Secret Campaign Giving and Abusing the Tax Law

The two big stories of this campaign season are voter backlash against Democrats and the rise of the so-called Super PACs– massive campaign funding organizations that use the tax law to protect the anonymity of their donors. These money laundries, organized as 501(c)(4) groups under the Internal Revenue Code, violate the spirit of the tax laws and may well violate the letter of the law as well. But they are getting a pass from the Internal Revenue Service.
The biggest and best known is Crossroads Grassroots Political Strategies, organized by GOP strategists Karl Rove and Ed Gillespie. Grassroots says it aims to raise an unprecedented $65 million in this year’s election cycle—nearly all of it anonymous. But the concept is not new.
It was first used by Democrats in the 1990s and this year supporters of both parties have created scores of these outfits. This year’s Supreme Court decision in the Citizen’s United case made these organizations even more attractive by opening the door to unlimited giving by businesses and unions.
The tax law is relatively clear about what a (c)(4) can and cannot do. The IRS defines these groups as “civic leagues, social welfare organizations, and local associations of employees.” Their net earnings are supposed to be used for charitable, educational, or recreational purposes. They may lobby and participate in political activities (unlike 501 (c)(3s) but campaigning must not be the group’s primary purpose.
It is, of course, absurd to suggest that the main purpose of these groups is anything other than political activity. Indeed, they effectively function as arms of the Democratic and Republican parties. The biggest, such as Rove’s group, give 100 percent of their contributions to one party or the other.
What could the IRS do about it? According to Ohio State tax professor Donald Tobin, quite a lot actually. (Thanks to the TaxProf blog for posting this). It could subject the donors to the gift tax. It could reclassify these groups as Sec. 527 organizations, which would require them to name their sugar daddies. It could sanction the lawyers who give the green-light to these outfits. Another option: The IRS could sanction the SuperPACs groups themselves and make them pay tax on those funds they improperly contribute to campaigns.
So why doesn’t the IRS act? There are lots of reasons. These groups are a political hot potato. The agency is chronically short-staffed and cracking down on them would produce relatively little revenue. Besides, the new (c)(4)s won’t even have to file their first returns until at least January 2012, so the agency today knows little about them. Most important, perhaps, it is not the IRS’ job to enforce campaign finance laws. That is supposed to be the role of the Federal Elections Commission, an agency carefully organized to be entirely ineffective.
In the end, this is a problem for Congress, not the IRS. The tax exemption is a valuable tool for these political fronts. They should be made to pay for the privilege by either refraining from campaign activity or disclosing their donors. If they won’t, Congress should take away their special tax treatment.
CORRECTION: As one of our commenters noted, these groups are not Super PACs.