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IRC Section 4942, Taxes on Failure to Distribute Income - Carryover of Excess Distributions or Undistributed Income

Issue Title:

IRC Section 4942, Taxes on Failure to Distribute Income - Carryover of Excess Distributions or Undistributed Income

Description:

Adjustments can be made on years closed by the period of limitations by recalculating the distributable amount and the amount of qualifying distributions in order to determine the correct excess or deficient distributions carryovers and the correct Section 4942 excise tax for years open by the period of limitations on assessment.

IRC Section and Treas. Regulation:

IRC Section 4942, Taxes on Failure to Distribute Income

Resources (Court Cases, Chief Counsel Advice, Revenue Rulings, Internal Resources):

Court Case:

In H. Fort Flowers Foundation, Inc. v. Commissioner, 72 T.C. 399 (T.C. 1979), the Tax Court rejected the taxpayer's classification of a transaction which occurred in a closed year, thereby allowing imposition of the Section 4942 excise tax in open years.

Chief Counsel Advice:

GCM 39808 (I.R.S. 1990) provides that “The Service can adjust the excess distribution carryover applicable for years not barred by the statute of limitations by recalculating the distributable amount or the amount of qualifying distributions for years that are closed.”

Analysis:

Background:

IRC Section 4942, Taxes on Failure to Distribute Income, was added to the Internal Revenue Code by the Tax Reform Act of 1969. Generally, IRC Section 4942 imposes a tax on certain private foundations if they have “undistributed income,” which is defined by Section 4942(c) as the foundation’s “distributable amount” for the taxable year less “qualifying distributions” attributable to that year. The “distributable amount” is equal to the foundation’s “minimum investment return” reduced by the Section 4940 tax and any unrelated business income tax imposed on the foundation. IRC Section 4942(d). In general, a “qualifying distribution” is any amount paid to accomplish a proper charitable purpose or any amount paid to acquire an asset to be used in carrying out such purpose.  IRC Section 4942(g)(1).

Issue:

Can adjustments be made to years closed by the period of limitations by recalculating the distributable amount and amount of qualifying distributions in order to determine the correct excess or deficient distribution carryovers and the correct Section 4942 excise tax for years not barred by the period of limitations on assessment?

Analysis:

A single error in calculating the qualifying distributions or the amount required to be distributed in any one year causes all years impacted by the mistake to be incorrect.

The IRS takes the position that for the years from 1970 forward, adjustments to years closed by the period of limitations are permissible for the purpose of calculating the Section 4942 tax for years open by the period of limitations on assessment.

The IRS position with regard to revisiting years closed by the limitation period for making adjustments on returns for open years that are affected by the closed years is discussed in GCM 39808 (I.R.S. 1990). It concludes, “The Service can adjust the excess distribution carryover applicable for years not barred by the statute of limitations by recalculating the distributable amount or the amount of qualifying distributions for years that are closed.”

GCM 39808 states that the legislative history of IRC § 4942 supports this approach as does available authority in analogous areas of the Code. For example, in H. Fort Flowers Foundation, Inc. v. Commissioner, 72 T.C. 399 (T.C. 1979), the Tax Court rejected the taxpayer's classification of a transaction which occurred in a closed year, thereby allowing imposition of the excise tax in open years. See GCM 39808 for additional examples of available authority.

GCM 39808 concludes that the Service can adjust the excess distribution carryover applicable for years not barred by the period of limitations by recalculating the distributable amount and/or the amount of qualifying distributions for years that are closed. Thus, GCM 39808 affirms that if a nonoperating foundation has excessive or deficient distributions in any one year, the carryover of excess or deficient distributions is an accumulation of all post 1969 years.

Issue Indicators or Audit Tips:

Audit Tip:

  • When computing excess distribution or undistributed income carryovers, all years from 1970 forward should be taken into account.
Page Last Reviewed or Updated: 12-Feb-2016