in loss of status under IRC 509(a)(2). Reg. 1.509(a)–3(c)(1)(iii)(b).

  3. However, this provision does not apply if a reasonable doubt exists as to the effect of a grant on the organization’s support or if the grantor is a founder, creator, or foundation manager. In such cases, the recipient organization may apply to the Internal Revenue Service for a ruling (under conditions set forth in Regs. 1.509(a)–3(c)(5)(ii)) as to the effect a particular grant will have on its status under IRC 509(a)(2), thereby, if the ruling is favorable, protecting the grantor.

  4. Rev. Proc. 81–6, 1981–1 C.B. 620, provides guidelines to determine whether a grantor or contributor will be considered responsible for a substantial and material change in support. This Rev. Proc. was amplified by Rev. Proc. 89–23, 1989–1C.B. 844.

7.26.4.6  (04-01-1999)
Exclusion of Unusual Grants

  1. An unusual grant might also cause a material change is support, but might qualify for total exclusion from the support test rather than being tested under the procedure discussed above.

  2. As previously discussed, an organization is described in IRC 509(a)(2) if it meets both the one-third support test set forth in IRC 509(a)(2)(A) and the one-third gross investment and unrelated business income test set forth in IRC 509(a)(2)(B). However, an organization that cannot meet the one-third support test because of one or more large and unusual contributions may, under certain conditions, entirely exclude such contributions in computing whether it satisfies the one-third support test. Where an organization excludes an unusual grant in computing the one-third support test, that grant must also be excluded in computing whether it satisfies the gross investment and unrelated business income test.

  3. The provision for excluding unusual grants contemplates a situation where a disinterested party is attracted to support an organization based on its publicly supported nature but the amount given in support would adversely affect the organization’s ability to meet the IRC 509(a)(2) tests.

7.26.4.6.1  (04-01-1999)
Unusual Grants

  1. Reg. 1.509(a)–3(c)(3) describes these excludable grants, generally, as grants that are substantial and unexpected and received from disinterested parties who are attracted to support the organization by reason of its publicly supported nature. They are grants which, by reason of their size, would adversely affect the status of the organization as normally meeting the one-third support test. Such contributions may be excluded from both numerator and denominator of the one-third support fraction but must also be excluded from the denominator of the one-third gross investment and unrelated business income fraction.

  2. Under this provision, grants considered excludable as unusual grants that are payable to an organization over a period of years can be excluded from that organization’s support computation in the amount actually received in each taxable year. In this context, amounts of investment income earned by a recipient organization from an unusual grant do not qualify as part of the unusual grant that may be excluded.

7.26.4.6.2  (04-01-1999)
Determining Factors For Qualifying Excludable Grants

  1. Although all facts and circumstances are to be taken into account in determining whether a contribution may be excluded as an unusual grant, Reg. 1.509(a)–3(c)(4)(i) through (ix) specify certain important factors to consider.

    Example:

    a bequest is looked upon more favorably than an inter vivos gift; a contribution from an unrelated party has a better chance than one from a creator, substantial contributor, or manager.

  2. Reg. 1.509(a)–3(c)(5)(ii) provides procedures by which a potential grantee may obtain advance assurance that a particular grant or contribution will be excluded as an unusual grant.

  3. By setting forth guidelines by which particular grants or contributions will be considered unusual grants, Rev. Proc. 81–7, 1981–1 C.B. 621, provides a means by which a potential grantor may have advance assurance that it is not responsible for substantial and material changes in a potential grantee’s support.

7.26.4.7  (04-01-1999)
Newly Created Organizations

  1. Because new organizations may be unsure of their sources of support, special rules are available for an organization’s first five years.

  2. The support tests set forth in IRC 509(a)(2) are computed on the basis of an organization’s "normal" sources of support. It may take several years for newly created organizations to establish their "normal" sources of support. Often the type of financial support that an organization receives during its formative years differs significantly from the type of support received after it has been established and operated for a while.

    1. For example, it may take a newly created symphony orchestra several years before it gains acceptance in the community in which it performs and receives the broad, public support anticipated. During those early years the orchestra may be dependent on a limited group whose financial support does not satisfy the support tests of IRC 509(a)(2).

    2. Similarly, a newly created community chest may engage in several fund raising drives before it attracts broad public support.

  3. In view of this, the regulations provide for a two or three year period to allow a newly created organization time to establish that it meets the support tests of IRC 509(a)(2). This is referred to as the organization’s advance ruling period. In the Deficit Reduction Act of 1984, Congress directed the Treasury Department to extend the advance ruling period for newly created organizations to five years. H.R. Rep. No. 861, 98th Cong., 2nd Sess. 1090 (1984), 1984–3 C.B. (Vol. 2) 344. If a newly created organization can reasonably be expected to meet the support tests by the end of its advance ruling period, the Service may issue it an advance ruling or determination letter. An advance ruling or determination permits an organization to be "treated as" an IRC 509(a)(2) organization for its advance ruling period, as explained below.

  4. An advance ruling or determination is not a ruling that an organization, in fact, will meet the requirements of IRC 509(a)(2) during its advance ruling period. Thus, organizations that receive an advance ruling or determination letter, must, at the expiration of the advance ruling period, establish their status under IRC 509(a)(2) for the years covered by the advance ruling or they will be presumed to be private foundations under IRC 508(b). The length of advance ruling periods and the establishment of private foundation status at the expiration of the advance ruling period are discussed in the next section.

7.26.4.7.1  (04-01-1999)
Advance Ruling Period and Determinations of Foundation Status

  1. Reg. 1.509(a)–3(d)(1) provides for an advance ruling period of two or three years depending on the length of the first tax year. Regs. 1.509(a)–4(i) provide for an extended advance ruling of an additional three years. A new five year period replaces both the two or three year advance ruling period and the extended advance ruling period for organizations applying on Form 1023.

  2. A newly created organization subject to the five year advance ruling period may request a ruling or determination letter that it will be treated as an IRC 509(a)(2) organization for its first five taxable years. This request must be filed with a consent to extend the statute (Form 872–C) that in effect states the organization will be subject to IRC section 4940 taxes if it fails to qualify as not a private foundation during the five year advance ruling period.

7.26.4.7.2  (04-01-1999)
Reasonable Expectation Factors

  1. Several factors will be used to determine whether there is a reasonable expectation that the organization will meet the public support test at the end of its advance ruling period.

  2. Reg. 1.509(a)–3(d)(2) provides that in determining whether an organization can reasonably be expected to meet the one-third support and gross investment and unrelated business income tests so as to qualify for an advance ruling or determination letter:

    "…the basic consideration is whether its organizational structure, proposed programs or activities, and intended method of operation are such as to attract the type of broadly based support from the general public, public charities, and governmental units which is necessary to meet such tests. While the factors which are relevant to this determination, and the weight accorded to each of them, may differ from case to case, depending on the nature and functions of the organization, a favorable determination will not be made where the facts indicate that an organization is likely during its advance or extended advance ruling period to receive less than one-third of its support from permitted sources (subject to the limitations of paragraph (b) of this section) or to receive more than one-third of its support from gross investment income."

7.26.4.7.2.1  (04-01-1999)
Specific Factors

  1. Regs. 1.509(a)–3(d)(3) also lists the following as some of the pertinent factors to be considered:

    1. Whether the organization has or will have a governing body which is comprised of public officials, or individuals chosen by public officials acting in their capacity as such, of persons having special knowledge in the particular field or discipline in which the organization is operating, of community leaders, such as elected officials, clergymen, and educators, or, in the case of a membership organization, of individuals elected pursuant to the organization’s governing instrument or bylaws by a broadly based membership. This characteristic does not exist if the membership of the organization’s governing body is such as to indicate that it represents the personal or private interests of disqualified persons, rather than the interests of the community or the general public.

    2. Whether a substantial portion of the organization’s initial funding is to be provided by the general public, by public charities, or by government grants, rather than by a limited number of grantors or contributors who are disqualified persons with respect to the organization. The fact that the organization plans to limit its activities to a particular community or region or to a special field which can be expected to appeal to a limited number of persons will be taken into consideration in determining whether those persons providing the initial support for the organization are representative of the general public. On the other hand, the subsequent sources of funding which the organization can reasonably expect to receive after it has become established and fully operational will also be taken into account.

    3. Whether a substantial proportion of the organization’s initial funds are placed, or will remain, in an endowment, and whether the investment of such funds is unlikely to result in more than one-third of its total support being received from gross investment income.

    4. In the case of an organization which carries on fund-raising activities, whether the organization has developed a concrete plan for solicitation of funds from the general public on a community or area-wide basis; whether any steps have been taken to implement such plan; whether any firm commitments of financial or other support have been made to the organization by civic, religious, charitable, or similar groups within the community; and whether the organization has made any commitments to, or established any working relationships with, those organizations or classes of persons intended as the future recipients of its funds.

    5. In the case of an organization which carries on community services, such as slum clearance and employment opportunities, whether the organization has a concrete program to carry out its work in the community; whether any steps have been taken to implement that program; whether it will receive any part of its funds from a public charity or governmental agency to which it is in some way held accountable as a condition of the grant or contribution; and whether it has enlisted the sponsorship or support of other civic or community leaders involved in community service programs similar to those of the organization.

    6. In the case of an organization which carries on educational or other exempt activities for, or on behalf of, members, whether the solicitation for dues-paying members is designed to enroll a substantial number of persons in the community, area, profession, or field of special interest (depending on the size of the area and the nature of the organization’s activities); whether membership dues for individual (rather than institutional) members have been fixed at rates designed to make membership available to a broad cross-section of the public rather than to restrict membership to a limited number of persons; and whether the activities of the organization will be likely to appeal to persons having some broad common interest or purpose, such as educational activities in the case of alumni associations, musical activities in the case of symphony societies, or civic affairs in the case of parent-teacher associations.

    7. In the case of an organization which provides goods, services, or facilities, whether the organization is or will be required to make its services, facilities, performances, or products available (regardless of whether a fee is charged) to the general public, public charities, or governmental units, rather than to a limited number of persons or organizations; whether the organization will avoid executing contracts to perform services for a limited number of firms or governmental agencies or bureaus; and whether the service to be provided is one which can be expected to meet a special or general need among a substantial portion of the general public.

7.26.4.7.3  (04-01-1999)
Treatment as an IRC 509(a)(2) Organization

  1. An organization, and grantors, or contributors to the organization may generally rely on an advance determination letter or ruling that the organization will be "treated as" an organization described in IRC 509(a)(2) until 90 days after the advance ruling period ends. If information needed to establish the organization’s IRC 509(a)(2) status is submitted within the 90 day period, reliance is extended until the Service issues a determination letter or ruling.

  2. Reg. 1.509(a)–3(e)(2) provides that an organization and its grantors and contributors may rely on an advance ruling for all purposes except IRC 507(d) and IRC 4940.

  3. This means that if it is subsequently determined that an organization was a private foundation from its inception, then the provisions of IRC 507(d), which defines "aggregate tax benefits" and "substantial contributors" with respect to private foundations, and IRC 4940, which imposes excise taxes on the net investment income of private foundations, are applicable from the organization’s inception.

7.26.4.7.3.1  (04-01-1999)
Reliance Rules For Advance Ruling or Determination Letters

  1. Reg. 1.509(a)–3(e)(3) provides that grantors and contributors may rely on an advance ruling or determination letter during the advance ruling period until the organization’s new status is made public (usually by publication in the Internal Revenue Bulletin).

  2. This provision does not protect grantors or contributors that are responsible for, or aware of, an act or failure to act that results in an organization’s failure to qualify under IRC 509(a)(2), or acquire knowledge that the Service has revoked the organization’s advance ruling or determination letter.

7.26.4.7.4  (04-01-1999)
Special Rules of Attribution

  1. Under certain narrow circumstances, gifts or grants might be treated as gross investment income.

  2. For purposes of the gross investment and unrelated business income test of IRC 509(a)(2)(B), certain portions of an organization’s receipts from the following organizations will retain their character as gross investment income:

    1. Organization seeking IRC 509(a)(3) status based on the distributions given;

    2. IRC 501(c)(3) organizations;

    3. Nonexempt charitable trusts;

    4. IRC 4947(a)(2) split-interest trusts required to distribute (or which normally do distribute) at least 25 percent of their adjusted net income (IRC 4947(f)) to the distributee, and having that distribution normally represent at least 5 percent of the distributee’s net income. These receipts will retain their character to the extent they were gross investment income in the hands of the distributor, or (if the distributor is an IRC 4947(a)(2) split-interest trust) to the extent that such amounts would be gross investment income attributable to transfers in trust after May 26, 1969, if the trust were a private foundation. (See Reg. 1.509(a)–5(a).)

  3. Income deemed distributed prior to gifts—In applying the rules of paragraph (1) above, all income which is characterized as gross investment income in the possession of the distributing organization is deemed to be distributed first by the distributing organization before the distributee organization may treat any of the amounts received as gifts or contributions from the organization described in 1(a) or (b) above.

  4. Proration of gross investment income—If an organization described in paragraph (1)(a) or (b) above makes distributions to more than one organization, the amount of its gross investment income deemed distributed is prorated among the distributees.

  5. Certain goods, services, and facilities treated as gross investment income—In applying the rule on retained character of investment income, amounts paid by an organization for the direct benefit of an organization seeking IRC 509(a)(2) status (rather than for the direct benefit of the general public) are treated in the same manner as amounts received by the distributee organization and are treated as gross investment income of the distributee to the extent that such amounts are characterized as gross investment income in the possession of the organization spending such amounts.

7.26.4.8  (04-01-1999)
Digests of Published Rulings

  1. Publicly supported organization rulings; time requirement for existence. In determining whether an incorporated organization meets the time requirement provided by Reg. 1.170A–9(e)(4)(vi) and Reg. 1.509(a)–3(c)(1)(iv) to entitle it to be issued a ruling on the question whether it is publicly supported, the period of time a predecessor unincorporated association operated will be taken into consideration where incorporation has been the only significant change in the organization. Rev. Rul. 73–422, 1973–2 C.B. 70.

  2. Nonprofit blood bank; private foundation status. Hospitals that receive blood from a nonprofit blood bank under an agreement making each hospital responsible for collecting payment for the blood and remitting the payments to the blood bank, and requiring the hospital to pay for the blood if it fails to collect from the patient, are acting as agents for the blood bank. These amounts the hospital collects are treated as received by the blood bank directly from patients in determining if it satisfies the one-third support test under IRC 509(a)(2)(A)(ii) as an organization not a private foundation. Rev. Rul. 75–387, 1975–2 C.B. 216.

  3. Foundation status; support received prior to change in operations. Support received by an organization prior to changes made in its operations to enable it to qualify under IRC 501(c)(3) is not taken into account in determining its foundation status under section 509. Rev. Rul 77–116, 1977–1 C.B. 155.

  4. Private foundations; status; untimely notification. A corporation that states it is a publicly supported charity when it files its application for recognition of exemption subsequent to the 15 month deadline provided by regulation cannot be treated as an organization described in IRC 501(c)(3) before the date it files its application; financial support received prior to that date may not be used for purposes of determining whether the organization is publicly supported. Rev. Rul. 77–208, 1977–1 C.B. 153.

  5. Status; application for recognition; corporate successor to non-exempt association. An organization that filed an application for recognition of exemption under IRC 501(c)(3) in May 1976, following its incorporation in November 1975 to succeed an unincorporated association that had operated for three years without filing an application, will be recognized as exempt from the date of incorporation. An advance ruling concerning the organization’s private foundation status may be requested on the basis of support received since incorporation. Rev. Rul. 77–469, 1977–2 C.B. 196.

  6. Publicly supported; substantial and material changes in support. Guidelines set forth the circumstances under which grantors or contributors will not be considered responsible for "substantial and material" changes in sources of financial support. §§1.170A–9, 1.509(a)–3. (Treas. Reg. § 601.105) Rev. Proc. 81–6, 1981–1 C.B. 620.

  7. Publicly supported; unusual grants. Guidelines set forth the circumstances under which grants or contributions will be considered "unusual grants" without benefit of an advance ruling. §§1.170A–9, 1.509(a)–3. (Treas. Reg. § 601.105) Rev. Proc. 81–7, 1981–1 C.B. 621.

  8. Health care organizations; medicare and medicaid payments. Medicare and medicaid payments constitute gross receipts derived from the exercise or performance of a health care organization’s exempt activities for purposes of the support test IRC 170(b)(1)(A)(vi) and IRC 509(a)(2). Rev. Rul. 83–153, 1983–2 C.B. 48.


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