Is it Time to Rethink the Tax Treatment of Charitable Organizations?

By :: July 26th, 2012

Here’s a word association game: I say tax-exempt public charity. You say house of worship, soup kitchen, or university. You probably don’t think about secret back-room political operations or multi-billion dollar businesses. But you should.

Increasingly, these organizations are straying from the charitable work that drove Congress to grant them tax-exempt status in the first place. Instead, they are using the law to avoid tax on business profits or mask the identities of big-bucks campaign donors who finance increasingly nasty, but entirely anonymous, political ads.          

Yesterday, while most tax wonks were focused on the Senate’s largely symbolic votes on the fate of the 2001-2010 tax cuts, the House Ways & Means Oversight subcommittee was holding an important hearing on the arcana of tax-exempt public charities. And the panel heard, in great, sad detail, how charities are abusing the spirit, if not the letter, of the law.

Let’s take two examples:

The first is the growing commercial activity of charities. As University of Illinois Law Professor John D. Colombo told the subcommittee, such business is booming. “It is increasingly common,” Colombo said, “to find charities engaged in a variety of economic activities through for-profit subsidiaries, joint-venture partnerships, and contractual arrangements.”

In theory, charities are required to pay tax, called the unrelated business income tax, on this revenue. They can even lose their tax-exemption for such aggressive business activities.  But they almost never lose their exemption and they rarely pay the tax.

Once, this issue applied to income from college bookstores. Now, it is big business. Colombo described one non-profit Pennsylvania health system that controlled eight tax-exempt entities and three for-profit corporations. Then, there are non-profits such as the National Football League and the U.S. Olympic Committee that arguably exist only as commercial enterprises.

Colombo argued that this trend raises many important concerns, including unfair competition between non-profits and for-profits, the erosion of the corporate tax base, and the loss of focus by charity management.  

The second issue, and one that is getting lots of attention in this heated election season, is the aggressive use of the public charity law by political operatives. Through a chain of immensely complex arrangements, these groups have been able to organize themselves in a way that allows their funders to make unlimited, entirely anonymous contributions to political campaigns.

The thread is mind-numbing. But Ohio State University Law Professor Donald B. Tobin walked the committee through the maze. First, keep in mind that the tax laws prohibit public charities from engaging in political advocacy. However, the IRS does allow tax-exempt social welfare organizations—organized under a different section of the Tax Code--to lobby or advocate for issues. Unlike charities, donors can’t deduct their contributions to these groups. However the organizations themselves do not have to pay tax on their income.

These social welfare groups can even create separate funds to engage in political activities. However,   they must disclose the names of their contributors—exactly what the political operatives want to avoid. So, smart lawyers figured out a way to keep contributors’ names secret by laundering funds directly through the social welfare organizations themselves. This requires them to claim they are engaged in issue advocacy and not politics, and assertion that would surprise anyone who watches the ads they fund.

Tax-exempt organizations won’t be immune from the debate over tax reform, and their special treatment may be jeopardized as Congress looks for ways to broaden the tax base. The more public charities use their tax-exemption to avoid tax on regular business income or mask political operations, the more they will put that special treatment at risk.

8Comments

  1. james jarrell  ::  12:19 pm on July 27th, 2012:

    look at the Habitat for Humanity filings on-line. They are receiving 100s of millions from the government to do what should be done by private investment. They can take govenrment money to buy real estate, sell it and not only keep the profit but ALL THE PROCEEDS using a fraudulent description of what they are with the buyers. HUD and OIG should investigate this and insist the money from the taxpayers come back to HUD. Keep the profit but give the taxpayers their money back. Its disgusting.

  2. David E. Griffith  ::  1:59 pm on July 27th, 2012:

    “The more public charities use their tax-exemption to avoid tax on regular business income or mask political operations, the more they will put that special treatment at risk.” Until, that is, their lobbyists on Capitol Hill(paid for by charitable donations) begin their standard routine. . . .

  3. Michael Bindner  ::  5:03 pm on July 27th, 2012:

    This article proved useful in developing our comments, as we were not planning to mention the political committee angle. Our comments for the record are included via a link below.

  4. Michael Bindner  ::  5:45 pm on July 27th, 2012:

    http://fiscalequity.blogspot.com/2012/07/hearing-on-public-charity.html

  5. William B. Scott VII  ::  2:27 pm on August 2nd, 2012:

    The University of Tampa recently did a very good study on the amounts that would be paid by all “charitable groups,” if they had to pay taxes. An example would be those wonderful christian people of the Westboro Baptist church. They eat and sleep and travel on we the people while they do their song and dance at sacred funerals.

    Their next project, I hope, will be to take on all of the other “non-profits,” the dot orgs who feed off of the American tax-payers.

    Look kids, if you and your pals can’t find work after your four years within those ivy covered walls this is what you do.
    Register with the govt as a non-profit, a 501c3. Sit back, have a smoke, and dream up some “Mission” that will pull on the heart strings of many Americans. Some green thing, some environmental, public safety, the list is endless. Slap-up a nice website, set-up a paypal account and go after those folks who will give you money because they in turn can write it off on their taxes. Pay yourselves a nice salary, rent a beach house, buy some non-profit cars, furnish your plush offices. Live-it-up; after all it is only the tax-payers dime.

  6. Marco Rubio calls for IRS Commissioner to resign – Forums at Psych Central  ::  12:42 am on May 14th, 2013:

    […] (c)(4)s are not tax-deductible. So why would they want (c)(4) status? One reason: It allows them to hide the names of their donors. In the past, these groups would have claimed tax-exempt status as Sec. 527 organizations. There […]

  7. ACROSS THE FADER – BIZ – The IRS Was Wrong — But Many Political Groups Should Not Be Tax-Exempt  ::  11:36 am on May 14th, 2013:

    […] In contrast to public charities organized as 501(c)(3)s, contributions to (c)(4)s are not tax-deductible. So why would they want (c)(4) status? One reason: It allows them to hide the names of their donors. […]

  8. Trifecta of Scandal: Obama Administration Under PressureCogent Comment  ::  1:25 pm on May 14th, 2013:

    […] In contrast to public charities organized as 501(c)(3)s, contributions to (c)(4)s are not tax-deductible. So why would they want (c)(4) status? One reason: It allows them to hide the names of their donors. […]