EEOC Wants More Information From Large Nonprofits

Exempt organizations with 100 or more employees may want to comment on a recent proposal by the federal Equal Employment Opportunity Commission (EEOC) to significantly beef up certain reporting requirements imposed on all employers including large nonprofits.
Specifically, the EEOC wants to require, beginning in 2017, that all such entities  report employee compensation and hours worked – in addition to the information currently gathered on the Form EEO-1.
Time is of the essence; the public comment period ends on April 1, 2016.

  EEOC Enforces Federal Anti-Discrimination Laws

What, exactly, is the EEOC and why does it need so much information ?
The EEOC is not a federal department or agency; it’s a bipartisan commission created as part of the historic Civil Rights Act of 1964. That landmark law targeted discrimination in employment, voting, public accommodations, and education.  “omnibus bill addressing not only discrimination in employment, but also discrimination in voting, public accommodations, and education as well.” It is –  “

responsible for enforcing federal laws that make it illegal to discriminate against a job applicant or an employee because of the person’s race, color, religion, sex (including pregnancy), national origin, age (40 or older), disability or genetic information. It is also illegal to discriminate against a person because the person complained about discrimination, filed a charge of discrimination, or participated in an employment discrimination investigation or lawsuit.

It has nationwide jurisdiction over most employers with at least 15 employees (and, for age discrimination cases, firms with at least 20 workers) and “for all types of work situations, including hiring, firing, promotions, harassment, training, wages, and benefits.”

  Proposed Reporting Requirement

Under current rules, large employers, including nonprofits, are already required to file Form EEO-1, the Employer Information Report. They must provide the sex, race, and ethnic background of their employees.
The proposed rule expands the scope of EEO-1 reporting to include “pay data from employees’ Forms W-2 and their total numbers of hours worked, according to employee job category, sex, race, and ethnicity.” In order to protect employees’ privacy, the data is grouped under 12 pay levels.

 The Commission’s Rationale

The proposed rule change was announced on January 29, 2016, during the White House ceremony commemorating the 7th anniversary of passage of the Lilly Ledbetter Fair Pay Act:

This new data will assist the agency in identifying possible pay discrimination and assist employers in promoting equal pay in their workplaces.

“More than 50 years after pay discrimination became illegal it remains a persistent problem for too many Americans,” said EEOC Chair Jenny R. Yang. “Collecting pay data is a significant step forward in addressing discriminatory pay practices.
The EEOC intends to publish the aggregate data to help employers evaluate their pay practices. It will also be used in enforcement proceedings.

  Possible Concerns of Nonprofits

In addition to the added reporting burden, “nonprofit employers may wonder whether such pay data is vulnerable to disclosure to third parties through the Freedom of Information Act (FOIA).”

The EEOC already jointly collects EEO-1 data with the Office of Federal Contract Compliance Programs (OFCCP). For nonprofits subject to the OFCCP’s jurisdiction, the pay data, like other EEO-1 data, would be kept confidential to the maximum extent permitted by law. For all others, the Commission would not release employer data to the public “prior to the institution of any [Title VII of the Civil Rights Act of 1964] proceeding … involving such information. Thus, it appears that pay data is no more or less vulnerable to disclosure under FOIA than current EEO-1 information.


More information, including a Fact Sheet for Small Business and Questions and Answers are available on EEOC’s website at  
Affected nonprofits, and other members of the philanthropy community, should review these materials and let the Equal Employment Opportunity Commission know their opinions of this proposed change by the April 1, 2016 deadline.

How Many Officers Should a California Charity Have?

Especially for people who are new to the world of charities and tax exemptions, even the most basic concepts are perplexing. That includes the basic nature of the corporate structure, how it is governed, and the distinct roles (or “hats”) that various individuals perform. Particularly confusing is the perception – especially to outsiders – that one or two people are doing everything.
That may well be true, but there are limits. A single person may hold multiple roles in a nonprofit organization, but not all of them simulataneously.

  Management and Operation of a Corporation


Most organizations that want to have the coveted IRS charity tax-exempt status will set up as corporations. In California, these organizations are governed by the Nonprofit Public Benefit Corporation Law, starting at the California Corporations Code section 5110.
Under this corporate form, there are directors and officers. Both are required:

Every corporation must have directors and officers. Legally, a public benefit corporation … may operate with only one director. However, most charities operate with three or more directors, which is strongly recommended.

(As a practical matter, it may be difficult to be approved for tax-exempt status on the federal level with only a single director.)
Specifically –

Each corporation shall have a board of directors…. [T]he activities and affairs of a corporation shall be conducted and all corporate powers shall be exercised by or under the direction of the board.

The board of directors “may delegate the management of the activities of the corporation” – to one or more people, or to a management company, or to a committee – provided that the board keeps and exercises “ultimate direction.”
The board’s role is to create governing policy and make final decisions for the corporation.


In addition to directors, every public benefit corporation is required to have a president, a chief financial officer and a secretary. Additional officers may be appointed.
The “powers, duties, and liabilities of directors and officers of public benefit corporations are governed by California statutes.”
The statute that governs corporate officers is section 5213: 

(a) A corporation shall have (1) a chair of the board, who
may be given the title chair, chairperson, chairman, chairwoman,
chair of the board, chairperson of the board, chairman of the board,
or chairwoman of the board, or a president or both, (2) a secretary,
(3) a treasurer or a chief financial officer or both, and (4) any
other officers with any titles and duties as shall be stated in the
bylaws or determined by the board and as may be necessary to enable
it to sign instruments.

There is one express limitation on the overlap of offices:

Any number of offices may be held by the same person unless the articles or bylaws provide otherwise, except that no person serving as the secretary, the treasurer, or the chief financial officer may serve concurrently as the president or chair of the board.

The duties of the officers are to operate the corporation:

The president, or if there is no president, the chair of the board, is the general manager and chief executive
officer of the corporation, unless otherwise provided in the articles or bylaws.

“Unless otherwise specified in the articles or the bylaws, if there is no chief financial officer, the treasurer is the chief financial officer of the corporation.”
Generally, officers are selected by the board and “serve at the pleasure of the board, subject to the rights, if any, of an officer under any contract of employment.”  This is another example of one person wearing more than a single “hat.”  The category of employee is separate and distinct from the management – that, is the directors or officers.  But in many charitable corporations, some of the directors and officers are also hired as staff.  That power and authority is, however, different and distinct from any separate power that the person has by virtue of being a director or an officer, or both.


Under the express rules of the California Nonprofit Public Benefit Corporation Law, there must be at least two officers, because of the restriction that the president (or board chair) cannot also serve at the same time as secretary or as treasurer or chief financial officer.

When the Revenue Agent Comes Calling

Back in the early 2000’s, Enron, Worldcom, and other business scandals rocked the corporate world.  Although that wrongdoing involved huge, for-profit companies, it caught the attention of charity regulators at all levels of government.

We wrote in “Written Governance Policies: Which Ones Should Nonprofits Have?” that the Internal Revenue Service as well as the California Attorney General (and equivalent officials around the nation) have, in the post-Enron years, taken a special interest in how 501(c)(3) organizations, and public charities in particular, govern themselves.

In the case of the federal tax agency, it’s a bit of a departure from the laws relating to eligibility for tax exemption, its usual jurisdiction and focus;

Nevertheless, the IRS “believes that a well-governed charity is more likely to obey the tax laws, safeguard charitable assets, and serve charitable interests more than one with poor or lax governance…. [W]hile the tax law generally does not mandate particular management structures, operational policies, or administrative practices, it is important that each charity be thoughtful . . . [about] governance practices….”

There is substantial evidence of this interest by the IRS, including public statements of IRS officials, explanations in policy documents, and changes to the Form 990, adding questions about board composition and policies.  
“The agency “encourages a charity’s board of directors to adopt” specific written policies on matters including executive compensation, fundraising, and investments:

“These are not requirements, though – the IRS adds helpfully.  They’re not mandatory.  Think of them as . . . suggestions;  kind advice that a nonprofit can’t exactly refuse.”

And just to make sure charities are paying attention, the agents on a field audit are asking some pointed questions.

  Audit Governance Check Sheet

In late 2009, the IRS issued Form 14114, a Governance Check Sheet, which is used by IRS field audit staff during audits of public charities. Many – though not all – of the questions on this 2-page form are also on the Form 990.  It is a “very specific roadmap for exempt organizations to compare their practices and policies with what the IRS wants to see and to make adjustments where necessary.”

The questions on the agent’s check sheet are arranged in six separate areas of corporate governance:

Governing Body and Management


Organizational Control

Conflict of Interest

Financial Oversight

Document Retention

As an illustration of the comprehensive nature of this inquiry, the Governing Body and Management section asks 6, multi-part questions, with drop-down menus for the agent to write down highly specific responses, including:

    • Whether there is a written mission statement that is current;
    • If the bylaws set forth information for the members of the governing body and the organization’s officers as to: compensation, duties, qualifications, and voting rights;
    • If copies of the most recent versions of the articles and bylaws have been given to: all board members, only voting board members, general public (by request), general public (online), or not provided;
    • How many board members during the primary year under examination had voting rights;
    • How often a quorum of voting board members met during that primary year;
    • How often the full board met during that primary year; and
    • Whether the numbers of meetings referred to, above, met or exceeded the meeting requirements set forth in the organization’s bylaws;


There has been disagreement among expert advisers to the IRS about this focus on governance issues; not all members of the exempt organizations community agree that the IRS should focus on governance. However, it’s likely that the agency’s interest in this topic will continue – or escalate.  
In any event, state attorneys general – who have specific jurisdiction and authority over governance issues – are stepping up focus and enforcement on these same matters.

A Marriage (…Um..Merger…) is Announced

One day, you’ll read about some chapters of National Organization X breaking away. The next day, there will a press release about a happy merger of separate organizations Y and Z devoted to the same charitable cause.
These decisions to marry or divorce – philanthropically speaking, that is – often focus on the practical considerations of policy and strategic planning.
Of course, being lawyers, our worldview is a bit different. We walk down the street and see a car accident. Like other bystanders, our first thoughts are about the health and welfare of the victims, but invariably – and quickly – our minds float off into the land of “comparative negligence” and “uninsured motorist liability.”
So when we hear about charity groups making major changes, we start focusing on issues like “who owns the assets” and “which state’s law applies to govern the dissolution of a national organization.” If it’s a dissident group of members breaking off, we wonder “who gets to keep the corporate name and goodwill.”   
You get the idea. We specialize in “issue identification”: trying to predict likely problems – whether or not they will materialize in the future.

  The Consolidation of Two Ovarian Cancer Groups

The recent announcement of the strategic merger of two organizations focused on the scourge of ovarian cancer caught our attention. There are features – (well, what we can glean from reading news reports and press releases) – that bode very well for this union.
On January 28, 2016, “two nonprofits dedicated to ovarian cancer announced a merger that they hope leads to a more efficient and effective combined organization.”


The organizations formerly known as “Ovarian Cancer Research Fund” and “Ovarian Cancer National Alliance” have formed the “Ovarian Cancer Research Fund Alliance.” It’s an easy combination of the two names – not unlike the hyphenated last names that were in vogue for yuppie couples some years ago. Nobody gets slighted.
We do wonder, of course, about whether there was some name confusion in earlier years; both were “Ovarian Cancer….”  We’ve written before about the ugly lawsuits that can arise from allegations of infringing a corporate name and poaching the supporters and donations from each other. See, for instance, here.  
The new organization may also want to consider notifying present and past supporters of each group. They need to know of the name change if – for instance -they’ve made bequests in their wills. There could be some difficulty with a testamentary gift to Ovarian Cancer Research Fund if – in 2018 when the donor dies – no such organization exists anymore. Read more, here.

 Too Much Stuff

This consolidation of ovarian cancer charities seems like a marriage made in heaven becauses each group had (and will continue to focus on) separate activities – in separate cities. “Staff and programs for each former organization remain the same”:

Based in New York City, OCRF is the larger organization, with 14 employees and revenue of more than $9.3 million in 2013 …. Much of its program expense is funding research – $7.4 million in 2013. It’s the largest charity funding ovarian cancer research in the United States. OCNA has seven employees and revenue of $1.6 million, with program spending focused on education, awareness and advocacy. The Washington, D.C.-based OCNA is a patient support organization with more than 60 partner member organizations.

It’s like a 30’s-something commuter-marriage couple; they have great jobs in separate cities. One partner can keep her shabby chic decor as well as all of her favorite kitchen appliances. The other partner can have his “man cave” with the ugly chair, center-stage, next to the beer keg.  Couples moving in together have to decide whose coffee maker and toaster oven stay on the counter of the tiny galley kitchen; these ugly fights play out every day on HGTV. Here, each ovarian cancer group can keep its own stuff (read: leadership, staff, office leases, community contacts and reputation, expertise and focus, etc.)


Of course, only time will tell, but it has the marks of a good decision:

As separate groups supporting the same cause, we recognized that the organizations gaining the most ground against specific diseases were those that developed a ‘one-stop shop’ approach through research, advocacy, education and awareness. Highly effective organizations such as the Michael J. Fox Foundation for Parkinson’s Research, Juvenile Diabetes Research Foundation, and American Lung.

Critics’ Concerns About Form 1023-EZ: Spot On

The Internal Revenue Service’s own Taxpayer Advocate Service (TAS) has confirmed that the worst fears about the new Form 1023-EZ launched in mid-2014 were well-founded.
In its recent 2015 Annual Report to Congress, the “highlights” section on the cover includes this headline:

Recognition as a Tax-Exempt Organization is Now Virtually Automatic for Most Applicants.”

  Troubled Form 1023-EZ Procedure

The Taxpayer Advocate Service “is an independent organization within the IRS.”  Its job is “to ensure that every taxpayer is treated fairly and …[knows and understands its] …rights.”
Each year, the TAS issues a report to Congress that “analyzes the most serious problems facing taxpayers, recommends tax law changes to Congress, and presents original research studies into issues affecting taxpayers.”
The rebuke about the tax-exemption application process is one of 9 selected areas of concern. It is a “stinging indictment of the IRS’s ‘absurd’ handling of applications for tax exemption, especially the recently introduced 1023-EZ ‘short form’ designed for use by small new charities.”

  Worries About the Form 1023-EZ 

Back in 2014, we published a 3-part series (here, here, and here) on the introduction of the Form 1023-EZ as a remedy for what had become an intolerable backlog in the tax-exemption application process. It was taking at least 18 months or more for an organization filing for exempt status to have even a fairly straightforward application approved. By 2013, the wait list topped 66,000 requests.
At that time, there was a single application form, the Form 1023, a 26-page monster, that was – many agreed – too complex for small organizations.  In addition, budget cuts and hiring freezes had left the Exempt Organizations Branch with too few workers for the high volume of applicants.
The chosen emergency remedy to wipe out this backlog was adoption of a 3-page short-form application form and process that would apply to many small- and medium-sized organizations. There were a few questions to answer along with representations from applicants that their documents are, or would be, in order. The actual documents (including articles of incorporation and bylaws) do not have to be submitted.
While acknowledging that the new Form 1023-EZ would likely be successful in reducing the backlog, many in the philanthropic community predicted that the new Form 1023-EZ process would lead to many unqualified organizations receiving summary approval. A related concern was that this so-called fix would “cause more work after the fact for both the IRS and state charity regulators.”

  TAS Findings on the Form 1023-EZ

The Annual Report links to the PDF text of the TAS’s full discussion on the exemption- applications problems. Keys points described in the summary are:

  • The Form 1023-EZ “invites noncompliance, diverts tax dollars and taxpayer donations, and harms organizations later determined to be taxable.
  • The approval rate for 1023-EZ applications is 95%, but when the agency does a pre-determination review on a sampling basis, the approval rate is just 77% when documents or basic information are reviewed, “rather than relying only on the attestations contained in the form.”
  • In the same pre-determination samplings, almost 20% of applicants, “despite their attestations to the contrary, did not qualify for exempt status as a matter of law.”  These results are consistent with the Taxpayer Advocate Service’s own representative sample of 1023-EZ applications: “37% of the organizations … did not satisfy the legal requirements for exempt status.”

The National Taxpayer Advocate recommends that the agency revise Form 1023-EZ to –

require applicants to submit their organizing documents, unless they are corporations in states that make articles of incorporation publicly available online at no cost. Form 1023-EZ should also require applicants to submit a description of their actual or planned activities and financial information such as past and projected revenues and expenses. The IRS should make a determination only after reviewing the application and these supporting materials, and when there is a deficiency in an applicant’s organizing documents, the IRS should require the applicant to submit a certified copy of reformed articles before it confers exempt status.


We earlier reported the frustration expressed in 2014 by Tim Delaney, the President and CEO of the Council of Nonprofits: “It’s easier to get tax-exempt status under Form 1023EZ than it is to get a library card.”
Seems he was right, after all.

Trying to Wriggle Out of Feeder Organization Status?: Not Easy

Three old hippies walk into a bar ….

Well, they were former hippies, but they weren’t at a regular bar. They were sipping cappuccinos at a trendy spot at Venice Beach – a coffee bar.

Actually, one of them was a young lawyer, but the imaginary friends joining her were some famous former hippies.

Their discussion inspired the young lawyer to set up a special new business reflecting enlightened social philosophy. But it wouldn’t be a business, exactly, because all the profits would go to charity….

Not this scene, but one like it, was what may have inspired the late Rick Cohen of The Nonprofit Quarterly to pen an article last year titled “IRS and Courts Reject Hippie Redemption For-Profit Businesses as Public Charities.”  
He discusses the clever attempt to try to overcome the “feeder organization” dilemma, but the Internal Revenue Service, then the United States Tax Court, and then again in May 2015, the 9th Circuit Court of Appeals, were having none of this creative legerdemain.

  The Zag That Tried to Fly

In 2010, M. Renee Orth formed Zagfly, Inc.,  as a California Nonprofit Public Benefit Corporation.
The Articles of Incorporation read:  “The specific purpose of this corporation is to establish Internet platforms that will enable the general public to direct the proceeds of their activities to charitable causes.”
“Zagfly is, or would be,” according to Rick Cohen, “a firm that sold flowers at market prices to online consumers … [with a plan] to expand to marketing other goods and services.”  It sought 501(c)(3) public charity status because its donation of its profits to charitable organizations would make it “akin to a public charity itself.”  
“It struck us,” Cohen wrote, “to look into what Zagfly was and why it might have attempted to pitch its market-rate flower business as a 501(c)(3).” He discovered by Google search that the M. Renee Orth who is listed as the President, CEO, and attorney for Zagfly, Inc. –

self-identified as a “Social Entrepreneur and Catalyst for Change.”Orth also appears as the co-author with her husband of Conspiracy of Dreamers: Capitalism at the Service of Humanity, published by Magnolia Lane Press in 2012. The book is a wide-ranging paean to what they describe as ‘eco‑nomics,’ based on the values of thinkers as diverse as the Dalai Lama, Ron Shaich (Panera), Eckhart Tolle, and Bill Gates, to name only a handful of the people Orth cites for inspiration.

  Good Try, Zagfly, But No Cigar

Straight out of the gate, the Tax Court made clear that the IRS had correctly denied the requested tax exemption under 501(c)(3) because merely donating profits to charity doesn’t turn a business into a charity itself. In a short opinion, the 9th Circuit affirmed.
After a lengthy description of the planned organization and operation of Zagfly, Inc., the Tax Court based its ruling on the grounds of Zagfly’s failure of the operational tests of 501(c)(3), but spent time as well on the organizational test, and added some bits about the unrelated business income tax.
The Court summarily swatted away Zagfly’s alternate argument that it would not be disqualified from tax exemption as a Section 502 “feeder organization.”

Because we hold that petitioner will not operate exclusively for an exempt purpose and, therefore, is not an exempt organization under sec. 501(a), ‘we need not address the question whether petitioner is a ‘feeder organization’ under sec. 502(a).

  The Business Plan That Didn’t Make It

The unique twists and turns of Zagfly’s business plan that its founders hoped would be successful arguments as exceptions to feeder-organization status weren’t at all persuasive: “[Zagfly] plans to engage in an Internet-based business selling goods and services” but “[b]rokering sales of flowers between consumers and florists is an activity ordinarily carried on by commercial enterprises.” Moreover, “[Zagfly] acknowledges it will be ‘a newcomer in a saturated market’, and it will be in direct competition with commercial flower brokers.”
Just so you know – if you want to take a stab at a feeder organization exception – here are some of the Zagfly features it hoped would fit into one of the established exceptions to Section 502 (paraphased here from the Tax Court’s description of Zagfly’s brief; Zagfly is the petitioner, by the way):

  • “Initially, petitioner intends to create a Web site and sell flowers as part of an established network of florists;
  • As a flower broker, petitioner anticipates that it will earn a sales commission of approximately 10% to 20% of the purchase price of the flowers it sells;
  • Petitioner’s Web site will feature approximately 40 different floral arrangements for purchase and delivery, and it expects to sell flowers at market rates, i.e., the price offered by other vendors participating in the florist network. When customers purchase flowers from petitioner, they will be able to designate a charitable organization, from a list of organizations approved by petitioner, to receive all of the profit arising from the transaction;
  • Petitioner will approve an organization to receive a share of its profits only if the organization is exempt under section 501(c)(3);
  • Petitioner plans to begin operations with an all volunteer workforce. However, assuming its business model is viable, petitioner intends to pay its employees reasonable salaries;
  • Petitioner indicated it will begin operations with an all volunteer workforce. However, assuming its business model is viable, petitioner intends to pay its employees reasonable salaries.
  • Petitioner indicated that it would ‘suggest that our users allocate a small percentage (10% to 20%) of the profits (i.e., 1% to 2% of the purchase price) from their flower purchase to supporting our nonprofit. If we find that our users are not inclined to voluntarily elect to allocate funds to our organization, then we may need to include our operating expenses in determining the ‘profit’ that goes to the charitable cause of our users’ choice’.
  • Petitioner’s goal is to cover all operating costs with philanthropic donations so that all user generated revenue * * * can be directed to the charitable causes our users wish to support.  
  • Although it will fulfill its purpose by engaging in activities that others engage in for commercial gain, its primary motivation is charitable.”


Of course, when this organization was formed in 2010, California had not yet adopted the social enterprise hybrid corporate model. That happened at the end of 2011.
Eco‑nomics,” Zagfly’s founder and her co-author wrote,

is an alternative model for understanding and shaping the system with and in which we collectively and individually respond to and shape our material world, and are, in turn, shaped by it. Eco‑nomics is based on the wealth of wisdom coming out of the science of systems….Capitalism is evolving, soulful and, most importantly, alive. The goal, rather than blind growth, is the collaborative expression of what it means to be a human being and the joyful celebration of the experience of life in its infinitely varied forms.

“Toward the end of the book,” according to Rick Cohen, “Orth and her co-author talk about the concept of ‘eco‑nomics’ as something of a ‘Hippie Redemption’ for the Baby Boomer generation that they align with Gates and Shaich in their work ‘to shift from reaction (and, for many, from resignation) to creation and bring about the world of love and peace they imagined in their youth.’

In the book’s epilogue, Orth adds a page mentioning Zagfly as the intended ‘platform for executing many of the ideas shared in this book,’ albeit without explanation as to what Zagfly would actually do, though Orth acknowledged that the IRS found the entity ‘too commercial.’

Sure sounds like a social enterprise to us.

Private Letter Rulings for Nonprofits Curtailed

It’s been a tough few years for the IRS Division that has primary responsibility to implement the laws for tax-exempt organizations.
The Tax Exempt and Government Entities (TE/GE) Division has endured – together with the IRS, generally – budget cuts and hiring freezes. It’s also been caught up in the fallout from the long-running saga of former Exempt Organizations Unit Director Lois Lerner and the purported partisan review of 501(c)(4) organizations.
This has resulted in significant management turnover and disarray, haphazard reorganizations, and reduction of services to the nonprofit community it is tasked with regulating.
For example, the wait-time for approval of tax-exemption applications had swelled to 18 months or longer. The emergency remedy was adoption of a short-form exemption application, the Form 1023-EZ. But critics are slamming that solution as inadequate to do a proper advance screening for eligibility for 501(c)(3) status.
Recently, the IRS issued the annual (2016) rules for requesting advance approval of proposed activities or transactions. Unfortunately, it’s another instance of an unfortunate reduction in services; a slashing of a function helpful – (indeed, necessary) – to the successful implementation of the tax-exemption laws and oversight of nonprofit organizations.

 Private Letter Rulings: What are They?

If a party – here, a tax-exempt organization – wants to know whether a proposed transaction or change in operations or activities will jeopardize its exemption or cause other problems, it may be able to ask the IRS for advance approval. This is a request for a “private letter ruling (PLR).” Under certain conditions, the agency will review those specific facts and circumstances, analyze applicable law, and issue the PLR. This approval applies only to that organization and that set of disclosed circumstances, and may not be relied on by others or by IRS personnel in connection with any other case.
Each January, the IRS issues a series of documents called “revenue procedures” that detail the types of issues the IRS will entertain in connection with a request for a private letter ruling, and the specific steps to take. These guidance documents also announce the issues on which the agency will not accept requests at all.

 Private Letter Rulings Changes for 2016

Tax-exemption law is complicated, and there are many unresolved issues. That’s why private letter rulings are such valuable tools to help organizations stay in good-faith compliance.
In earlier years, a tax-exempt organization could request a private letter ruling from the Exempt Organizations Technical Branch (in the Washington, D.C., National Office), the group with the most knowledge of the applicable laws as well as hands-on experience with how nonprofits operate.
The permitted topics included experts whether the planned course of action would either adversely affect the tax-exempt status or would result in unrelated business income tax (UBIT).
There were certain issues that the Technical Branch would not address. For example, they would decline to issue a private letter ruling on matters that turned on factual calculations like whether the price for a proposed transaction was fair market value. They would also stay away from a few specific topic areas, like a 501(c)(3)’s question about entering into a joint venture with a for-profit firm.
2016, however, is an entirely different story. The scope of the permitted topics has been significantly reduced. This year’s announcement, in Revenue Procedure (“Rev. Proc.”) 2016-4, along with Rev. Proc. 2016-5 and Rev. Proc. 2016-8 “makes clear –

that tax-exempt organizations will no longer be able to receive a ruling or any comfort from the IRS that changes in their operations are consistent with their tax-exempt status.  In other words, exempt organizations are on their own.

There’s another change, too. In earlier years, an organization could give official written notice to the IRS of a change in its activities. Sometimes, the agency would respond to such a letter, indicating that the changes were consistent with its exempt status, and that the tax-exemption was unaffected. This is no longer allowed. The current Form 990 instructions indicate that the proper way to inform the IRS of a change in activities is by including the notification on the Form 990.

 Private Letter Ruling Duties Transferred

In March 2015, IRS Commissioner John A. Koskinen announced that the IRS is “under new management” due to major changes in management staff over the past few years.
Many of these management losses were in the Exempt Organizations Unit (formerly run by Lois Lerner). The Commissioner also explained there were changes in “organization and procedures” in that same – embattled – part of the IRS concerned with exempt organizations.
One significant change is that the responsibility for private letter ruling requests (including ones about “exemption requirements for, and tax treatment of tax-exempt organizations”) was transferred away from the exempt organization experts, the EO Technical Branch.
These duties were moved to the Chief Counsel’s Office: specifically, the Associate Chief Counsel (TE/GE). They are the official legal advisers for the Internal Revenue Service; note, though, that the staff of the EO Technical Branch are all lawyers, too.


The 2015 reorganization – along with the changes in the 2016 private letter ruling procedures for exempt organizations – have led to considerable confusion. They have also resulted in a counterproductive reduction of needed technical advice services to the nation’s tax-exempt groups.  

All Profits to Charity?: Not a 501(c)(3)

From time to time, folks come into our office with the idea of doing something like Newman’s Own; that is, starting a business and donating all the proceeds to charity. They ask us to help them set up a 501(c)(3) organization.

They are often surprised to learn that Paul Newman and his partner set up that salad-dressing and pasta-sauce business as a for-profit company. It gives all after-tax profits to the Newman’s Own Foundation, which in turn distributes the money to various charities.

  Why Can’t It Be a 501(c)(3)?

Section 501(c)(3) status is a tax exemption for nonprofit organizations that are organized and exclusively for charitable purposes.

Simply put, a business is organized and operated to make profits – even if the funds are eventually put to philanthropic purposes. A business that gives its profits to charity is called a “feeder organization.”
Decades of legal precedent makes this clear. See e.g., Piety, Inc. v. Commissioner, 82 T.C. 193 (1984) [a company that holds bingo games and contributes profits to charities is operated for the primary purpose of carrying on a trade a business, and not operated exclusively for an “exempt” purpose under section 501(c)(3)]  

A brief historical note: Before 1950, these types of operations  “were exempt from paying income tax, much like a nonprofit” and “this kind of operation was permitted a charitable tax exemption.” But the business community started howling about the unfair competitive edge these firms enjoyed, and Congress passed a statutory ban of this practice. That’s how we got the predecessor to Section 502 of the Internal Revenue Code:

  Feeder Organizations: The Rule

Section 502(a) spells it out in about 90% plain English:

An organization operated for the primary purpose of carrying on a trade or business for profit shall not be exempt from taxation under section 501 on the ground that all of its profits are payable to one or more organizations exempt from taxation under section 501.

If an entity is organized 100% to carry out a trade or business for profit – but gives profits to charity – there’s no wiggle room; it can’t be a 501(c)(3) exempt organization.

If the business operation is less than 100% of the entity’s focus, then the “primary purpose” test may come into play. The definition of “primary” in the tax exemption laws is squishy; there’s no fine line:

There is no absolute dividing line for deciding the primary purpose of an organization; instead, it’s decided case by case. If your nonprofit runs a small business, it may come down to how much of the nonprofit’s activity is business and how much is tax-exempt work.

So there may be a tax exemption under section 501(c)(3), but the profits will likely be subject to the unrelated business income tax.

A bingo company or any other firm that conducts business as its sole activity is a “feeder organization” and that’s that.

But – as usual – there are a few exceptions spelled out in Section 502.

 Feeder Organizations: The Exceptions

Under section 502(b), “the term ‘trade or business’ shall not include”:

  1. passive rental income;
  2. “substantially all” the work in carrying on the trade or business is volunteer; or
  3. a trade or business that sells merchandise, “substantially all of which has been received by the organization as gifts or contributions.”

Some common examples of these are certain thrift shops run by charities, but only if “most of the goods for sale come from donations, or if the staff is almost entirely volunteering for no ways. People who donate the clothing can take a tax deduction; shoppers at the store are getting something for the price, so they can’t take a tax deduction – even though those funds, too, help support the charities’ mission.

Another example is a business operation that further’s a charity’s goals; for instance, “a business that hires the homeless to teach them marketable job skills might qualify as tax-exempt.”

Businesses that are created to provide services to a “parent charity” may also be exceptions to the “feeder organization” rules. “A company you create –

to provide electricity to your charitable group, for example, could qualify as tax-exempt, even though it shows a profit. This only works if the service goes entirely to your charity, or to several affiliated charities. If the company provides service to unrelated charitable groups or the general public, it’s just a for-profit business like any other.


Hope springs eternal, and folks out there still keep trying to crawl out of the “feeder organization” designation.

In our next post, we’ll tell you about a creative – but, alas – unsuccessful effort decided by the United States Tax Court, and then eventually, last year, shot down by the Ninth Circuit Court of Appeals.

GuideStar Launches Redesigned Charity Profiles

For over two decades, GuideStar has led the way in the philanthropic community to gather and disseminate charity profiles – information about “every single IRS-registered nonprofit organization.”  This influential Section 501(c)(3) organization provides “… as much information as [they] can about each nonprofit’s  mission, legitimacy, impact, reputation, finances, programs, transparence, government, …” and more.
GuideStar’s mission: “To revolutionize philanthropy by providing information that advances transparency, enables users to make better decisions, and encourages charitable giving.
Where does GuideStar get this information?: it’s supplied by the nonprofits themselves along with “data from several other sources” including, of course, any filed Form 990s.  
Any nonprofit in GuideStar’s database is permitted and encouraged to update its “Nonprofit Profile” free-of-charge.  The group “encourage[s] nonprofits to share information about their organizations openly and completely.”
The information gathered is then disseminated on GuideStar’s own website – – as well as on their “many client and partner websites” and in “computer applications used by funding entities and private companies that work with nonprofits.”

 New Focus for Charity Profiles 

From time to time, GuideStar revamps the format of the charity profiles it presents. For the first time since 2009, officials there determined that it was important to improve and refresh these profiles, and – most significantly – to emphasize “programming and results.”
The launch was on January 20, 2016, and effective immediately. “Gone are the static pie charts and other design elements that often served as preliminary snapshots for grant makers and others seeking information.”
In the new format, there are “…interactive data visualizations that illustrate charities’ revenue and expenses over many years and others that show the demographic makeups of charities’ board members and staff.”
The purpose of the redesign is to help interested viewers to “more easily identify an organization’s geographic reach, results, sources of funding, financial stability, and leadership.”
One of the biggest changes is a “shift in emphasis from charity overhead costs to programs and results.” Philanthropic experts and commentators have been concerned for some time that there has been too much emphasis on overhead percentage (compared with program spending) as a sole measure of an organization’s legitimacy. There have been many calls to discredit this “overhead myth.
A key feature is “what GuideStar has dubbed its ‘charting impact’ questions”; charities are asked to respond these these questions about “goals and accomplishments.”

 Reaction to Redesigned Charity Profiles

Ruth McCambridge, the editor of The Nonprofit Quarterly, urges readers to take a look at the “…quite phenomenal change in look and accessibility ….” The older version was “relatively static and not exactly user-friendly.”  It’s not “…your dad’s passive and somewhat clunky GuideStar anymore.”
But she has concerns including, for instance:

Some of the new categories of information trouble us, in that they are presented side-by-side with the information on the 990. Specifically, we worry about highlighting questions of largely unknown importance, as in the governance section, where one is asked, for instance, if they have engaged in a board assessment over the past year. The presence of these questions, as with the old ratio-based pie chart, gives them an authority that I think is less than useful.

She cautions, also, that the “decision to prioritize program information is fine, but this area may be prone to marketing puffery and that may lessen the credibility of the 990 data without some more obvious caveats.”
Other observers note that a drawback inherent in any system that depends on voluntary submission of information is, of course, that there will be intentional noncompliance or inability to comply – especially in the case of small organizations.  


GuideStar officials believe that “…the best possible decisions are made when donors, funders, researchers, educators, professional service providers, governing agencies, and the media use the quality information that [they] provide.
This new format, though, is not the end of the story. GuideStar intends to “continue to make improvements to these profiles over the next few years.”

What is an Executive Committee?

In “Lessons for Charity Governance From Sweet Briar and San Diego Opera,” we highlighted two instances in which, under the prior leadership just ousted, it was clear that a small group of insiders had dominated and overwhelmed the boards of directors almost off the proverbial cliff.
So what exactly is a corporate executive committee?  Is it necessary? Is it a valuable element of governing any corporation, including a nonprofit one, or has it outlived its traditional usefulness?
The corporate governance model is similar around the United States, but each jurisdiction has its own precise laws and rules.

Executive Committees under California Law

The California Nonprofit Public Benefit Law is the statutory scheme that governs most of this state’s organizations that have 501(c)(3) federal tax exemptions.
The key governing principle is that “[e]ach corporation shall have a board of directors.” Generally, “…the activities and affairs of a corporation shall be conducted and all corporate powers shall be exercised by or under the direction of the board….” (Section 5210 of the California Corporations Code; emph. added) The “shall” language means that it’s mandatory.
But – and this is a big “but” – “[t]he Board may delegate the management of the activities of the corporation to any person or persons, management company, or committee however composed, provided that the activities and affairs of the corporation shall be managed and all corporate powers shall be exercised under the ultimate direction of the board.”
And there’s more: Either under authority of the corporate bylaws, or by a resolution adopted by a majority vote, “[t]he board may, … create one or more committees, each consisting of two or more directors, to serve at the pleasure of the board….” Section 5212(a).
These are known as “board committees” and that can be structured to have all of the board’s usual power and authority, except to do certain important things, for example:

  • change the bylaws
  • fix the compensation of directors
  • fill board vacancies

Such a “board committee” would include a so-called executive committee.
Within certain limits, California public benefit corporations have a lot of leeway to structure a governance system that works for them.  But what can be created can also be changed – if it turns out to be a bad idea.

Are Executive Committees Obsolete?

Traditionally, executive committees were useful and necessary because they have the authority to act (on most issues) in between regularly scheduled full board meetings or  “in an emergency whenever quick and decisive action is called for.”
But in today’s world of email and videoconferencing, there’s a legitimate argument that executive committees have have become “obsolete.”  There are helpful analyses here, here, and here from respected and knowledgeable experts on the relative pros and cons of the modern-day executive committee.
The biggest danger is that, all too often, a strong executive committee (usually combined with a dominant chief executive officer) will run amok:

In almost every board with a strong, active Executive Committee, the board as a whole is disengaged. That should come as no surprise – the board’s role has been usurped by the Executive Committee! When the Executive Committee has already discussed the ‘good stuff,’ the only remaining role for the board as a whole is to act as a ratifying body.


That’s what happened at Sweet Briar College and at the San Diego Opera, and countless other well-meaning organizations that have made a wrong turn. The good news, though, is that this imbalance of power can – and should be – corrected.