Tax-exempt section 501(c)(4) organizations are defined by the Internal Revenue Code as “social welfare organizations.” Treas. Reg. section 1.501(c)(4)-1(a)(2) provides that the organization must be “primarily engaged in promoting in some way the common good and general welfare of the people of the community.” Some members of Congress and the IRS have recently taken an interest in section 501(c)(4) organizations. In a 1982 revenue ruling, the IRS suggested that the gift tax would apply to donations to such organizations, but the first indications of actual enforcement only appeared in 2011, when the IRS admitted that it had five gift tax audits underway for section donors to section 501(c)(4).
The gift tax has also been a focus for legislative scrutiny of 501(c)(4) organizations. For example, the Congressional Research Service recently released an analysis of whether transfers to 501(c)(4) organizations should be subject to this tax. Its analysis provides an overview of the gift tax and 501(c)(4) organizations and considers arguments in favor of and against applying the gift tax to transfers to such organizations. Ultimately, though, the argument for application of the gift tax, given its history and purpose, features more prominently in the CRS report.
The gift tax applies to lifetime transfers of property by gift to the extent that the property transferred is “for less than an adequate and full consideration in money or money’s worth.” Its purpose is to serve as a backstop for the income and estate taxes by deterring wealthy individuals from transferring income-producing property to individuals in lower income brackets or from transferring all their assets prior to death. The tax applies broadly to all gratuitous transfers with two important statutory exceptions. First, section 2522 excepts contributions to charitable organizations that are not disqualified for tax exemption under section 501(c)(3). Second, transfers to political organizations, as defined in section 527, are similarly exempt.
Importantly, there is no such statutory exception for transfers to section 501(c)(4) organizations, and Treasury Regulations do not address the issue, either. That Congress specifically excepted charitable transfers and transfers to section 527 political organizations would seem to suggest that all other transfers, including ones to section 501(c)(4) organizations, are subject to the gift tax. However, as the Congressional Research Service’s analysis notes, many believe that such transfers should be exempt from the gift tax either because the existing statute and regulations already exempt certain types of donations to section 501(c)(4) organizations or because applying the gift tax to such transfers would be a violation of the donor’s First Amendment rights.
According to the first line of thinking, contributions for full and adequate consideration are not subject to the gift tax, and some argue that many transfers to section 501(c)(4) organizations are made in exchange for the organization’s advocacy, this advocacy work being a consideration in exchange for the contribution. While this is a novel argument, the Congressional Research Service argues that courts would likely find it difficult to find adequate consideration for the intangible benefits a donor receives from such contributions.
A Constitutional argument may be even more difficult. Arguing that gift taxes on contributions made for advocacy violate First Amendment rights to freedom of speech requires that such contributions be treated as “speech.” This, according to the Congressional Research Service, is a difficult argument, since contributions, once given to the organization, are out of the donor’s control and can be used for any purpose for which the organization determines, even if the donor ultimately disagrees with a particular use. The Congressional Research Service analysis points out that even if such contributions are treated as “speech,” since the gift tax is universally applicable and content neutral, it is likely not an impermissible restriction on protected speech.
Yet, even though the Congressional Research Service provides few reasons why contributions to section 501(c)(4) organizations should be exempt from the gift tax, there are some policy reasons for doing so. For example, the generally understood policy goals underlying the gift tax—serving as a backstop to the income and estate taxes—are not implicated with transfers to section 501(c)(4) organizations, since contributions to such organizations do not present the same dangers of avoiding the income tax or allowing for large accumulations of concentrated family wealth.
Ultimately, given that section 501(c)(4) organizations play an increasingly important and influential role in American politics, there may be valid policy reasons to deter excessively large contributions to these organizations. Whether the gift tax should serve as the chief deterrent is for Congress to decide. It is highly unlikely that Congress will address this issue before the November elections. For now, however, the IRS has acquiesced to the backlash caused from the gift tax audits of donors to section 501(c)(4) organizations and has stated that it has suspended all examinations regarding application of the gift tax to section 501(c)(4) organizations, but it is unclear whether the suspension will eventually end or if it is here to stay. It is also unlikely that the IRS will address this issue before the November elections.