Exempt Organizations

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Introduction

Tax-exempt organizations, while not generally subject to tax, are subject to tax on their “unrelated business taxable income” (“UBTI”).  One category of UBTI is debt-financed income; that is, a tax-exempt organization that borrows money directly or through a partnership and uses that money to make an investment is generally subject to tax on a portion of the income or gain from that investment.[1]  However, under section 514(c)(9),[2] “educational organizations” are not subject to tax on their debt-financed income from certain real estate investments.

The Mayo Clinic in Minnesota is one of the country’s leading hospitals.  Between 2003 and 2012, the Mayo Clinic was a partner in a partnership that borrowed money to make real estate investments.[3]

On November 22, 2022, U.S. District Court for the district of Minnesota held that the Mayo Clinic qualified as an educational organization within the meaning of section 514(c)(9) and, therefore, was not subject to tax on the debt-financed income from the partnership.[4]

On April 23, 2020, the Treasury Department and the Internal Revenue Service (the “IRS”) issued proposed regulations (the “Proposed Regulations”) under Section 512(a)(6) of the Internal Revenue Code (the “Code”).  Section 512(a)(6) was enacted as part of the 2017 Tax Cut and Jobs Act (the “TCJA”) and requires exempt organizations…

Every January, the IRS releases a series of revenue procedures detailing how organizations can obtain private letter rulings and determinations and listing issues on which the IRS will not rule during the coming year.  This year’s procedures make 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.

Until recently, an organization could request a private letter ruling from the Exempt Organizations technical branch that a particular activity or transaction would not generate unrelated business taxable income or adversely affect exempt status.  The IRS would not rule on factual issues, such as whether a proposed transaction was at a fair market value price, and would not rule on a few specific issues, such as whether participation in a joint venture with a for-profit entity would affect exempt status.

At the end of January, 2013, the IRS Exempt Organizations Group (“EO”) released its annual report, highlighting EO’s 2012 accomplishments and outlining its priorities for 2013.  This year’s report was significantly more detailed and informative than last year’s report and workplan.  Some accomplishments and priorities of interest are described below, with something for nearly everyone in the tax-exempt sector.

2012 Highlights:

  • Exchange of Information with States.  EO continued to see an increase in the number of referrals from state charity regulators and tax agencies regarding potential exempt organization tax law violations.  In FY 2011, EO received 104 referrals from 19 different states.  Some of the most common issues that are referred to the IRS from the charity regulators involve private benefits and inurement, nonfilers, political activities by § 501(c)(3) organizations, employment tax issues and organizations not operated as required by their exempt status.  Conversely, under recently expanded authority, the IRS is allowed to disclose to certain state charity regulators significantly more information about exempt organizations, including proposed and final revocations of tax exemption for § 501(c)(3) organizations, proposed and final notices of deficiency for Chapter 42 excise taxes, § 501(c)(3) exempt organizations applications in process and proposed or final denials of these applications.  At present, only eight state tax and charity agencies in seven states have met the requirements to receive these disclosures; nonetheless, these agencies received approximately 27,000 disclosures in FY 2011.
  • Hospital Community Benefit Reviews.  As we have previously noted, EO is required under the Affordable Care Act to review the community benefit activities of all tax-exempt hospitals every three years.  This work continued in the past year.  EO will use the information from the reviews for research, reporting and compliance purposes, as well as to identify areas where additional guidance, education or Form 990 changes are needed.

The IRS and Treasury Department have released their annual Priority Guidance Plan (the “Plan”) for the 2012-2013 fiscal year.  The 35-page Plan is available here and includes thirteen projects directly related to Exempt Organizations.  At least five other projects, such as final regulations under Section 170 regarding charitable contributions and guidance on Section 403(b) plans, are also likely to be of interest to Exempt Organizations.

Treasury just released the 2011–2012 Priority Guidance Plan. The Plan lists 317 projects that are priorities for Treasury resources through June 2012. Included in these projects are 13 projects directly related to Exempt Organizations. Many of the other projects such as the 66 employee benefits, executive compensation and employment taxes may affect Exempt Organizations.
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