Proposed Regulations – Intermediate Sanctions and Recognition of Tax-Exempt Status

The proposed regulations issued by the IRS on September 9, 2005, clarify (1) that a tax-exempt organization under IRC section 501(c)(3) must serve a public rather than a private interest, and (2) that that the imposition of intermediate sanctions for excess benefit transactions under IRC section 4958 does not preclude the IRS from denying or revoking the tax-exempt status of an organization under IRC section 501(c)(3). 

Examples contained in the proposed regulations with respect to the first point illustrate that prohibited private benefits may involve non-economic benefits as well as economic benefits and that prohibited private benefits may arise regardless of whether payments made to private interests are reasonable or excessive.

Among the facts and circumstances that the Commissioner will consider in deciding whether to revoke the tax-exempt status of an applicable tax-exempt organization (as defined in IRC section 4958(e)) and described in IRC section 501(c) that engages in one or more excess benefit transactions that violate the prohibition on private inurement:

* The size and scope of the organization’s regular and ongoing activities that further exempt purposes before and after the excess benefit transaction or transactions occurred.
* The size and scope of the excess benefit transaction or transactions (collectively, if more than one) in relation to the size and scope of the organization’s regular and ongoing activities that further exempt purposes.
* Whether the organization has been involved in repeated excess benefit transactions.
* Whether the organization has implemented safeguards that are reasonably calculated to prevent future violations.
* Whether the excess benefit transaction has been corrected, or the organization has made good faith efforts to seek correction from the disqualified persons who benefited from the excess benefit transaction.

From the IRS website:

The IRS and Department of Treasury have issued proposed regulations on the requirements for exemption under Internal Revenue Code section 501(c)(3).  The proposed regulations amend the existing regulations under 501(c)(3) and add several examples to illustrate the requirement that an organization serve a public rather than a private interest.  The proposed regulations also provide guidance on factors the IRS will consider in determining whether a 501(c)(3) organization that engages in one or more excess benefit transactions described in section 4958 will continue to be recognized as exempt under section 501(c)(3).  Comments on the proposed regulations and requests to speak at a public hearing are due by December 8, 2005.

Click here for the proposed regulations.