[Federal Register Volume 66, Number 7 (Wednesday, January 10, 2001)]
[Rules and Regulations]
[Pages 2144-2172]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 01-256]



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Part IV





Department of the Treasury





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Internal Revenue Service



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26 CFR Parts 53, 301 and 602



Excise Taxes on Excess Benefit Transactions; Final Rule and Proposed 
Rule

  Federal Register / Vol. 66, No. 7 / Wednesday, January 10, 2001 / 
Rules and Regulations  

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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Parts 53, 301, and 602

[TD 8920]
RIN 1545-AY64


Excise Taxes on Excess Benefit Transactions

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Temporary regulations.

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SUMMARY: This document contains temporary regulations relating to the 
excise taxes on excess benefit transactions under section 4958 of the 
Internal Revenue Code, as well as certain amendments and additions to 
existing Income Tax Regulations affected by section 4958. Section 4958 
was enacted in section 1311 of the Taxpayer Bill of Rights 2. Section 
4958 imposes excise taxes on transactions that provide excess economic 
benefits to disqualified persons of public charities and social welfare 
organizations (referred to as applicable tax-exempt organizations). 
Disqualified persons who benefit from an excess benefit transaction 
with an applicable tax-exempt organization are liable for a tax of 25 
percent of the excess benefit. Such persons are also liable for a tax 
of 200 percent of the excess benefit if the excess benefit is not 
corrected by a certain date. Additionally, organization managers who 
participate in an excess benefit transaction knowingly, willfully, and 
without reasonable cause, are liable for a tax of 10 percent of the 
excess benefit. The tax for which participating organization managers 
are liable cannot exceed $10,000 for any one excess benefit 
transaction.

DATES: Effective Date: These regulations are effective January 10, 
2001.
    Applicability Date: These regulations apply as of January 10, 2001 
and will cease to apply January 9, 2004.

FOR FURTHER INFORMATION CONTACT: Phyllis D. Haney, (202) 622-4290 (not 
a toll-free number).

SUPPLEMENTARY INFORMATION:

Paperwork Reduction Act

    The collections of information contained in these temporary 
regulations have been reviewed and approved by the Office of Management 
and Budget in accordance with the Paperwork Reduction Act (44 U.S.C. 
3507) under control number 1545-1623, in conjunction with the notice of 
proposed rulemaking published August 4, 1998, 63 FR 41486, REG-246256-
96, Failure by Certain Charitable Organizations to Meet Certain 
Qualification Requirements; Taxes on Excess Benefit Transactions.
    An agency may not conduct or sponsor, and a person is not required 
to respond to, a collection of information unless it displays a valid 
control number assigned by the Office of Management and Budget.
    Books and records relating to the collection of information must be 
retained as long as their contents may become material in the 
administration of any internal revenue law. Generally, tax returns and 
tax return information are confidential, as required by 26 U.S.C. 6103.

Background

    Section 4958 was added to the Code by the Taxpayer Bill of Rights 
2, Public Law 104-168 (110 Stat. 1452), enacted July 30, 1996. The 
section 4958 excise taxes generally apply to excess benefit 
transactions occurring on or after September 14, 1995. The IRS notified 
the general public of the new section 4958 excise taxes in Notice 96-46 
(1996-2 C.B. 112), which also solicited comments on the new law.
    On August 4, 1998, a notice of proposed rulemaking (REG-246256-96) 
clarifying certain definitions and rules contained in section 4958 was 
published in the Federal Register (63 FR 41486). The IRS received 
numerous written comments responding to this notice, including a 
comment from the public on the collections of information estimates 
contained therein.
    That commentator expressed concern that the purchase of independent 
compensation surveys is required to certify the reasonableness of 
certain outside and personnel contracts; and that the proposed 
regulations place a burden on governing bodies of applicable tax-exempt 
organizations, increasing the personal risk of members of those 
governing bodies. The collections of information in the proposed 
regulations are voluntary on the part of the governing bodies of 
applicable tax-exempt organizations. Although the collections of 
information allow the organization to rely on a presumption that a 
transaction is reasonable or at fair market value, the failure to 
obtain the collections of information in no way implies that a 
transaction is unreasonable.
    Further, as discussed under Explanation of Provisions of this 
preamble (under the heading Rebuttable presumption that a transaction 
is not an excess benefit transaction), the IRS and the Treasury 
Department believe that any applicable tax-exempt organization may 
compile its own comparability data rather than obtain an independent 
survey to satisfy the requirement to obtain appropriate data as to 
comparability. Therefore, although the comment on Paperwork Reduction 
Act requirements was considered in the new estimates of the annual 
burden per recordkeeper and per respondent, these temporary regulations 
continue to conclude that the estimated annual burden per recordkeeper 
varies from 3 hours to 308 hours, depending on individual 
circumstances, with an estimated weighted average of 6 hours, 3 
minutes.
    A public hearing was held on March 16 and 17, 1999. After 
consideration of all the comments, the proposed regulations under 
section 4958 were revised as follows. The major areas of the comments 
and revisions are discussed below.

Explanation of Provisions

Additional Taxes on Disqualified Person

    A disqualified person benefitting from an excess benefit 
transaction must correct the excess benefit within the taxable period 
to avoid liability for the 200-percent tax under section 4958(b). The 
taxable period is defined by section 4958 as the period beginning on 
the date the transaction occurred and ending on the earlier of the date 
of mailing a notice of deficiency, or the date on which the 25-percent 
tax is assessed.
    A commentator questioned whether the disqualified person would 
receive any notice that the IRS was examining a possible excess benefit 
transaction before either of the events ending the taxable period 
occur. In fact, a disqualified person would be notified if an 
examination of that person were opened pursuant to an examination of an 
applicable tax-exempt organization. The IRS has an obligation under 
Internal Revenue Code (Code) section 7602(c) to notify taxpayers at the 
beginning of the examination and collection process that the IRS might 
contact third parties (such as the organization) about the taxpayer's 
tax liabilities. Additionally, the IRS follows the procedure of issuing 
a ``first letter of proposed deficiency'' allowing the taxpayer an 
opportunity for administrative review in the IRS Office of Appeals. 
This first letter is issued 30 days before the notice of deficiency is 
issued. Consequently, a disqualified person would be aware of any 
examination of a potential excess benefit transaction before the end of 
the taxable period.
    Although it is also IRS practice to issue a single notice of 
deficiency for both the 25-percent and 200-percent

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section 4958 taxes for which the disqualified person is liable, the 
abatement rules under section 4961 provide that the 200-percent tax 
under section 4958(b) is not to be assessed (and if assessed, is to be 
abated) if the excess benefit is corrected within 90 days after the 
mailing of the notice of deficiency for that tax.

Correction

    Section 4958(f)(6) defines correction as ``undoing the excess 
benefit to the extent possible, and taking any additional measures 
necessary to place the organization in a financial position not worse 
than that in which it would be if the disqualified person were dealing 
under the highest fiduciary standards.'' The proposed regulations 
provide a short, general description of correction, referring to the 
statutory language. The proposed regulations define correction as 
repaying an amount of money equal to the excess benefit, plus ``any 
additional amount needed to compensate the organization for the loss of 
the use of the money or other property'' from the date of the excess 
benefit transaction to the date the excess benefit is corrected. The 
proposed regulations further allow correction ``in certain 
circumstances'' by permitting the disqualified person to return 
property to the organization and ``taking any additional steps 
necessary to make the organization whole.'' Where there is an ongoing 
contract for services, the proposed regulations provide that the 
parties need not terminate the contract in order to correct, but the 
contract ``may need to be modified'' to avoid future excess benefit 
transactions.
    The IRS received numerous comments and requests for additional 
guidance relating to correction as defined in the proposed regulations. 
A number of commentators requested that final regulations state 
explicitly that correction requires a disqualified person to pay 
interest on the excess benefit amount, and to specify the rate of 
interest.
    The temporary regulations state that the disqualified person must 
pay the applicable tax-exempt organization a correction amount in order 
to correct an excess benefit transaction and prevent imposition of the 
200-percent tax. The correction amount equals the sum of the excess 
benefit and interest on the excess benefit. The amount of the interest 
charge is determined by multiplying the excess benefit by an interest 
rate, compounded annually, for the period from the date the excess 
benefit transaction occurred to the date of correction. The interest 
rate used for this purpose must be a rate that equals or exceeds the 
applicable Federal rate (AFR), compounded annually, for the month in 
which the transaction occurred. The period from the date the excess 
benefit transaction occurred to the date of correction is used to 
determine whether the appropriate AFR is the Federal short-term rate, 
the Federal mid-term rate, or the Federal long-term rate.
    Commentators requested that an applicable tax-exempt organization 
have discretion to determine the appropriate form of correction; for 
example, payment of money, return of property, or some combination. 
Alternatively, one commentator requested an explicit rule that monetary 
payment is always sufficient and that a buy-back or return of property 
is not required. Another requested clarification that rescission could 
constitute an appropriate form of correction.
    The temporary regulations provide, in general, that a disqualified 
person corrects an excess benefit only by making a payment in cash or 
cash equivalents to the applicable tax-exempt organization equal to the 
correction amount. The disqualified person may, however, with the 
agreement of the applicable tax-exempt organization, make a payment by 
returning specific property previously transferred in the excess 
benefit transaction. In the latter case, the amount of the payment 
equals the lesser of the fair market value of the property determined 
on the date the property is returned to the organization, or the fair 
market value of the property on the date the excess benefit transaction 
occurred.
    Under the temporary regulations, if the payment made by returning 
the property is less than the correction amount, the disqualified 
person must make an additional cash payment to the organization of the 
difference. Conversely, if the payment made by returning the property 
exceeds the correction amount, the organization may make a cash payment 
to the disqualified person of the difference. The disqualified person 
who engaged in the excess benefit transaction with the applicable tax-
exempt organization may not participate in the applicable tax-exempt 
organization's decision whether to accept as a correction payment the 
return of specific property previously transferred in the excess 
benefit transaction. An organization may always refuse the return of 
that property as payment, and require instead that the disqualified 
person make a payment in cash (or cash equivalents) of the full 
correction amount.
    The temporary regulations provide a special rule relating to the 
correction of an excess benefit transaction resulting from the vesting 
of benefits provided under a nonqualified deferred compensation plan. 
To the extent that such benefits have not been distributed to the 
disqualified person, the disqualified person may correct the portion of 
the excess benefit attributable to such undistributed deferred 
compensation by relinquishing any right to receive such benefits 
(including any earnings thereon).
    The temporary regulations provide five new examples that illustrate 
acceptable forms of correction. The temporary regulations also clarify 
that, if the disqualified person makes a payment of less than the full 
correction amount, the 200-percent tax is imposed only on the unpaid 
portion of the correction amount.
    Another commentator suggested that where an organization failed to 
establish its intent to treat an economic benefit as consideration for 
the performance of services, amending an information return, rather 
than requiring the disqualified person to repay the benefit, should be 
sufficient to correct the excess benefit transaction, assuming that the 
total amount of compensation was reasonable. In this regard, the 
proposed regulations specifically allow the reporting of an economic 
benefit by an organization on an original or amended Federal tax 
information return to establish that a benefit was intended as 
compensation. The proposed regulations and these temporary regulations 
permit an organization to establish its intent by amending an 
information return at any time prior to when the IRS commences an 
examination. Additionally, the temporary regulations explicitly allow 
the disqualified person to amend the person's Federal tax return to 
report a benefit as income at any time prior to when the IRS commences 
an examination of the disqualified person or the applicable tax-exempt 
organization for the taxable year in which the transaction occurs.
    In addition, under the proposed regulations and these temporary 
regulations, if an organization can show reasonable cause (using 
existing standards under section 6724) for failing to report an 
economic benefit as compensation as required under the Code or 
regulations, then the organization will be treated as clearly 
indicating its intent to provide an economic benefit as compensation 
for services. The section 6724 standards include acting in a 
responsible manner before and after the failure to report occurred, 
along with either significant

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mitigating factors or events beyond the organization's control.
    Where the applicable tax-exempt organization provides taxable 
benefits to a disqualified person, section 4958(c)(1) requires a clear 
indication that the organization intended to provide the benefits as 
consideration for the performance of services. Where there is no such 
clear indication, the value of those benefits generally is an excess 
benefit, regardless of any claim of reasonableness of the total 
compensation package. In this case, the regular correction rules apply.
    The temporary regulations provide that failure of the organization 
or the disqualified person to report nontaxable economic benefits (or 
otherwise document a clear intent) does not result automatically in an 
excess benefit transaction. This rule is consistent with the 
legislative history. (H. REP. NO. 506, 104th Congress, 2d SESS. (1996), 
53, 57, note 8). These nontaxable benefits must still be taken into 
account (unless specifically excluded elsewhere in the regulations) 
when determining whether the total amount of compensation paid to a 
disqualified person is reasonable. Therefore, only to the extent that 
total compensation exceeds what is reasonable could a section 4958 
excise tax be imposed and correction be required with respect to 
nontaxable economic benefits.
    The temporary regulations provide additional guidance regarding 
correction where an applicable tax-exempt organization has ceased to 
exist or is no longer tax-exempt under section 501(a) as an 
organization described in section 501(c)(3) or (4). The temporary 
regulations make clear that a disqualified person must correct the 
excess benefit transaction in either event. In the case of section 
501(c)(3) organizations, the disqualified person must pay the 
correction amount to another organization described in section 
501(c)(3) in accordance with the dissolution clause of the applicable 
tax-exempt organization involved in the excess benefit transaction, 
provided the other organization is not related to the disqualified 
person. In the case of section 501(c)(4) organizations, the 
disqualified person must pay the correction amount to the successor 
section 501(c)(4) organization or, if there is no tax-exempt successor, 
to any section 501(c)(3) or section 501(c)(4) organization not related 
to the disqualified person.
    Several commentators requested clarification that a disqualified 
person is allowed to deduct the payment of a correction amount as a 
business expense. The issue is beyond the scope of these regulations. 
The provisions of Subtitle A of the Code govern the deductibility of 
any part of a correction payment.

Tax Paid by Organization Managers: Reliance on Advice of Counsel

    The proposed regulations provide a safe harbor under which a 
manager's participation in a transaction will ordinarily not be subject 
to tax under section 4958(a)(2), even though the transaction is 
subsequently held to be an excess benefit transaction, if the manager 
fully discloses the factual situation to legal counsel, then relies on 
the advice of such counsel expressed in a reasoned written legal 
opinion that a transaction is not an excess benefit transaction. This 
safe harbor parallels the rules for foundation manager taxes contained 
in the regulations under section 4941 (taxes on self-dealing) and 
section 4945 (taxes on taxable expenditures).
    A number of commentators suggested that the final regulations 
expand the advice-of-counsel safe harbor to allow reliance on the 
advice of other professionals. Specifically mentioned were section 7525 
practitioners (Federally authorized tax practitioners), professional 
tax advisors, and compensation consultants and appraisers with respect 
to valuation issues. Commentators likewise suggested that parallel 
revisions should be made to the section 4941 and 4945 regulations.
    The temporary regulations expand the safe harbor contained in the 
proposed regulations. The temporary regulations provide that an 
organization manager's participation in an excess benefit transaction 
will ordinarily not be considered knowing to the extent that, after 
full disclosure of the factual situation to an appropriate 
professional, the organization manager relies on a reasoned written 
opinion of that professional with respect to elements of the 
transaction within the professional's expertise. For this purpose, 
appropriate professionals are legal counsel (including in-house 
counsel), certified public accountants or accounting firms with 
expertise regarding the relevant tax law matters, and independent 
valuation experts who meet specified requirements. The requirements for 
appropriate valuation experts are modeled after the section 170 
regulations that define qualified appraisers for charitable deduction 
purposes. Under the section 4958 temporary regulations, the valuation 
experts must hold themselves out to the public as appraisers or 
compensation consultants; perform the relevant valuations on a regular 
basis; be qualified to make valuations of the type of property or 
services being valued; and include in the written opinion a 
certification that they meet the preceding requirements. This section 
4958 regulations project did not undertake any revisions to the advice-
of-counsel safe harbor or the definition of knowing in the section 4941 
and 4945 regulations.
    The temporary regulations contain an additional safe harbor, 
providing that an organization manager's participation in a transaction 
will ordinarily not be considered knowing if the manager relies on the 
fact that the requirements giving rise to the rebuttable presumption of 
reasonableness are satisfied with respect to the transaction (for the 
requirements, see discussion under the heading Rebuttable presumption 
that a transaction is not an excess benefit transaction of this 
preamble).

Date of Occurrence

    Section 4958 does not specify when an excess benefit transaction 
occurs. The proposed regulations provide that an excess benefit 
transaction occurs on the date on which the disqualified person 
receives the economic benefit from the applicable tax-exempt 
organization for Federal income tax purposes. The proposed regulations 
also provide that a transaction consisting of the payment of deferred 
compensation occurs on the date the deferred compensation is earned and 
vested. Several comments were received requesting additional guidance 
about the timing of an excess benefit transaction. Specifically, one 
commentator requested clarification in the case of multiple payments.
    The temporary regulations continue to provide as a general rule 
that an excess benefit transaction occurs on the date the disqualified 
person receives the economic benefit for Federal income tax purposes. 
The temporary regulations contain additional rules for a series of 
compensation payments or other payments arising pursuant to a single 
contractual arrangement provided to a disqualified person over the 
course of the disqualified person's taxable year (or part of a taxable 
year). In such a case, any excess benefit transaction with respect to 
these aggregate payments is deemed to occur on the last day of the 
taxable year (or, if the payments continue for part of the year, the 
date of the last payment in the series).
    The temporary regulations also contain special rules for deferred, 
contingent, and certain noncash compensation. The temporary

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regulations state that in the case of benefits provided pursuant to a 
qualified pension, profit-sharing, or stock bonus plan, the transaction 
occurs on the date the benefit is vested. In the case of a transfer of 
property that is subject to a substantial risk of forfeiture, or in the 
case of rights to future compensation or property (including benefits 
under a nonqualified deferred compensation plan), the transaction 
occurs on the date the property, or the rights to future compensation 
or property, is not subject to a substantial risk of forfeiture. 
However, where the disqualified person elects to include an amount in 
gross income in the taxable year of transfer pursuant to section 83(b), 
the general rule applies, such that the transaction occurs on the date 
the disqualified person receives the economic benefit from the 
applicable tax-exempt organization for Federal income tax purposes. Any 
excess benefit transaction with respect to benefits under a deferred 
compensation plan which vest during any taxable year of the 
disqualified person is deemed to occur on the last day of the 
disqualified person's taxable year.
    The temporary regulations continue to reference the relevant Code 
sections for statute of limitations rules as they apply to section 4958 
excise taxes. Generally, the statute of limitations for section 4958 
taxes begins with the filing of the applicable tax-exempt 
organization's return for the year in which the excess benefit 
transaction occurred. If the organization discloses an item on its 
return or on an attached schedule or statement in a manner sufficient 
to apprise the IRS of the existence and nature of an excess benefit 
transaction, the three-year limitation on assessment and collection 
applies. If the transaction is not so disclosed, a six-year limitation 
on assessment and collection applies, unless an exception listed in 
section 6501(c) applies.

Definition of Applicable Tax-Exempt Organization

    Section 4958(e) defines an applicable tax-exempt organization as 
``any organization which (without regard to any excess benefit) would 
be described in paragraph (3) or (4) of section 501(c) and exempt from 
tax under section 501(a) * * *'' (except private foundations). An 
applicable tax-exempt organization also includes any organization that 
was described in section 501(c)(3) or (4) and exempt from tax under 
section 501(a) at any time during a five-year period ending on the date 
of an excess benefit transaction (the lookback period).
    The temporary regulations revise the section defining applicable 
tax-exempt organizations to clarify that an organization is not 
described in section 501(c)(3) or (4) for purposes of section 4958 
during any period covered by a final determination or adjudication that 
the organization is not exempt from tax under section 501(a) as an 
organization described in section 501(c)(3) or (4), so long as that 
determination or adjudication is not based upon participation in 
inurement or one or more excess benefit transactions.
    A number of commentators requested that the final regulations 
clarify the status of section 115 governmental entities that 
voluntarily applied for a determination of their section 501(c)(3) 
status. Others requested that those governmental entities that applied 
for section 501(c)(3) exemption before the enactment of section 4958 be 
exempt from section 4958. In response to these comments, the temporary 
regulations provide that any governmental entity that is exempt from 
(or not subject to) taxation without regard to section 501(a) is not an 
applicable tax-exempt organization for purposes of section 4958.

Definition of Disqualified Person

    Section 4958(f)(1) defines a disqualified person with respect to 
any transaction as ``any person who was, at any time during the 5-year 
period ending on the date of such transaction, in a position to 
exercise substantial influence over the affairs of the organization * * 
*'' (and several other categories of related persons). The proposed 
regulations list the statutory categories of related persons (i.e., 
certain family members and 35-percent controlled entities) that are 
treated as disqualified persons for section 4958 purposes. The proposed 
regulations also list several categories of persons who are treated as 
disqualified persons by virtue of the functions they perform for, or 
the interests they hold in, the organization. The proposed regulations 
further provide that other persons may be treated as disqualified 
persons depending on all relevant facts and circumstances and list some 
of the factors to be considered.
    Some commentators questioned certain categories of persons who are 
deemed to have substantial influence under the proposed regulations 
(e.g., presidents, chief executive officers, treasurers), arguing that 
these per se categories conflict with a statement in the legislative 
history that ``[a] person having the title of `officer, director, or 
trustee' does not automatically have the status of a disqualified 
person.'' These commentators requested that final regulations adopt an 
alternative approach of listing these categories as facts and 
circumstances tending to show that a person has substantial influence 
over the affairs of an organization. In response to these comments, the 
temporary regulations clarify that the per se categories of persons who 
are in a position to exercise substantial influence for section 4958 
purposes are defined by reference to the actual powers and 
responsibilities held by the person and not merely by the person's 
title or formal position. Thus, for example, it is possible that a 
person with the mere title of ``president'' could be treated as not 
having substantial influence if it is demonstrated that the person, in 
fact, does not have ultimate responsibility for implementing the 
decisions of the governing body or for supervising the management, 
administration, or operation of the organization.
    A number of commentators objected to a provision in the proposed 
regulations under which a person who has or shares authority to sign 
drafts or to authorize electronic transfer of the organization's funds 
is treated as a treasurer or chief financial officer who is in a 
position to exercise substantial influence over the affairs of the 
organization. Other commentators requested that the final regulations 
recognize that a person who may authorize transfer of only minimal 
amounts of the organization's funds should not be treated as a 
disqualified person solely by reason of that authority.
    The temporary regulations clarify that a person who has the powers 
and responsibilities of a treasurer or chief financial officer is in a 
position to exercise substantial influence, provided that the person 
has ultimate responsibility for managing the finances of the 
organization. As requested by commentators, the temporary regulations 
delete the provision from the proposed regulations that refers to 
having, or sharing, authority to sign drafts or to authorize electronic 
transfer of funds.
    The IRS and the Treasury Department considered, but declined to 
adopt at present, a special rule with respect to so-called ``donor 
advised funds'' maintained by an applicable tax-exempt organization. 
Unlike other segments of an applicable tax-exempt organization, such as 
an operating department (or division) of the organization, a donor 
advised fund consists of a segregated fund maintained for the specific 
purpose of allowing certain persons to provide ongoing advice regarding 
the

[[Page 2148]]

organization's use of amounts contributed by a particular donor (or 
donors). Although these persons cannot properly have legal control over 
the segregated fund, they nonetheless are in a position to exercise 
substantial influence over the amount, timing, or recipients of 
distributions from the fund. Accordingly, the IRS and the Treasury 
Department request comments regarding potential issues raised by 
applying the fair market value standard of section 4958 to 
distributions from a donor advised fund to (or for the use of) the 
donor or advisor.
    The proposed regulations deem certain persons not to have 
substantial influence, including any applicable tax-exempt organization 
described in section 501(c)(3) (i.e., public charities subject to 
section 4958). Various commentators requested that section 501(c)(4) 
applicable tax-exempt organizations, section 115 governmental entities, 
corporations or associations organized as non-profits under the laws of 
any State, or entities 100-percent controlled by and for the benefit of 
section 501(c)(3) applicable tax-exempt organizations, be deemed not to 
exercise substantial influence over the affairs of applicable tax-
exempt organizations.
    The temporary regulations provide that any organization described 
in section 501(c)(3) and exempt from tax under section 501(a) 
(including a private foundation), is not a disqualified person. The 
temporary regulations do not specifically exclude from disqualified 
person status section 115 and section 501(c)(4) organizations 
generally, as requested in comments. However, the temporary regulations 
state that an organization described in section 501(c)(4) is deemed not 
to have substantial influence with respect to another applicable tax-
exempt organization described in section 501(c)(4). Additionally, the 
temporary regulations provide that the transfer of economic benefits to 
a government entity for exclusively public purposes is disregarded for 
purposes of section 4958.
    A number of comments were received on the section of the proposed 
regulations providing that facts and circumstances govern in all cases 
where disqualified person status is not explicitly described. 
Commentators variously requested revision or deletion of the statement 
that a person with managerial control over a discrete segment of an 
organization could be in a position to exercise substantial influence 
over the affairs of the entire organization. Instead of considering 
this factor in an overall evaluation of the facts and circumstances, 
the temporary regulations provide that the fact that a ``person manages 
a discrete segment or activity of the organization that represents a 
substantial portion of the activities, assets, income, or expenses of 
the organization'' is a separate factor tending to show substantial 
influence. The IRS and the Treasury Department believe that, in some 
circumstances, a person managing a discrete segment or activity of an 
organization is, in fact, in a position to exercise substantial 
influence over the organization as a whole.
    With respect to the factor that a person is a substantial 
contributor within the meaning of section 507(d)(2), requests were made 
to define a substantial contributor as a person contributing more than 
two percent of the organization's total support; to use a higher 
threshold, such as the greater of $50,000 or 10 percent of total 
contributions received; to limit the treatment of substantial 
contributor status as a factor to a reasonable time (e.g., four years); 
and to tie substantial contributor status to persons required to be 
disclosed as such on Form 990 or Schedule A of that form. Additionally, 
a request was made to specify how the five-year lookback period applies 
to substantial contributors.
    The temporary regulations continue to include as a factor tending 
to show substantial influence the fact that a person is a substantial 
contributor, generally as defined in section 507(d)(2)(A). However, the 
temporary regulations clarify that, to determine whether a person is a 
substantial contributor for section 4958 purposes, only contributions 
received by the organization during its current taxable year and the 
four preceding taxable years are taken into account.
    With respect to the factor that a person's compensation is based on 
revenues derived from activities of the organization that the person 
controls, a number of commentators requested that a determination of 
disqualified person status not be based solely on this factor. Several 
commentators specifically requested clarification of this factor with 
respect to physicians in particular, and others requested that the 
factor be deleted altogether. Other commentators requested that the 
factor be narrowed to situations where the person's compensation is 
based on revenues from activities that provide over half of the 
organization's annual revenue, or that the factor be modified to apply 
only if a person's compensation is based to a significant extent on 
revenues derived from activities of the organization that the person 
controls. In response to these comments, the temporary regulations 
modify the factor to require that the person's compensation is 
primarily based on revenues derived from activities of the organization 
that the person controls.
    A number of commentators argued that it is inappropriate to include 
all persons with managerial authority, or persons serving as key 
advisors to a person with managerial authority, as potential 
disqualified persons. Additional comments on this issue requested that 
the final regulations clarify the meaning of managerial authority or 
delete that factor from the regulations. Others suggested that the term 
key advisor be limited to those with real, substantial authority, or 
deleted altogether and replaced by a standard that a person can have 
managerial authority by virtue of his or her actual impact on the 
organization's affairs without regard to title or position. In response 
to these comments, the temporary regulations delete as a factor tending 
to show substantial influence the fact that a person serves as a key 
advisor to a manager. Moreover, with respect to managerial authority, 
the temporary regulations list revised factors tending to show 
substantial influence, including whether: (1) The person has or shares 
authority to control or determine a substantial portion of the 
organization's capital expenditures, operating budget, or compensation 
for employees; and (2) the person manages a discrete segment or 
activity of the organization that represents a substantial portion of 
the activities, assets, income, or expenses of the organization, as 
compared to the organization as a whole.
    With respect to factors tending to show that a person does not have 
substantial influence, one commentator requested that the fact that the 
person has had no prior involvement or relationship with the 
organization be added as a factor. Another commentator requested that 
the independent contractor factor be modified so that all ``outside, 
independent professionals performing services on a strictly fee-for-
service arrangement'' are presumed not to be disqualified persons. 
Other commentators requested that additional factors tending to show no 
substantial influence be added for employees. In this regard, suggested 
factors included that the person reports to a disqualified person, does 
not participate in major policy or financial decisions affecting the 
organization as a whole, or holds a position three or more levels below 
the governing body. In response to these comments, the temporary 
regulations provide as a factor tending to show no substantial 
influence the fact that a

[[Page 2149]]

person is an independent contractor (such as an attorney, accountant, 
or investment manager or advisor) whose sole relationship to the 
organization is providing professional advice, but who does not have 
decision-making authority, with respect to transactions from which the 
independent contractor will not economically benefit either directly or 
indirectly (aside from customary fees received for the professional 
advice rendered). In addition, the temporary regulations add as factors 
tending to show no substantial influence the fact that the direct 
supervisor of the individual is not a disqualified person, and that the 
person does not participate in any management decisions affecting the 
organization as a whole or a substantial, discrete segment or activity 
of the organization. The temporary regulations also address the issue 
of persons with no prior involvement with the organization by providing 
a special exception for initial contracts (see the discussion under the 
heading Initial Contract Exception in this preamble).

Definition of Excess Benefit Transaction

    Section 4958(c)(1) defines the phrase excess benefit transaction as 
``any transaction in which an economic benefit is provided by an 
applicable tax-exempt organization directly or indirectly to or for the 
use of any disqualified person if the value of the economic benefit 
provided exceeds the value of the consideration (including the 
performance of services) received for providing such benefit.'' The 
excess benefit is the amount by which the value of the economic 
benefits provided to (or for the use of) the disqualified person 
exceeds the value of the consideration received. The proposed 
regulations further define certain terms in the statutory definition of 
excess benefit transaction and delineate specific items that either are 
disregarded or must be taken into account in determining the value of a 
compensation package. The proposed regulations also prescribe standards 
for determining fair market value for section 4958 purposes. In 
response to comments received on these topics, the temporary 
regulations make numerous changes to the provisions of the proposed 
regulations that define the phrase excess benefit transaction (as 
summarized under the next six topic headings).
    The IRS and the Treasury Department considered whether embezzled 
amounts should be viewed as provided by the organization for section 
4958 purposes. In this regard, the IRS and the Treasury Department 
believe that any economic benefit received by a disqualified person 
(who by definition has substantial influence) from the assets of the 
organization is provided by the organization even if the transfer of 
the benefit was not authorized under the regular procedures of the 
organization.

Economic Benefit Provided Directly or Indirectly

    Section 4958(c)(1)(A) provides that an excess benefit transaction 
may arise when economic benefits are provided by an applicable tax-
exempt organization directly or indirectly to or for the use of any 
disqualified person. In this regard, the proposed regulations provide 
that ``[a] benefit may be provided indirectly through the use of one or 
more entities controlled by or affiliated with the applicable tax-
exempt organization. For example, if an applicable tax-exempt 
organization causes its taxable subsidiary to pay excessive 
compensation to, or engage in a transaction at other than fair market 
value with, a disqualified person of the parent organization, the 
payment of the compensation or the transfer of property is an excess 
benefit transaction.'' This example is based on similar language 
contained in the legislative history to section 4958 (See H. REP. NO. 
506, 104th Congress, 2d SESS. (1996), 53, 56, note 3).
    A number of commentators requested further clarification of the 
definition of indirect excess benefit transactions. Some commentators 
requested that the final regulations clarify that any compensation 
disqualified persons receive from unrelated third parties through the 
acquiescence of the employing applicable tax-exempt organization not be 
considered in determining reasonable compensation. Another commentator 
suggested that, as a general rule, an excess benefit may be found to be 
provided indirectly through an entity controlled by an applicable tax-
exempt organization only when the funds or other benefits at issue can 
clearly be traced to the parent organization. Additionally, a request 
was received to specify that payment by a subsidiary of excessive 
compensation does not, by itself, justify the conclusion that the 
parent organization caused the subsidiary to engage in an excess 
benefit transaction. Other requests were made to clarify that services 
received by the applicable tax-exempt organization may include services 
provided by the disqualified person to one or more other entities 
controlled by or affiliated with the organization.
    Commentators also suggested several clarifications to the phrase 
``controlled by or affiliated with'' for purposes of determining 
whether an indirect excess benefit transaction has occurred. One 
commentator suggested that control or affiliation must exist at the 
time the benefit is authorized or approved, rather than when the 
benefit is received by the disqualified person. Others suggested that 
the definition of ``controlled by or affiliated with'' follow more 
closely the definition of control under the section 4941 self-dealing 
regulations or under section 512(b)(13) (including constructive 
ownership rules contained in section 318). Another commentator 
suggested defining the term affiliated to mean that organizations share 
a majority of governing body members or principal officers. Other 
commentators requested that the final regulations state that approval 
of a benefit by a board independent of the applicable tax-exempt 
organization would prevent finding that the organization indirectly 
provided an excess benefit to a disqualified person. Commentators also 
requested that the final regulations include examples demonstrating 
that the mere existence of a relationship between two entities, 
including a control relationship, is insufficient to justify a 
conclusion that a benefit has been indirectly provided to a 
disqualified person unless a purposeful avoidance of section 4958 by 
conducting a transaction indirectly is shown.
    In response to these comments, the temporary regulations clarify 
that an applicable tax-exempt organization may provide an economic 
benefit indirectly to a disqualified person either through a controlled 
entity or through an intermediary. In this regard, the temporary 
regulations parallel the section 4941 self-dealing regulations, except 
that the temporary regulations generally adopt the section 512(b)(13) 
standard for control. (The section 512(b)(13) standard for control 
considers only the tax-exempt organization's interest in the controlled 
entity, or the tax-exempt organization's control of a nonstock 
corporation's directors or trustees. In contrast, the section 4941 
regulations' definition of control also considers interests held 
individually by the directors or trustees of the foundation). The 
temporary regulations provide that all consideration and benefits 
exchanged between a disqualified person and an applicable tax-exempt 
organization, and all entities the organization controls, are taken 
into account to determine whether there has been an excess benefit 
transaction.
    The temporary regulations provide that an applicable tax-exempt 
organization provides an economic

[[Page 2150]]

benefit indirectly through an intermediary when: (1) An applicable tax-
exempt organization provides an economic benefit to a third party (the 
intermediary); (2) the intermediary provides economic benefits to a 
disqualified person of the applicable tax-exempt organization; and (3) 
either (a) there is evidence of an oral or written agreement or 
understanding that the intermediary will transfer property to a 
disqualified person; or (b) the intermediary lacks a significant 
business purpose or exempt purpose of its own for engaging in such a 
transfer. The temporary regulations also include four new examples 
illustrating different fact patterns under which economic benefits are 
provided indirectly to a disqualified person through a controlled 
entity or through an intermediary.

Initial Contract Exception

    The proposed regulations do not provide any special rules for 
transactions conducted pursuant to the first contract that a previously 
unrelated person enters into with the applicable tax-exempt 
organization. Several comments received during the regular comment 
period requested that a person having no prior relationship with an 
organization not be considered a disqualified person with respect to 
the first contractual arrangement with the organization.
    After the close of the written comment period for the proposed 
regulations (November 2, 1998), but before the public hearing (March 16 
and 17, 1999), the United States Court of Appeals for the Seventh 
Circuit issued its decision in United Cancer Council, Inc. v. 
Commissioner of Internal Revenue, 165 F.3d 1173 (7th Cir. 1999), 
rev'ing and remanding 109 T.C. 326 (1997). In this case, the Seventh 
Circuit reversed the Tax Court's finding that a contract between a 
charity and a previously unrelated fundraising company resulted in 
private inurement in violation of the charity's tax-exempt status. The 
Seventh Circuit remanded the case back to the Tax Court to address the 
question whether the fundraising contract resulted in private benefit 
in violation of section 501(c)(3).
    In United Cancer Council, the Seventh Circuit concluded that 
prohibited inurement under section 501(c)(3) cannot result from a 
contractual relationship negotiated at arm's length with a party having 
no prior relationship with the organization, regardless of the relative 
bargaining strength of the parties or resultant control over the tax-
exempt organization created by the terms of the contract. The 
transactions at issue in United Cancer Council were conducted prior to 
the effective date of section 4958. Consequently, United Cancer Council 
involved interpretations of the general requirements for tax-exempt 
status under section 501(c)(3), and not questions of disqualified 
person status or the existence of an excess benefit transaction under 
section 4958. Nevertheless, at the public hearing and in supplemental 
comments received after the hearing, commentators referenced the 
Seventh Circuit decision and requested that the proposed regulations be 
modified so that section 4958 excise taxes will not be imposed on the 
first transaction or contract between an applicable tax-exempt 
organization and a previously unrelated person.
    The temporary regulations address the issue raised by United Cancer 
Council by providing that section 4958 does not apply to any fixed 
payment made to a person pursuant to an initial contract, regardless of 
whether the payment would otherwise constitute an excess benefit 
transaction. For this purpose, an initial contract is defined as a 
binding written contract between an applicable tax-exempt organization 
and a person who was not a disqualified person immediately prior to 
entering into the contract. A fixed payment means an amount of cash or 
other property specified in the contract, or determined by a fixed 
formula specified in the contract, which is paid or transferred in 
exchange for the provision of specified services or property. A fixed 
formula may incorporate an amount that depends upon future specified 
events or contingencies (e.g., revenues generated by activities of the 
organization), provided that no person exercises discretion when 
calculating the amount of a payment or deciding whether to make a 
payment. As suggested by some commentators, however, the initial 
contract rule does not apply if the contract is materially modified or 
if a person fails to substantially perform his or her obligations under 
the contract.
    Thus, under the temporary regulations, to the extent that an 
applicable tax-exempt organization and a person who is not yet a 
disqualified person conduct negotiations and specify the amounts to be 
paid to the person (or specify an objective formula for paying that 
person), then these fixed payments are not subject to scrutiny under 
section 4958, even if paid after the person becomes a disqualified 
person. An initial contract may provide for both fixed and non-fixed 
(i.e., discretionary) payments. In this case, the fixed payments are 
not subject to section 4958, while the non-fixed payments will be 
subject to scrutiny under section 4958 (taking into account all 
consideration exchanged between the parties). In effect, the initial 
contract rule contained in the temporary regulations protects from 
section 4958 liability those payments made pursuant to fixed, objective 
terms specified in a contract entered into before the person was in a 
position to exercise substantial influence, yet allows for scrutiny 
under section 4958 to the extent the contract allows for subsequent 
discretion to be exercised (which may be subject to influence by the 
disqualified person) when calculating the amount of a payment or 
deciding whether to make a payment. The temporary regulations include 
eleven examples to illustrate the application of the initial contract 
rule.

Certain Economic Benefits Disregarded for Purposes of Section 4958

    For ease of administration, the proposed regulations list several 
economic benefits that are disregarded for purposes of section 4958. 
These disregarded items include reimbursements for reasonable expenses 
of attending meetings of the governing body (but not luxury or spousal 
travel); certain economic benefits provided to a disqualified person 
solely as a member of, or volunteer for, the organization; and economic 
benefits provided to a disqualified person solely as a member of a 
charitable class. A number of comments recommended modifying these 
provisions.
    With respect to reimbursements for expenses of attending meetings 
of the governing body (but not luxury travel or spousal travel), 
suggestions were made to clarify or delete these terms; to provide as 
an alternative that all travel expenses that are not lavish or 
extravagant within the meaning of section 162 may be disregarded; to 
disregard spousal travel expenses in circumstances where the spousal 
attendance furthers the exempt purposes of the organization or meets 
the section 274 bona fide business purpose test; and to address the 
issue of travel expenses by generally disregarding working condition 
fringe benefits and de minimis fringe benefits described in sections 
132(d) and (e). Other commentators requested that any benefits received 
by a disqualified person should be disregarded if incidental to the 
organization's achievement of its exempt purposes, such as when 
disqualified persons attend fundraising dinners or conferences on 
behalf of the organization.
    In response to these comments, the temporary regulations delete the

[[Page 2151]]

separate provision that provides that reasonable expenses of attending 
meetings of the governing body may be disregarded. In place of this 
provision, the temporary regulations substitute a more general rule 
providing that all fringe benefits excluded from income under section 
132 (except for certain liability insurance premiums, payments or 
reimbursements, discussed below) are disregarded for section 4958 
purposes. This change addresses comments received on the limitation in 
the proposed regulations with respect to luxury and spousal travel. By 
referring to fringe benefits excluded from income under section 132, 
the temporary regulations adopt existing standards under section 162 
and section 274 (which are incorporated into section 132) to determine 
whether payments or reimbursements of travel expenses of an employee 
or-- any other expenses--should be disregarded for section 4958 
purposes or, instead, treated as part of the disqualified person's 
compensation.
    With respect to economic benefits provided to a disqualified person 
solely as a member of, or volunteer for, the organization, the proposed 
regulations disregard such benefits for section 4958 purposes only if 
the organization provides the same benefits to members of the general 
public in exchange for a membership fee of $75 or less per year. 
Commentators suggested that this provision be expanded in the final 
regulations to apply to any benefit (without a dollar limitation) 
provided to a disqualified person solely by virtue of that person being 
a donor, volunteer, or member, provided that any member of the general 
public making a comparable contribution receives a similar benefit. 
Another commentator requested a similar modification, with the 
additional requirement that a significant number of non-disqualified 
persons (e.g., 10 or more) actually make a comparable payment to the 
organization and are given the option of receiving substantially the 
same benefit.
    The temporary regulations continue to disregard for section 4958 
purposes economic benefits provided to a volunteer (who is also a 
disqualified person) if that benefit is provided by the organization to 
the general public in exchange for a membership fee or contribution of 
$75 or less per year. In contrast, economic benefits provided to a 
disqualified person as a member of, or a donor to, an applicable tax-
exempt organization are no longer limited by a specific dollar cap. The 
temporary regulations disregard economic benefits provided to a member 
of an organization solely on account of the payment of a membership 
fee, or to a donor solely on account of a contribution deductible under 
section 170 if: (1) Any non-disqualified person paying a membership fee 
or making a contribution above a specified amount to the organization 
is given the option of receiving substantially the same economic 
benefit; and (2) the disqualified person and a significant number of 
non-disqualified persons in fact make a payment or contribution of at 
least the specified amount.
    The temporary regulations clarify that section 162 standards apply 
in determining reasonableness of compensation for section 4958 
purposes, taking into account all benefits provided to a person (other 
than benefits that are specifically disregarded for section 4958 
purposes) and the rate at which any deferred compensation accrues. The 
temporary regulations also provide that the fact that a bonus or 
revenue-sharing arrangement is subject to a cap is a relevant factor in 
determining the reasonableness of compensation.

Insurance or Indemnification of Excise Taxes

    The legislative history to section 4958 indicates that 
reimbursements of excise tax liability, or payment of premiums for 
liability insurance for excess benefit taxes, by an applicable tax-
exempt organization constitute an excess benefit unless they are 
included in the disqualified person's compensation during the year paid 
and the total compensation package for that person is reasonable. See 
H. REP. NO. 506, 104th Congress, 2d SESS. (1996), 53, 58. Following 
this legislative history, the proposed regulations specifically provide 
that payment of a premium for insurance for section 4958 taxes or 
indemnification of a disqualified person for these taxes is not an 
excess benefit transaction if the premium or the indemnification is 
treated as compensation to the disqualified person when paid, and the 
total compensation paid to the person is reasonable. However, some 
commentators read the special rule in conjunction with another section 
of the proposed regulations--which listed ``[t]he amount of premiums 
paid for liability or any other insurance coverage, as well as any 
payment or reimbursement by the organization of charges, expenses, 
fees, or taxes not covered ultimately by the insurance coverage'' as an 
item included in compensation for purposes of section 4958--as 
potentially mandating that such insurance premium or indemnification 
payments be treated as taxable income to the disqualified person in 
order to avoid being characterized as an excess benefit transaction.
    Several commentators requested that premiums for liability 
insurance be disregarded entirely for section 4958 purposes, along with 
non-compensatory indemnification of members of the governing body and 
officers against liability in civil proceedings (as described in the 
private foundation self-dealing regulations under section 4941), or 
that de minimis costs (e.g., $200) associated with such insurance 
coverage be disregarded.
    Other commentators suggested that a portion of the premium payment 
be allocated to section 4958 tax coverage, and that only that portion 
be included in compensation of the disqualified person. Others 
requested that the portion of a premium allocable to liability 
insurance coverage for an organization manager who is also a 
disqualified person to cover the person's potential liability for the 
manager-level tax under section 4958(a)(2) be considered a working 
condition fringe under section 132(d). Others requested that benefits 
under indemnification plans be taken into account for section 4958 
purposes only if and when paid.
    To clarify the treatment of insurance premiums and reimbursements 
of excise tax liability, the temporary regulations include a special 
rule, which includes in a disqualified person's compensation for 
section 4958 purposes the payment of liability insurance premiums for, 
or the payment or reimbursement by the organization of: (1) Any 
penalty, tax, or expense of correction owed under section 4958; (2) any 
expense not reasonably incurred by the person in connection with a 
civil judicial or civil administrative proceeding arising out of the 
person's performance of services on behalf of the applicable tax-exempt 
organization; and (3) any expense resulting from an act or failure to 
act with respect to which the person has acted willfully and without 
reasonable cause. This rule parallels the section 4941 regulations 
governing the treatment of directors and officers liability insurance 
and indemnification. As under the section 4941 regulations, however, 
the temporary regulations provide that insurance premiums and 
reimbursements may be disregarded if they qualify as de minimis fringe 
benefits excludable from income under section 132(a)(4).
    In addition, the temporary regulations clarify that the inclusion 
of an item in compensation for section 4958 purposes does not govern 
its income tax treatment. Thus, the mere fact that a premium or 
reimbursement payment, or any other benefit, provided to a

[[Page 2152]]

disqualified person must be taken into account in determining the 
reasonableness of that person's total compensation package for section 
4958 purposes is not determinative of whether or not that benefit is 
included in the disqualified person's gross income for income tax 
purposes.

Timing Rules for Determining Reasonableness

    Section 4958(c)(1) defines an excess benefit transaction as a 
transaction in which the value of an economic benefit provided to a 
disqualified person exceeds the value of the consideration received 
(including the performance of services), but the statutory provisions 
do not directly address the issue of when to value the benefits and 
consideration exchanged. In this regard, the proposed regulations 
provide that whether compensation is reasonable is generally determined 
when the parties enter into the contract for services. The proposed 
regulations further provide, however, that ``where reasonableness of 
compensation cannot be determined based on circumstances existing at 
the date when the contract for services was made, then that 
determination is made based on all facts and circumstances, up to and 
including circumstances as of the date of payment.'' Many commentators 
objected to the uncertainty created by this additional sentence.
    To clarify the issue of the timing of the reasonableness 
determination, the temporary regulations provide that reasonableness is 
determined with respect to any fixed payment (as defined for purposes 
of the initial contract rule discussed above) at the time the parties 
enter into the contract. However, the temporary regulations provide 
that the reasonableness of any amounts not fixed in the contract itself 
or paid pursuant to an objective formula is determined based on all 
facts and circumstances, up to and including circumstances as of the 
date of the payment at issue, because determining the amount of such a 
payment (or whether a payment is made) requires the exercise of 
discretion after the contract is entered into.

Establishing Intent To Treat Economic Benefit as Consideration for the 
Performance of Services

    The second sentence of section 4958(c)(1)(A) defining excess 
benefit transaction states that an economic benefit will not be treated 
as consideration for the performance of services unless the applicable 
tax-exempt organization clearly indicated its intent to so treat the 
benefit. The proposed regulations generally require the organization to 
provide clear and convincing evidence of its intent to treat the 
benefit as compensation for services when the benefit is paid. Under 
the proposed regulations, this requirement is satisfied if the 
organization reports the economic benefit on a federal tax information 
return filed before the commencement of an IRS examination in which the 
reporting of the benefit is questioned, or if the recipient 
disqualified person reports the benefit as income on the person's Form 
1040 for the year in which the benefit is received. In addition, an 
organization is deemed to satisfy the clear and convincing evidence 
requirement if the organization's failure to report a payment is due to 
reasonable cause as defined in the section 6724 regulations. The 
proposed regulations also provide that an organization may use other 
methods to provide clear and convincing evidence of its intent. The 
preamble of the proposed regulations explicitly solicited comments on 
appropriate ways of applying this rule that would not create an 
unnecessary burden on affected organizations.
    A number of comments were received with regard to establishing an 
organization's intent to treat a benefit as compensation for services. 
Several commentators suggested that the clear and convincing standard 
is higher than appropriate. Others requested that organizations not be 
required to demonstrate intent with respect to specific benefits, such 
as: reimbursement arrangements that are clearly part of the employment 
arrangement; de minimis amounts (for example, taxable benefits of up to 
$500 per year provided to a disqualified person); and certain 
nontaxable benefits. Other commentators requested that final 
regulations clarify the appropriate method for substantiating an 
organization's intent in the case of certain nontaxable benefits and 
transfers of property subject to section 83. Others requested guidance 
on how to report compensation paid to a disqualified person on Form 990 
if that person is not an officer or director or one of the five highest 
paid employees. Some commentators suggested that the final regulations 
allow other methods to establish an intention to treat benefits as 
compensation, such as a written contract of employment. Commentators 
also suggested that an organization's reasonable belief that a benefit 
is nontaxable should constitute reasonable cause for failure to report, 
or that the reasonable cause standard be expanded to ordinary business 
care and prudence.
    In response to these comments, the temporary regulations modify the 
requirement that an organization provide clear and convincing evidence 
of its intent to treat benefits provided to a disqualified person as 
compensation for services. Consistent with the legislative history, the 
temporary regulations provide instead that an organization must provide 
``written substantiation that is contemporaneous with the transfer of 
benefits at issue.'' H. REP. NO. 506, 104th Congress, 2d SESS. (1996), 
53, 57, note 8.
    The temporary regulations also provide a safe harbor for nontaxable 
benefits. Under this safe harbor, an applicable tax-exempt organization 
is not required to indicate its intent to provide an economic benefit 
as compensation for services if the economic benefit is excluded from 
the disqualified person's gross income for income tax purposes under 
chapter 1 of the Internal Revenue Code. Examples of such benefits 
include: employer-provided health benefits, contributions to a 
qualified pension, profit-sharing, or stock bonus plan under Internal 
Revenue Code section 401(a), and benefits described in sections 127 
(educational assistance programs) and 137 (adoption assistance 
programs). The safe harbor is consistent with the legislative history, 
which indicates that Congress intended to except nontaxable benefits 
from this contemporaneous substantiation requirement. H. REP. NO. 506, 
104th Congress, 2d SESS. (1996), 53, 57, note 8. However, the benefits 
must still be taken into account (unless specifically disregarded under 
the regulations) in determining the reasonableness of the disqualified 
person's compensation for purposes of section 4958.
    Consistent with the legislative history, the temporary regulations 
also clarify that, if a benefit is not reported on a return filed with 
the IRS, other written contemporaneous evidence (such as an approved 
written employment contract executed on or before the date of the 
transfer) may be used to demonstrate that the appropriate decision-
making body or an authorized officer approved a transfer as 
compensation for services in accordance with established procedures.

Transaction in Which the Amount of the Economic Benefit Is Determined 
in Whole or in Part by the Revenues of One or More Activities of the 
Organization

    Section 4958(c)(2) describes a second type of excess benefit 
transaction: ``any transaction in which the amount of any economic 
benefit provided to or for the use of a disqualified person is 
determined in whole or in part by the revenues of 1 or more activities 
of the organization * * *'', if the transaction

[[Page 2153]]

results in inurement under section 501(c)(3) or (4). However, a 
revenue-sharing transaction is treated as an excess benefit transaction 
under this special statutory rule only ``[t]o the extent provided in 
regulations prescribed by the Secretary * * *. ''
    The proposed regulations provide that whether a revenue-sharing 
transaction results in inurement, and therefore constitutes an excess 
benefit transaction, depends upon all relevant facts and circumstances. 
The proposed regulations provide that, in general, a revenue-sharing 
transaction may constitute an excess benefit transaction regardless of 
whether the economic benefit provided to the disqualified person 
exceeds the fair market value of services (or other consideration) 
rendered, if a disqualified person is permitted to receive additional 
compensation without providing proportional benefits that contribute to 
the organization's accomplishment of its exempt purpose.
    The proposed regulations consider an improper revenue-sharing 
transaction, in its entirety, to be an excess benefit subject to 
section 4958. Special rules governing revenue-sharing transactions, 
however, will be effective only for transactions occurring on or after 
the date of publication of final regulations containing such rules. 
Until special rules for revenue-sharing transactions are adopted in 
final regulations, these transactions are potentially subject to 
section 4958 liability under the general rules governing excess benefit 
transactions, but only to the extent that the value of the economic 
benefits provided to the disqualified person is shown to exceed the 
value of the services (or other consideration) received in return.
    Numerous comments were received with respect to revenue-sharing 
transactions. Some commentators did not believe a different standard 
from that applied to all other transactions (fair market value) should 
apply, and that the value of consideration provided by a disqualified 
person in a revenue-sharing transaction should be taken into account in 
determining the excess benefit in these transactions.
    Others objected to the revenue-sharing transaction standard of the 
proposed regulations, and requested that it be replaced by a standard 
based on approaches the IRS has taken in prior unpublished rulings. 
Some commentators requested guidance as to the meaning of proportional 
benefits or other concepts incorporated in the proposed regulations 
standard. Others requested that existing contractual arrangements not 
be subject to this section of the final regulations, or that the effect 
of the final rules for existing arrangements be phased in. In addition, 
several commentators requested that the final regulations clarify 
whether the rebuttable presumption of reasonableness is available for 
revenue-sharing transactions. In sum, commentators offered multiple, 
often conflicting, suggestions and recommendations to address the many 
issues raised with respect to revenue-sharing transactions.
    The temporary regulations reserve the separate section governing 
revenue-sharing transactions. Accordingly, the IRS and the Treasury 
Department will continue to consider the many comments received on this 
issue. Any revised regulations that may, in the future, be issued 
governing revenue-sharing transactions in particular will be issued in 
proposed form. This will provide an additional opportunity for public 
comment, and any special rules governing revenue-sharing transactions 
will become effective only after being published in final form. In the 
meantime, revenue sharing transactions will be evaluated under the 
general rules (contained in Sec. 53.4958-4T of the temporary 
regulations) defining excess benefit transactions, which apply to all 
transactions with disqualified persons regardless of whether the 
person's compensation is computed by reference to revenues of the 
organization.

Rebuttable Presumption That a Transaction is not an Excess Benefit 
Transaction

    Although the statute is silent on this point, the legislative 
history accompanying section 4958 indicated Congress' intent that the 
parties to a transaction are entitled to rely on a rebuttable 
presumption of reasonableness with respect to any transaction with a 
disqualified person that is approved by a board of directors or 
trustees (or committee thereof) that: (1) Is composed entirely of 
individuals unrelated to and not subject to the control of the 
disqualified person(s) involved in the transaction; (2) obtained and 
relied upon appropriate data as to comparability; and (3) adequately 
documented the basis for its determination. If these three requirements 
are satisfied, the IRS can impose section 4958 taxes only if it 
develops sufficient contrary evidence to rebut the probative value of 
the evidence put forth by the parties to the transaction. H. REP. NO. 
506, 104th Congress, 2d SESS. (1996), 53, 56-7.
    The proposed regulations incorporate this rebuttable presumption 
and provide guidance regarding the three requirements for invoking the 
rebuttable presumption. The proposed regulations provide that the 
presumption established by satisfying the three requirements may be 
rebutted by additional information showing that the compensation was 
not reasonable or that the transfer was not at fair market value. 
Additionally, the proposed regulations provide that, if the 
reasonableness of compensation cannot be determined based on 
circumstances existing at the date when a contract for services was 
made, then the presumption cannot arise until reasonableness of 
compensation can be determined and the three requirements subsequently 
are satisfied.
    Comments were received on various aspects of the rebuttable 
presumption of reasonableness. With regard to the requirement that the 
compensation arrangement or property transfer must be approved by a 
governing body (or committee) composed entirely of individuals who do 
not have a conflict of interest with respect to the transaction, one 
commentator suggested that the final regulations adopt standards 
consistent with the model conflicts of interest policy published by the 
IRS. The IRS and the Treasury Department believe that the standards 
contained in the proposed regulations for determining the absence of a 
conflict of interest are consistent with the legislative history of 
section 4958, which requires that the governing body (or committee) be 
composed entirely of individuals who are free of any conflict of 
interest, and not merely that its members disclose the existence of any 
conflict of interest. Accordingly, the temporary regulations retain 
these standards.
    With regard to the requirement that the governing body (or a 
committee thereof) obtain appropriate data as to comparability, 
numerous commentators requested that the final regulations expand the 
acceptable types of comparability data and authorize additional methods 
for determining fair market value or reasonable compensation. For 
example, some commentators requested clarification that an organization 
need not obtain an independent, customized survey, but may rely on an 
independent salary survey prepared for general publication if that 
survey contains information specific enough to provide meaningful data 
for comparison purposes. Other commentators requested that the 
governing body (or committee) be permitted to rely on compensation 
surveys compiled by staff members (other than disqualified persons) 
under the supervision of an independent

[[Page 2154]]

director or committee member, rather than incurring the additional cost 
of obtaining compensation surveys compiled by independent firms. Some 
commentators requested that the final regulations provide that 
comparability data is viable for some period of time (e.g., three 
years).
    The temporary regulations continue to require only that the 
authorized body have sufficient information to determine whether, 
consistent with the valuation standards in other sections of the 
regulations, the compensation arrangement is reasonable, or the 
property transfer is at fair market value. The temporary regulations 
clarify that a compensation arrangement in its entirety must be 
evaluated and also provide examples of relevant comparability data. In 
the case of a compensation arrangement, the temporary regulations 
provide that relevant information may include a current compensation 
survey compiled by an independent firm. As in the proposed regulations, 
this list of relevant comparability data is not exclusive, and the 
authorized body may rely on other appropriate data. For clarity, the 
temporary regulations list separately examples of the types of relevant 
information for compensation arrangements and property transfers. The 
temporary regulations add competitive bids received from unrelated 
third parties as another example of relevant information in the case of 
a property transfer. In response to comments, the temporary regulations 
revise examples from the proposed regulations and add several examples 
illustrating appropriate comparability data.
    Comments were also received regarding the special rule for 
compensation paid by small organizations. The proposed regulations 
allow small organizations (those with annual gross receipts of less 
than $1 million) to satisfy the requirement of appropriate data as to 
comparability by obtaining data on compensation paid by five comparable 
organizations in the same or similar communities for similar services. 
Some commentators indicated that the $1 million threshold is too low, 
because organizations having gross receipts above that amount may lack 
the resources to hire an independent compensation firm. These 
commentators requested that the ceiling for small organizations be 
increased from $1 million to $5 million in gross receipts. Others 
suggested allowing small organizations to obtain data from fewer than 
five comparable organizations.
    The IRS and the Treasury Department believe the general rule 
regarding appropriate comparability data is flexible enough to permit 
any organization (not just small organizations) to compile its own 
comparability data. Therefore, the IRS and the Treasury Department did 
not believe it was necessary to extend the special safe-harbor rule to 
organizations with annual gross receipts over $1 million. As requested 
by commentators, however, the temporary regulations reduce the number 
of comparables small organizations must obtain for that safe harbor 
from five to three.
    Certain commentators requested that the final regulations provide a 
mechanism for an applicable tax-exempt organization to satisfy the 
requirements of the rebuttable presumption of reasonableness with 
respect to large groups of employees, such as mid-level managers, 
rather than requiring the governing body to approve the compensation 
paid to each individual. The IRS and the Treasury Department believe 
that changes to the definition of disqualified person in the temporary 
regulations, including eliminating as a factor tending to show 
substantial influence the fact that a person has any managerial 
authority, or serves as a key advisor to a manager, reduce the 
potential burden on the governing body. Moreover, the temporary 
regulations continue to allow the governing body to delegate 
responsibility for approving compensation arrangements and property 
transfers, to the extent permitted under State law. Consistent with the 
legislative history, the temporary regulations continue to require that 
the rebuttable presumption requirements be satisfied on an individual 
basis.
    With respect to the requirement that the governing body (or 
committee) adequately document the basis for its determination, 
comments were received requesting that the final regulations allow 
additional time for records to be prepared. In response to these 
comments, the temporary regulations provide that the records must be 
prepared by the later of the next meeting of the authorized body or 60 
days after final approval of the particular arrangement or transfer. 
Although one commentator objected to the requirement in the proposed 
regulations that the governing body (or committee) review and approve 
the records within a reasonable period of time thereafter, the 
temporary regulations retain this requirement in order to ensure that 
the records are accurate and complete.
    Several commentators requested that the final regulations permit 
organizations to establish a rebuttable presumption of reasonableness 
with respect to deferred or contingent compensation arrangements when 
the contract for services is entered into if the terms of the 
arrangement are sufficiently certain (even if the exact dollar amounts 
are not known) and the governing body (or committee) obtains 
appropriate data as to comparability. Other commentators simply 
requested that the final regulations indicate when the board should 
take the necessary steps to put the presumption in place in the event 
that reasonableness cannot be determined as of the date the contract is 
entered into. Consistent with the general rule contained in the 
temporary regulations regarding the timing of the reasonableness 
determination, the temporary regulations provide that, with respect to 
fixed payments (including payments made pursuant to a fixed formula, 
although the exact dollar amount is not known at the time the contract 
is entered into), the rebuttable presumption can arise at the time the 
parties enter into the contract giving rise to the payments. Under a 
special rule in the temporary regulations, payments pursuant to a 
qualified pension, profit-sharing, or stock bonus plan under section 
401(a) are treated as fixed payments for purposes of section 4958, even 
if the employer exercises discretion with respect to the plan or 
program. Therefore, a rebuttable presumption can arise with respect to 
such payments at the time the parties enter into the contract for 
services.
    In contrast, the temporary regulations provide that the rebuttable 
presumption generally can arise with respect to a payment that is not a 
fixed payment (as defined for purposes of the initial contract 
exception) only after discretion is exercised, the exact amount of the 
payment is determined (or a fixed formula for calculating the payment 
is specified), and the three requirements for the presumption 
subsequently are satisfied. The temporary regulations contain a limited 
exception to this general rule for certain non-fixed payments which are 
subject to a cap. Under this exception, an applicable tax-exempt 
organization may establish the rebuttable presumption, even with 
respect to non-fixed payments, at the time the contract is entered into 
if: (1) Prior to approving the contract, the governing body (or 
committee) obtains appropriate comparability data indicating that a 
fixed payment of up to a certain amount to a particular disqualified 
person would represent reasonable compensation; (2) the maximum amount 
payable under the

[[Page 2155]]

contract (including both fixed and non-fixed payment amounts) does not 
exceed the reasonable compensation figure; and (3) the other 
requirements for establishing the rebuttable presumption are satisfied. 
However, the general rules for the timing of the reasonableness 
determination apply, such that the IRS may rebut the presumption of 
reasonableness with respect to a non-fixed payment subject to a cap 
based on all facts and circumstances, up to and including circumstances 
as of the date of payment.
    Some commentators suggested that the final regulations provide 
specific standards the IRS must meet in order to rebut any presumption 
established by satisfying the three requirements described above. For 
example, one commentator suggested that the IRS should be allowed to 
overcome the presumption only if it is able to produce clear and 
convincing evidence that the transaction was, in fact, an excess 
benefit transaction. Another commentator suggested that the IRS should 
be required to establish that one of the requirements for invoking the 
presumption has not been met in order to rebut the presumption. 
Consistent with the legislative history, the temporary regulations 
provide that, if the rebuttable presumption of reasonableness is 
established, the IRS may rebut the presumption only if it develops 
sufficient contrary evidence to rebut the probative value of the 
comparability data relied upon by the authorized body.
    Finally, some commentators requested clarification whether entities 
controlled by or affiliated with an applicable tax-exempt organization 
that provide economic benefits to a disqualified person can establish 
the presumption, even if those entities are not themselves applicable 
tax-exempt organizations. Consistent with the rules relating to 
indirect excess benefit transactions, the temporary regulations clarify 
that an authorized body of an entity controlled by an applicable tax-
exempt organization (as defined for purposes of describing indirect 
transfers of economic benefits) may establish the rebuttable 
presumption.

Special Rules

    The proposed regulations provided several special rules, one of 
which stated that the procedures of section 7611 will be used in 
initiating and conducting any inquiry or examination into whether an 
excess benefit transaction has occurred between a church and a 
disqualified person. Several comments were received on this rule, 
including one stating that there is no statutory authority to extend 
section 7611 protection to churches for section 4958 tax inquiries. 
Other comments requested that final regulations specify when 
information from an informant alone is sufficient to form the basis for 
a reasonable belief on the part of the IRS for purposes of applying 
this rule, and clarify how section 4958 interacts with the section 7611 
exception for records related to the income tax of an individual 
employed by the church. The temporary regulations do not modify the 
special rules for churches.

Additional Issues

    Section 4958 does not contain provisions governing the relationship 
of the taxes imposed under that section to revocation of the 
organization's tax-exempt status under sections 501(c)(3) and (4). With 
respect to this issue, the legislative history to section 4958 
indicates as follows: ``In general, the intermediate sanctions are the 
sole sanction imposed in those cases in which the excess benefit does 
not rise to a level where it calls into question whether, on the whole, 
the organization functions as a charitable or other tax-exempt 
organization. In practice, revocation of tax-exempt status, with or 
without the imposition of excise taxes, would occur only when the 
organization no longer operates as a charitable organization.'' H. REP. 
NO. 506, 104th Congress, 2d SESS. (1996), 53, 59, note 15. However, the 
same legislative history also indicates that ``[t]he intermediate 
sanctions for `excess benefit transactions' may be imposed by the IRS 
in lieu of (or in addition to) revocation of the organization's tax-
exempt status.'' Id. at 59 (emphasis added)
    In the Comments and Requests for a Public Hearing section of the 
preamble of the proposed regulations, the IRS and the Treasury 
Department specifically requested comments concerning the relationship 
between revocation of tax-exempt status and imposition of section 4958 
taxes. Additionally, the preamble of the proposed regulations lists 
four factors that the IRS will consider in determining whether to 
revoke an applicable tax-exempt organization's status: (1) Whether the 
organization has been involved in repeated excess benefit transactions; 
(2) the size and scope of the excess benefit transaction; (3) whether, 
after concluding that it has been party to an excess benefit 
transaction, the organization has implemented safeguards to prevent 
future recurrences; and (4) whether there was compliance with other 
applicable laws. The preamble also states that the IRS intends to 
publish the factors that it will consider in exercising its 
administrative discretion in guidance issued in conjunction with the 
issuance of final regulations under section 4958.
    A number of commentators requested that the final regulations 
expressly provide that section 4958 taxes are the principal sanction 
with respect to excess benefit transactions, in lieu of revocation of 
the organization's tax-exempt status. Other commentators suggested that 
the final regulations incorporate factors to be considered by the IRS 
in deciding whether to impose section 4958 excise taxes or revoke tax-
exempt status, or both.
    The temporary regulations do not foreclose revocation of tax-exempt 
status in appropriate cases. The IRS and the Treasury Department 
believe that to do so would effectively change the substantive standard 
for tax-exempt status under sections 501(c)(3) and (4). Accordingly, 
the IRS intends to exercise its administrative discretion in enforcing 
the requirements of sections 4958, 501(c)(3) and 501(c)(4) in 
accordance with the direction given in the legislative history. The IRS 
will publish guidance concerning the factors that it will consider in 
exercising its discretion as it gains more experience administering the 
section 4958 regime.
    The temporary regulations reiterate that section 4958 does not 
affect the substantive standards for tax exemption under section 
501(c)(3) or (4), including the requirements that the organization be 
organized and operated exclusively for exempt purposes, and that no 
part of its earnings inure to the benefit of any private shareholder or 
individual. Thus, regardless of whether a particular transaction is 
subject to excise taxes under section 4958, existing principles and 
rules may be implicated, such as the limitation on private benefit. For 
example, transactions that are not subject to section 4958 because of 
the initial contract exception may, under certain circumstances, 
jeopardize an organizations's tax-exempt status.
    Some comments regarding revenue-sharing transactions included 
requests to address gainsharing arrangements in the final regulations; 
or to provide that certain transactions are not revenue-sharing 
arrangements because they do not involve a payment that is contingent 
on the revenues of (but rather the cost savings to) the organization. 
As noted earlier, these temporary regulations reserve the separate 
section governing revenue-sharing transactions. However, because the 
Office of Inspector General, Department of Health and Human Services, 
believes the methodology involved in calculating payments under 
gainsharing arrangements may violate

[[Page 2156]]

sections 1128A(b)(1) and (2) of the Social Security Act in situations 
where patient care may be affected by the cost savings, the IRS will 
not issue private letter rulings under section 4958 on these 
arrangements. The Office of Inspector General issued a Special Advisory 
Bulletin on July 8, 1999, addressing the application of sections 
1128A(b)(1) and (2) of the Social Security Act to gainsharing 
arrangements, entitled ``Gainsharing Arrangements and CMPs [Civil Money 
Penalties] for Hospital Payments to Physicians to Reduce or Limit 
Services to Beneficiaries''.

Special Analyses

    It has been determined that this Treasury decision is not a 
significant regulatory action as defined in Executive Order 12866. 
Therefore, a regulatory assessment is not required. Because no 
preceding notice of proposed rulemaking is required for this temporary 
regulation, the provisions of the Regulatory Flexibility Act do not 
apply. Pursuant to section 7805(f) of the Internal Revenue Code, this 
temporary regulation will be submitted to the Chief Counsel for 
Advocacy of the Small Business Administration for comment on its impact 
on business.

Drafting Information

    The principal author of these regulations is Phyllis D. Haney, 
Office of Division Counsel/Associate Chief Counsel (Tax Exempt and 
Government Entities). However, other personnel from the IRS and The 
Treasury Department participated in their development.

List of Subjects

26 CFR Part 53

    Excise taxes, Foundations, Investments, Lobbying, Reporting and 
recordkeeping requirements, Trusts and trustees.

26 CFR Part 301

    Employment taxes, Estate taxes, Excise taxes, Gift taxes, Income 
taxes, Penalties, Reporting and recordkeeping requirements.

26 CFR Part 602

    Reporting and recordkeeping requirements

Amendments to the Regulations

    Accordingly, 26 CFR parts 53, 301, and 602 are amended as follows:

PART 53--FOUNDATION AND SIMILAR EXCISE TAXES

    Paragraph 1. The authority citation for part 53 continues to read 
as follows:

    Authority: 26 U.S.C. 7805.


    Par. 2. Sections 53.4958-0T through 53.4958-8T are added to read as 
follows:


Sec. 53.4958-0T  Table of contents (temporary).

    This section lists the major captions contained in Secs. 53.4958-1T 
through 53.4958-8T.


Sec. 53.4958-1T  Taxes on excess benefit transactions (temporary).

    (a) In general.
    (b) Excess benefit defined.
    (c) Taxes paid by disqualified person.
    (1) Initial tax.
    (2) Additional tax on disqualified person.
    (i) In general.
    (ii) Taxable period.
    (iii) Abatement if correction during the correction period.
    (d) Tax paid by organization managers.
    (1) In general.
    (2) Organization manager defined.
    (i) In general.
    (ii) Special rule for certain committee members.
    (3) Participation.
    (4) Knowing.
    (i) In general.
    (ii) Amplification of general rule.
    (iii) Reliance on professional advice.
    (iv) Reliance on rebuttable presumption of reasonableness.
    (5) Willful.
    (6) Due to reasonable cause.
    (7) Limits on liability for management.
    (8) Joint and several liability.
    (9) Burden of proof.
    (e) Date of occurrence.
    (1) In general.
    (2) Special rules.
    (3) Statute of limitations rules.
    (f) Effective date for imposition of taxes.
    (1) In general.
    (2) Existing binding contracts.


Sec. 53.4958-2T  Definition of applicable tax-exempt organization 
(temporary).

    (a) Organizations described in section 501(c)(3) or (4) and exempt 
from tax under section 501(a).
    (1) In general.
    (2) Organizations described in section 501(c)(3).
    (3) Organizations described in section 501(c)(4).
    (4) Effect of non-recognition or revocation of exempt status.
    (b) Special rules.
    (1) Transition rule for lookback period.
    (2) Certain foreign organizations.


Sec. 53.4958-3T  Definition of disqualified person (temporary).

    (a) In general.
    (1) Scope of definition.
    (2) Transition rule for lookback period.
    (b) Statutory categories of disqualified persons.
    (1) Family members.
    (2) Thirty-five percent controlled entities.
    (i) In general.
    (ii) Combined voting power.
    (iii) Constructive ownership rules.
    (A) Stockholdings.
    (B) Profits or beneficial interest.
    (c) Persons having substantial influence.
    (1) Voting members of the governing body.
    (2) Presidents, chief executive officers, or chief operating 
officers.
    (3) Treasurers and chief financial officers.
    (4) Persons with a material financial interest in a provider-
sponsored organization.
    (d) Persons deemed not to have substantial influence.
    (1) Tax-exempt organizations described in section 501(c)(3).
    (2) Certain section 501(c)(4) organizations.
    (3) Employees receiving economic benefits of less than a specified 
amount in a taxable year.
    (e) Facts and circumstances govern in all other cases.
    (1) In general.
    (2) Facts and circumstances tending to show substantial influence.
    (3) Facts and circumstances tending to show no substantial 
influence.
    (f) Affiliated organizations.
    (g) Examples.


Sec. 53.4958-4T  Excess benefit transaction (temporary).

    (a) Definition of excess benefit transaction.
    (1) In general.
    (2) Economic benefit provided indirectly.
    (i) In general.
    (ii) Through a controlled entity.
    (A) In general.
    (B) Definition of control.
    (1) In general.
    (2) Constructive ownership.
    (iii) Through an intermediary.
    (iv) Examples.
    (3) Exception for fixed payments made pursuant to an initial 
contract.
    (i) In general.

[[Page 2157]]

    (ii) Fixed payment.
    (A) In general.
    (B) Special rules.
    (iii) Initial contract.
    (iv) Substantial performance required.
    (v) Treatment as a new contract.
    (vi) Evaluation of non-fixed payments.
    (vii) Examples.
    (4) Certain economic benefits disregarded for purposes of section 
4958.
    (i) Nontaxable fringe benefits.
    (ii) Certain economic benefits provided to a volunteer for the 
organization.
    (iii) Certain economic benefits provided to a member of, or donor 
to, the organization.
    (iv) Economic benefits provided to a charitable beneficiary.
    (v) Certain economic benefits provided to a governmental unit.
    (b) Valuation standards.
    (1) In general.
    (i) Fair market value of property.
    (ii) Reasonable compensation.
    (A) In general.
    (B) Items included in determining the value of compensation for 
purposes of determining reasonableness under section 4958.
    (C) Inclusion in compensation for reasonableness determination does 
not govern income tax treatment.
    (2) Timing of reasonableness determination.
    (i) In general.
    (ii) Treatment as a new contract.
    (iii) Examples.
    (c) Establishing intent to treat economic benefit as consideration 
for the performance of services.
    (1) In general.
    (2) Nontaxable benefits.
    (3) Contemporaneous substantiation.
    (i) Reporting of benefit.
    (ii) Other evidence of contemporaneous substantiation.
    (iii) Failure to report due to reasonable cause.
    (4) Examples.


Sec. 53.4958-5T  Transaction in which the amount of the economic 
benefit is determined in whole or in part by the revenues of one or 
more activities of the organization (temporary). [Reserved]


Sec. 53.4958-6T  Rebuttable presumption that a transaction is not an 
excess benefit transaction (temporary).

    (a) In general.
    (b) Rebutting the presumption.
    (c) Requirements for invoking rebuttable presumption.
    (1) Approval by an authorized body.
    (i) In general.
    (ii) Individuals not included on authorized body.
    (iii) Absence of conflict of interest.
    (2) Appropriate data as to comparability.
    (i) In general.
    (ii) Special rule for compensation paid by small organizations.
    (iii) Application of special rule for small organizations.
    (iv) Examples.
    (3) Documentation.
    (d) No presumption with respect to non-fixed payments until amounts 
are determined.
    (1) In general.
    (2) Special rule for certain non-fixed payments subject to a cap.
    (e) No inference from absence of presumption.
    (f) Period of reliance on rebuttable presumption.


Sec. 53.4958-7T  Correction (temporary).

    (a) In general.
    (b) Form of correction.
    (1) Cash or cash equivalents.
    (2) Anti-abuse rule.
    (3) Special rule relating to nonqualified deferred compensation.
    (4) Return of specific property.
    (i) In general.
    (ii) Payment not equal to correction amount.
    (iii) Disqualified person may not participate in decision.
    (c) Correction amount.
    (d) Correction where contract has been partially performed.
    (e) Correction in the case of an applicable tax-exempt organization 
that has ceased to exist, or is no longer tax-exempt.
    (1) In general.
    (2) Section 501(c)(3) organizations.
    (3) Section 501(c)(4) organizations.
    (f) Examples.


Sec. 53.4958-8T  Special rules (temporary).

    (a) Substantive requirements for exemption still apply.
    (b) Interaction between section 4958 and section 7611 rules for 
church tax inquiries and examinations.
    (c) Three year duration of these temporary regulations.


Sec. 53.4958-1T  Taxes on excess benefit transactions (temporary).

    (a) In general. Section 4958 imposes excise taxes on each excess 
benefit transaction (as defined in section 4958(c) and Sec. 53.4958-4T) 
between an applicable tax-exempt organization (as defined in section 
4958(e) and Sec. 53.4958-2T) and a disqualified person (as defined in 
section 4958(f)(1) and Sec. 53.4958-3T). A disqualified person who 
receives an excess benefit from an excess benefit transaction is liable 
for payment of a section 4958(a)(1) excise tax equal to 25 percent of 
the excess benefit. If an initial tax is imposed by section 4958(a)(1) 
on an excess benefit transaction and the transaction is not corrected 
(as defined in section 4958(f)(6) and Sec. 53.4958-7T) within the 
taxable period (as defined in section 4958(f)(5) and paragraph 
(c)(2)(ii) of this section), then any disqualified person who received 
an excess benefit from the excess benefit transaction on which the 
initial tax was imposed is liable for an additional tax of 200 percent 
of the excess benefit. An organization manager (as defined in section 
4958(f)(2) and paragraph (d) of this section) who participates in an 
excess benefit transaction, knowing that it was such a transaction, is 
liable for payment of a section 4958(a)(2) excise tax equal to 10 
percent of the excess benefit, unless the participation was not willful 
and was due to reasonable cause. If an organization manager also 
receives an excess benefit from an excess benefit transaction, the 
manager may be liable for both taxes imposed by section 4958(a).
    (b) Excess benefit defined. An excess benefit is the amount by 
which the value of the economic benefit provided by an applicable tax-
exempt organization directly or indirectly to or for the use of any 
disqualified person exceeds the value of the consideration (including 
the performance of services) received for providing such benefit.
    (c) Taxes paid by disqualified person--(1) Initial tax. Section 
4958(a)(1) imposes a tax equal to 25 percent of the excess benefit on 
each excess benefit transaction. The section 4958(a)(1) tax shall be 
paid by any disqualified person who received an excess benefit from 
that excess benefit transaction. With respect to any excess benefit 
transaction, if more than one disqualified person is liable for the tax 
imposed by section 4958(a)(1), all such persons are jointly and 
severally liable for that tax.
    (2) Additional tax on disqualified person--(i) In general. Section 
4958(b) imposes a tax equal to 200 percent of the excess benefit in any 
case in which section 4958(a)(1) imposes a 25-percent tax on an excess 
benefit transaction and the transaction is not corrected (as defined in 
section 4958(f)(6) and Sec. 53.4958-7T) within the taxable period (as 
defined in section 4958(f)(5) and paragraph (c)(2)(ii) of this 
section). If a disqualified person makes a payment of less than the 
full correction amount under the rules of Sec. 53.4958-7T, the 200-
percent tax is imposed only on the unpaid portion of the correction 
amount (as described in Sec. 53.4958-7T(c)). The tax imposed by section 
4958(b) is payable by any disqualified person who

[[Page 2158]]

received an excess benefit from the excess benefit transaction on which 
the initial tax was imposed by section 4958(a)(1). With respect to any 
excess benefit transaction, if more than one disqualified person is 
liable for the tax imposed by section 4958(b), all such persons are 
jointly and severally liable for that tax.
    (ii) Taxable period. Taxable period means, with respect to any 
excess benefit transaction, the period beginning with the date on which 
the transaction occurs and ending on the earlier of--
    (A) The date of mailing a notice of deficiency under section 6212 
with respect to the section 4958(a)(1) tax; or
    (B) The date on which the tax imposed by section 4958(a)(1) is 
assessed.
    (iii) Abatement if correction during the correction period. For 
rules relating to abatement of taxes on excess benefit transactions 
that are corrected within the correction period, as defined in section 
4963(e), see sections 4961(a), 4962(a), and the regulations thereunder. 
The abatement rules of section 4961 specifically provide for a 90-day 
correction period after the date of mailing a notice of deficiency 
under section 6212 with respect to the section 4958(b) 200-percent tax. 
If the excess benefit is corrected during that correction period, the 
200-percent tax imposed shall not be assessed, and if assessed the 
assessment shall be abated, and if collected shall be credited or 
refunded as an overpayment. For special rules relating to abatement of 
the 25-percent tax, see section 4962.
    (d) Tax paid by organization managers--(1) In general. In any case 
in which section 4958(a)(1) imposes a tax, section 4958(a)(2) imposes a 
tax equal to 10 percent of the excess benefit on the participation of 
any organization manager who knowingly participated in the excess 
benefit transaction, unless such participation was not willful and was 
due to reasonable cause. Any organization manager who so participated 
in the excess benefit transaction must pay the tax.
    (2) Organization manager defined--(i) In general. An organization 
manager is, with respect to any applicable tax-exempt organization, any 
officer, director, or trustee of such organization, or any individual 
having powers or responsibilities similar to those of officers, 
directors, or trustees of the organization, regardless of title. A 
person is an officer of an organization if that person--
    (A) Is specifically so designated under the certificate of 
incorporation, by-laws, or other constitutive documents of the 
organization; or
    (B) Regularly exercises general authority to make administrative or 
policy decisions on behalf of the organization. An independent 
contractor who acts solely in a capacity as an attorney, accountant, or 
investment manager or advisor, is not an officer. For purposes of this 
paragraph (d)(2)(i)(B), any person who has authority merely to 
recommend particular administrative or policy decisions, but not to 
implement them without approval of a superior, is not an officer.
    (ii) Special rule for certain committee members. An individual who 
is not an officer, director, or trustee, yet serves on a committee of 
the governing body of an applicable tax-exempt organization (or as a 
designee of the governing body described in Sec. 53.4958-6T(c)(1)) that 
is attempting to invoke the rebuttable presumption of reasonableness 
described in Sec. 53.4958-6T based on the committee's (or designee's) 
actions, is an organization manager for purposes of the tax imposed by 
section 4958(a)(2).
    (3) Participation. For purposes of section 4958(a)(2) and paragraph 
(d) of this section, participation includes silence or inaction on the 
part of an organization manager where the manager is under a duty to 
speak or act, as well as any affirmative action by such manager. An 
organization manager is not considered to have participated in an 
excess benefit transaction, however, where the manager has opposed the 
transaction in a manner consistent with the fulfillment of the 
manager's responsibilities to the applicable tax-exempt organization.
    (4) Knowing--(i) In general. For purposes of section 4958(a)(2) and 
paragraph (d) of this section, a manager participates in a transaction 
knowingly only if the person--
    (A) Has actual knowledge of sufficient facts so that, based solely 
upon those facts, such transaction would be an excess benefit 
transaction;
    (B) Is aware that such a transaction under these circumstances may 
violate the provisions of federal tax law governing excess benefit 
transactions; and
    (C) Negligently fails to make reasonable attempts to ascertain 
whether the transaction is an excess benefit transaction, or the 
manager is in fact aware that it is such a transaction.
    (ii) Amplification of general rule. Knowing does not mean having 
reason to know. However, evidence tending to show that a manager has 
reason to know of a particular fact or particular rule is relevant in 
determining whether the manager had actual knowledge of such a fact or 
rule. Thus, for example, evidence tending to show that a manager has 
reason to know of sufficient facts so that, based solely upon such 
facts, a transaction would be an excess benefit transaction is relevant 
in determining whether the manager has actual knowledge of such facts.
    (iii) Reliance on professional advice. An organization manager's 
participation in a transaction is ordinarily not considered knowing 
within the meaning of section 4958(a)(2), even though the transaction 
is subsequently held to be an excess benefit transaction to the extent 
that, after full disclosure of the factual situation to an appropriate 
professional, the organization manager relies on a reasoned written 
opinion of that professional with respect to elements of the 
transaction within the professional's expertise. For purposes of 
section 4958(a)(2) and this paragraph (d), a written opinion is 
reasoned even though it reaches a conclusion that is subsequently 
determined to be incorrect so long as the opinion addresses itself to 
the facts and the applicable standards. However, a written opinion is 
not reasoned if it does nothing more than recite the facts and express 
a conclusion. The absence of a written opinion of an appropriate 
professional with respect to a transaction shall not, by itself, 
however, give rise to any inference that an organization manager 
participated in the transaction knowingly. For purposes of this 
paragraph, appropriate professionals on whose written opinion an 
organization manager may rely, are limited to--
    (A) Legal counsel, including in-house counsel;
    (B) Certified public accountants or accounting firms with expertise 
regarding the relevant tax law matters; and
    (C) Independent valuation experts who--
    (1) Hold themselves out to the public as appraisers or compensation 
consultants;
    (2) Perform the relevant valuations on a regular basis;
    (3) Are qualified to make valuations of the type of property or 
services involved; and
    (4) Include in the written opinion a certification that the 
requirements of paragraphs (d)(4)(iii)(C)(1) through (3) of this 
section are met.
    (iv) Reliance on rebuttable presumption of reasonableness. An 
organization manager's participation in a transaction is ordinarily not 
considered knowing within the meaning of section 4958(a)(2), even 
though the transaction is subsequently held to be an excess benefit 
transaction, if the organization manager relies on the fact

[[Page 2159]]

that the requirements of Sec. 53.4958-6T(a) are satisfied with respect 
to the transaction.
    (5) Willful. For purposes of section 4958(a)(2) and this paragraph 
(d), participation by an organization manager is willful if it is 
voluntary, conscious, and intentional. No motive to avoid the 
restrictions of the law or the incurrence of any tax is necessary to 
make the participation willful. However, participation by an 
organization manager is not willful if the manager does not know that 
the transaction in which the manager is participating is an excess 
benefit transaction.
    (6) Due to reasonable cause. An organization manager's 
participation is due to reasonable cause if the manager has exercised 
responsibility on behalf of the organization with ordinary business 
care and prudence.
    (7) Limits on liability for management. The maximum aggregate 
amount of tax collectible under section 4958(a)(2) and this paragraph 
(d) from organization managers with respect to any one excess benefit 
transaction is $10,000.
    (8) Joint and several liability. In any case where more than one 
person is liable for a tax imposed by section 4958(a)(2), all such 
persons shall be jointly and severally liable for the taxes imposed 
under section 4958(a)(2) with respect to that excess benefit 
transaction.
    (9) Burden of proof. For provisions relating to the burden of proof 
in cases involving the issue of whether an organization manager has 
knowingly participated in an excess benefit transaction, see section 
7454(b) and Sec. 301.7454-2. In these cases, the Commissioner bears the 
burden of proof.
    (e) Date of occurrence--(1) In general. Except as otherwise 
provided, an excess benefit transaction occurs on the date on which the 
disqualified person receives the economic benefit for Federal income 
tax purposes. When a single contractual arrangement provides for a 
series of compensation or other payments to (or for the use of) a 
disqualified person over the course of the disqualified person's 
taxable year (or part of a taxable year), any excess benefit 
transaction with respect to these aggregate payments is deemed to occur 
on the last day of the taxable year (or if the payments continue for 
part of the year, the date of the last payment in the series).
    (2) Special rules. In the case of benefits provided pursuant to a 
qualified pension, profit-sharing, or stock bonus plan, the transaction 
occurs on the date the benefit is vested. In the case of a transfer of 
property that is subject to a substantial risk of forfeiture or in the 
case of rights to future compensation or property (including benefits 
under a nonqualified deferred compensation plan), the transaction 
occurs on the date the property, or the rights to future compensation 
or property, is not subject to a substantial risk of forfeiture. 
However, where the disqualified person elects to include an amount in 
gross income in the taxable year of transfer pursuant to section 83(b), 
the general rule of paragraph (e)(1) of this section applies to the 
property with respect to which the section 83(b) election is made. Any 
excess benefit transaction with respect to benefits under a deferred 
compensation plan which vest during any taxable year of the 
disqualified person is deemed to occur on the last day of such taxable 
year. For the rules governing the timing of the reasonableness 
determination for deferred, contingent, and certain other noncash 
compensation, see Sec. 53.4958-4T(b)(2).
    (3) Statute of limitations rules. See sections 6501(e)(3) and 
6501(l) and the regulations thereunder for statute of limitations rules 
as they apply to section 4958 excise taxes.
    (f) Effective date for imposition of taxes--(1) In general. The 
section 4958 taxes imposed on excess benefit transactions or on 
participation in excess benefit transactions apply to transactions 
occurring on or after September 14, 1995.
    (2) Existing binding contracts. The section 4958 taxes do not apply 
to any transaction occurring pursuant to a written contract that was 
binding on September 13, 1995, and at all times thereafter before the 
transaction occurs. A written binding contract that is terminable or 
subject to cancellation by the applicable tax-exempt organization 
without the disqualified person's consent (including as the result of a 
breach of contract by the disqualified person) and without substantial 
penalty to the organization, is no longer treated as a binding contract 
as of the earliest date that any such termination or cancellation, if 
made, would be effective. If a binding written contract is materially 
changed, it is treated as a new contract entered into as of the date 
the material change is effective. A material change includes an 
extension or renewal of the contract (other than an extension or 
renewal that results from the person contracting with the applicable 
tax-exempt organization unilaterally exercising an option expressly 
granted by the contract), or a more than incidental change to any 
payment under the contract.


Sec. 53.4958-2T  Definition of applicable tax-exempt organization 
(temporary).

    (a) Organizations described in section 501(c)(3) or (4) and exempt 
from tax under section 501(a)--(1) In general. An applicable tax-exempt 
organization is any organization that, without regard to any excess 
benefit, would be described in section 501(c)(3) or (4) and exempt from 
tax under section 501(a). An applicable tax-exempt organization also 
includes any organization that was described in section 501(c)(3) or 
(4) and was exempt from tax under section 501(a) at any time during a 
five-year period ending on the date of an excess benefit transaction 
(the lookback period). A private foundation as defined in section 
509(a) is not an applicable tax-exempt organization for section 4958 
purposes. A governmental entity that is exempt from (or not subject to) 
taxation without regard to section 501(a) is not an applicable tax-
exempt organization for section 4958 purposes.
    (2) Organizations described in section 501(c)(3). An organization 
is described in section 501(c)(3) for purposes of section 4958 only if 
the organization provides the notice described in section 508, unless 
the organization otherwise is described in section 501(c)(3) and 
specifically is excluded from the requirements of section 508 by that 
section.
    (3) Organizations described in section 501(c)(4). An organization 
is described in section 501(c)(4) for purposes of section 4958 if the 
organization--
    (i) Has applied for and received recognition from the Internal 
Revenue Service as an organization described in section 501(c)(4); or
    (ii) Has filed an application for recognition under section 
501(c)(4) with the Internal Revenue Service, has filed an annual 
information return as a section 501(c)(4) organization under the 
Internal Revenue Code or regulations promulgated thereunder, or has 
otherwise held itself out as being described in section 501(c)(4) and 
exempt from tax under section 501(a).
    (4) Effect of non-recognition or revocation of exempt status. An 
organization is not described in paragraph (a)(2) or (a)(3) of this 
section during any period covered by a final determination or 
adjudication that the organization is not exempt from tax under section 
501(a) as an organization described in section 501(c)(3) or (4), so 
long as that determination or adjudication is not based upon 
participation in inurement or one or more excess benefit transactions. 
However, the organization may be an applicable tax-exempt organization 
for that period as a result of the five-year

[[Page 2160]]

lookback rule described in paragraph (a)(1) of this section.
    (b) Special rules--(1) Transition rule for lookback period. In the 
case of any excess benefit transaction occurring before September 14, 
2000, the lookback period described in paragraph (a)(1) of this section 
begins on September 14, 1995, and ends on the date of the transaction.
    (2) Certain foreign organizations. A foreign organization, 
recognized by the Internal Revenue Service or by treaty, that receives 
substantially all of its support (other than gross investment income) 
from sources outside of the United States is not an organization 
described in section 501(c)(3) or (4) for purposes of section 4958.


Sec. 53.4958-3T  Definition of disqualified person (temporary).

    (a) In general--(1) Scope of definition. Section 4958(f)(1) defines 
disqualified person, with respect to any transaction, as any person who 
was in a position to exercise substantial influence over the affairs of 
an applicable tax-exempt organization at any time during the five-year 
period ending on the date of the transaction (the lookback period). 
Paragraph (b) of this section describes persons who are defined to be 
disqualified persons under the statute, including certain family 
members of an individual in a position to exercise substantial 
influence, and certain 35-percent controlled entities. Paragraph (c) of 
this section describes persons in a position to exercise substantial 
influence over the affairs of an applicable tax-exempt organization by 
virtue of their powers and responsibilities or certain interests they 
hold. Paragraph (d) of this section describes persons deemed not to be 
in a position to exercise substantial influence. Whether any person who 
is not described in paragraph (b), (c) or (d) of this section is a 
disqualified person with respect to a transaction for purposes of 
section 4958 is based on all relevant facts and circumstances, as 
described in paragraph (e) of this section. Paragraph (f) of this 
section describes special rules for affiliated organizations. Examples 
in paragraph (g) of this section illustrate these categories of 
persons.
    (2) Transition rule for lookback period. In the case of any excess 
benefit transaction occurring before September 14, 2000, the lookback 
period described in paragraph (a)(1) of this section begins on 
September 14, 1995, and ends on the date of the transaction.
    (b) Statutory categories of disqualified persons--(1) Family 
members. A person is a disqualified person with respect to any 
transaction with an applicable tax-exempt organization if the person is 
a member of the family of a person who is a disqualified person 
described in paragraph (a) of this section (other than as a result of 
this paragraph) with respect to any transaction with the same 
organization. For purposes of the following sentence, a legally adopted 
child of an individual is treated as a child of such individual by 
blood. A person's family is limited to--
    (i) Spouse;
    (ii) Brothers or sisters (by whole or half blood);
    (iii) Spouses of brothers or sisters (by whole or half blood);
    (iv) Ancestors;
    (v) Children;
    (vi) Grandchildren;
    (vii) Great grandchildren; and
    (viii) Spouses of children, grandchildren, and great grandchildren.
    (2) Thirty-five percent controlled entities--(i) In general. A 
person is a disqualified person with respect to any transaction with an 
applicable tax-exempt organization if the person is a 35-percent 
controlled entity. A 35-percent controlled entity is--
    (A) A corporation in which persons described in this section 
(except in paragraphs (b)(2) and (d) of this section) own more than 35 
percent of the combined voting power;
    (B) A partnership in which persons described in this section 
(except in paragraphs (b)(2) and (d) of this section) own more than 35 
percent of the profits interest; or
     (C) A trust or estate in which persons described in this section 
(except in paragraphs (b)(2) and (d) of this section) own more than 35 
percent of the beneficial interest.
    (ii) Combined voting power. For purposes of this paragraph (b)(2), 
combined voting power includes voting power represented by holdings of 
voting stock, direct or indirect, but does not include voting rights 
held only as a director, trustee, or other fiduciary.
    (iii) Constructive ownership rules--(A) Stockholdings. For purposes 
of section 4958(f)(3) and this paragraph (b)(2), indirect stockholdings 
are taken into account as under section 267(c), except that in applying 
section 267(c)(4), the family of an individual shall include the 
members of the family specified in section 4958(f)(4) and paragraph 
(b)(1) of this section.
    (B) Profits or beneficial interest. For purposes of section 
4958(f)(3) and this paragraph (b)(2), the ownership of profits or 
beneficial interests shall be determined in accordance with the rules 
for constructive ownership of stock provided in section 267(c) (other 
than section 267(c)(3)), except that in applying section 267(c)(4), the 
family of an individual shall include the members of the family 
specified in section 4958(f)(4) and paragraph (b)(1) of this section.
    (c) Persons having substantial influence. A person who holds any of 
the following powers, responsibilities, or interests is in a position 
to exercise substantial influence over the affairs of an applicable 
tax-exempt organization:
    (1) Voting members of the governing body. This category includes 
any individual serving on the governing body of the organization who is 
entitled to vote on any matter over which the governing body has 
authority.
    (2) Presidents, chief executive officers, or chief operating 
officers. This category includes any person who, regardless of title, 
has ultimate responsibility for implementing the decisions of the 
governing body or for supervising the management, administration, or 
operation of the organization. A person who serves as president, chief 
executive officer, or chief operating officer has this ultimate 
responsibility unless the person demonstrates otherwise. If this 
ultimate responsibility resides with two or more individuals (e.g., co-
presidents), who may exercise such responsibility in concert or 
individually, then each individual is in a position to exercise 
substantial influence over the affairs of the organization.
    (3) Treasurers and chief financial officers. This category includes 
any person who, regardless of title, has ultimate responsibility for 
managing the finances of the organization. A person who serves as 
treasurer or chief financial officer has this ultimate responsibility 
unless the person demonstrates otherwise. If this ultimate 
responsibility resides with two or more individuals who may exercise 
the responsibility in concert or individually, then each individual is 
in a position to exercise substantial influence over the affairs of the 
organization.
    (4) Persons with a material financial interest in a provider-
sponsored organization. For purposes of section 4958, if a hospital 
that participates in a provider-sponsored organization (as defined in 
section 1855(e) of the Social Security Act, 42 U.S.C. 1395w-25) is an 
applicable tax-exempt organization, then any person with a material 
financial interest (within the meaning of section 501(o)) in the 
provider-sponsored organization has substantial influence with respect 
to the hospital.
    (d) Persons deemed not to have substantial influence. A person is 
deemed not to be in a position to exercise substantial influence over 
the

[[Page 2161]]

affairs of an applicable tax-exempt organization if that person is 
described in one of the following categories:
    (1) Tax-exempt organizations described in section 501(c)(3). This 
category includes any organization described in section 501(c)(3) and 
exempt from tax under section 501(a).
    (2) Certain section 501(c)(4) organizations. Only with respect to 
an applicable tax-exempt organization described in section 501(c)(4) 
and Sec. 53.4958-2T(a)(3), this category includes any other 
organization so described.
    (3) Employees receiving economic benefits of less than a specified 
amount in a taxable year. This category includes, for the taxable year 
in which benefits are provided, any full-or part-time employee of the 
applicable tax-exempt organization who--
    (i) Receives economic benefits, directly or indirectly from the 
organization, of less than the amount referenced for a highly 
compensated employee in section 414(q)(1)(B)(i);
    (ii) Is not described in Sec. 53.4958-3T(b) or (c) with respect to 
the organization; and
    (iii) Is not a substantial contributor to the organization within 
the meaning of section 507(d)(2)(A), taking into account only 
contributions received by the organization during its current taxable 
year and the four preceding taxable years.
    (e) Facts and circumstances govern in all other cases--(1) In 
general. Whether a person who is not described in paragraph (b), (c) or 
(d) of this section is a disqualified person depends upon all relevant 
facts and circumstances.
    (2) Facts and circumstances tending to show substantial influence. 
Facts and circumstances tending to show that a person has substantial 
influence over the affairs of an organization include, but are not 
limited to, the following--
    (i) The person founded the organization;
    (ii) The person is a substantial contributor to the organization 
(within the meaning of section 507(d)(2)(A)), taking into account only 
contributions received by the organization during its current taxable 
year and the four preceding taxable years;
    (iii) The person's compensation is primarily based on revenues 
derived from activities of the organization that the person controls;
    (iv) The person has or shares authority to control or determine a 
substantial portion of the organization's capital expenditures, 
operating budget, or compensation for employees;
    (v) The person manages a discrete segment or activity of the 
organization that represents a substantial portion of the activities, 
assets, income, or expenses of the organization, as compared to the 
organization as a whole;
    (vi) The person owns a controlling interest (measured by either 
vote or value) in a corporation, partnership, or trust that is a 
disqualified person; or
    (vii) The person is a non-stock organization controlled, directly 
or indirectly, by one or more disqualified persons.
    (3) Facts and circumstances tending to show no substantial 
influence. Facts and circumstances tending to show that a person does 
not have substantial influence over the affairs of an organization 
include, but are not limited to, the following--
    (i) The person has taken a bona fide vow of poverty as an employee, 
agent, or on behalf, of a religious organization;
    (ii) The person is an independent contractor (such as an attorney, 
accountant, or investment manager or advisor) whose sole relationship 
to the organization is providing professional advice (without having 
decision-making authority) with respect to transactions from which the 
independent contractor will not economically benefit either directly or 
indirectly (aside from customary fees received for the professional 
advice rendered);
    (iii) The direct supervisor of the individual is not a disqualified 
person;
    (iv) The person does not participate in any management decisions 
affecting the organization as a whole or a discrete segment or activity 
of the organization that represents a substantial portion of the 
activities, assets, income, or expenses of the organization, as 
compared to the organization as a whole; or
    (v) Any preferential treatment a person receives based on the size 
of that person's donation is also offered to all other donors making a 
comparable contribution as part of a solicitation intended to attract a 
substantial number of contributions.
    (f) Affiliated organizations. In the case of multiple organizations 
affiliated by common control or governing documents, the determination 
of whether a person does or does not have substantial influence shall 
be made separately for each applicable tax-exempt organization. A 
person may be a disqualified person with respect to transactions with 
more than one applicable tax-exempt organization.
    (g) Examples. The following examples illustrate the principles of 
this section. Finding a person to be a disqualified person in the 
following examples does not indicate that an excess benefit transaction 
has occurred. If a person is a disqualified person, the rules of 
section 4958(c) and Sec. 53.4958-4T apply to determine whether an 
excess benefit transaction has occurred. The examples are as follows:

    Example 1. N, an artist by profession, works part-time at R, a 
local museum. In the first taxable year in which R employs N, R pays 
N a salary and provides no additional benefits to N except for free 
admission to the museum, a benefit R provides to all of its 
employees and volunteers. The total economic benefits N receives 
from R during the taxable year are less than the amount referenced 
for a highly compensated employee in section 414(q)(1)(B)(i). The 
part-time job constitutes N's only relationship with R. N is not 
related to any other disqualified person with respect to R. N is 
deemed not to be in a position to exercise substantial influence 
over the affairs of R. Therefore, N is not a disqualified person 
with respect to R in that year.
    Example 2. The facts are the same as in Example 1, except that 
in addition to the salary that R pays N for N's services during the 
taxable year, R also purchases one of N's paintings for $x. The 
total of N's salary plus $x exceeds the amount referenced for highly 
compensated employees in section 414(q)(1)(B)(i). Consequently, 
whether N is in a position to exercise substantial influence over 
the affairs of R for that taxable year depends upon all of the 
relevant facts and circumstances.
    Example 3: Q is a member of K, a section 501(c)(3) organization 
with a broad-based public membership. Members of K are entitled to 
vote only with respect to the annual election of directors and the 
approval of major organizational transactions such as a merger or 
dissolution. Q is not related to any other disqualified person of K. 
Q has no other relationship to K besides being a member of K and 
occasionally making modest donations to K. Whether Q is a 
disqualified person is determined by all relevant facts and 
circumstances. Q's voting rights, which are the same as granted to 
all members of K, do not place Q in a position to exercise 
substantial influence over K. Under these facts and circumstances, Q 
is not a disqualified person with respect K.
    Example 4. E is the headmaster of Z, a school that is an 
applicable tax-exempt organization for purposes of section 4958. E 
reports to Z's board of trustees and has ultimate responsibility for 
supervising Z's day-to-day operations. For example, E can hire 
faculty members and staff, make changes to the school's curriculum 
and discipline students without specific board approval. Because E 
has ultimate responsibility for supervising the operation of Z, E is 
in a position to exercise substantial influence over the affairs of 
Z. Therefore, E is a disqualified person with respect to Z.
    Example 5. Y is an applicable tax-exempt organization for 
purposes of section 4958 that decides to use bingo games as a method 
of generating revenue. Y enters into a contract with B, a company 
that operates bingo games. Under the contract, B manages the 
promotion and operation of the bingo activity, provides

[[Page 2162]]

all necessary staff, equipment, and services, and pays Y q percent 
of the revenue from this activity. B retains the balance of the 
proceeds. Y provides no goods or services in connection with the 
bingo operation other than the use of its hall for the bingo games. 
The annual gross revenue earned from the bingo games represents more 
than half of Y's total annual revenue. B's compensation is primarily 
based on revenues from an activity B controls. B also manages a 
discrete activity of Y that represents a substantial portion of Y's 
income compared to the organization as a whole. Under these facts 
and circumstances, B is in a position to exercise substantial 
influence over the affairs of Y. Therefore, B is a disqualified 
person with respect to Y.
    Example 6. The facts are the same as in Example 5, with the 
additional fact that P owns a majority of the stock of B and is 
actively involved in managing B. Because P owns a controlling 
interest (measured by either vote or value) in and actively manages 
B, P is also in a position to exercise substantial influence over 
the affairs of Y. Therefore, under these facts and circumstances, P 
is a disqualified person with respect to Y.
    Example 7. A, an applicable tax-exempt organization for purposes 
of section 4958, owns and operates one acute care hospital. B, a 
for-profit corporation, owns and operates a number of hospitals. A 
and B form C, a limited liability company. In exchange for 
proportional ownership interests, A contributes its hospital, and B 
contributes other assets, to C. All of A's assets then consist of 
its membership interest in C. A continues to be operated for exempt 
purposes based almost exclusively on the activities it conducts 
through C. C enters into a management agreement with a management 
company, M, to provide day to day management services to C. M is 
generally subject to supervision by C's board, but M is given broad 
discretion to manage C's day to day operation. Under these facts and 
circumstances, M is in a position to exercise substantial influence 
over the affairs of A because it has day to day control over the 
hospital operated by C, A's ownership interest in C is its primary 
asset, and C's activities form the basis for A's continued exemption 
as an organization described in section 501(c)(3). Therefore, M is a 
disqualified person with respect to A.
    Example 8. T is a large university and an applicable tax-exempt 
organization for purposes of section 4958. L is the dean of the 
College of Law of T, a substantial source of revenue for T, 
including contributions from alumni and foundations. L is not 
related to any other disqualified person of T. L does not serve on 
T's governing body or have ultimate responsibility for managing the 
university as whole. However, as dean of the College of Law, L plays 
a key role in faculty hiring and determines a substantial portion of 
the capital expenditures and operating budget of the College of Law. 
L's compensation is greater than the amount referenced for a highly 
compensated employee in section 414(q)(1)(B)(i) in the year benefits 
are provided. L's management of a discrete segment of T that 
represents a substantial portion of the income of T (as compared to 
T as a whole) places L in a position to exercise substantial 
influence over the affairs of T. Under these facts and circumstances 
L is a disqualified person with respect to T.
    Example 9. S chairs a small academic department in the College 
of Arts and Sciences of the same university T described in Example 
8. S is not related to any other disqualified person of T. S does 
not serve on T's governing body or as an officer of T. As department 
chair, S supervises faculty in the department, approves the course 
curriculum, and oversees the operating budget for the department. 
S's compensation is greater than the amount referenced for a highly 
compensated employee in section 414(q)(1)(B)(i) in the year benefits 
are provided. Even though S manages the department, that department 
does not represent a substantial portion of T's activities, assets, 
income, expenses, or operating budget. Therefore, S does not 
participate in any management decisions affecting either T as a 
whole, or a discrete segment or activity of T that represents a 
substantial portion of its activities, assets, income, or expenses. 
Under these facts and circumstances, S does not have substantial 
influence over the affairs of T, and therefore S is not a 
disqualified person with respect to T.
    Example 10. U is a large acute-care hospital that is an 
applicable tax-exempt organization for purposes of section 4958. U 
employs X as a radiologist. X gives instructions to staff with 
respect to the radiology work X conducts, but X does not supervise 
other U employees or manage any substantial part of U's operations. 
X's compensation is primarily in the form of a fixed salary. In 
addition, X is eligible to receive an incentive award based on 
revenues of the radiology department. X's compensation is greater 
than the amount referenced for a highly compensated employee in 
section 414(q)(1)(B)(i) in the year benefits are provided. X is not 
related to any other disqualified person of U. X does not serve on 
U's governing body or as an officer of U. Although U participates in 
a provider-sponsored organization (as defined in section 1855(e) of 
the Social Security Act), X does not have a material financial 
interest in that organization. X does not receive compensation 
primarily based on revenues derived from activities of U that X 
controls. X does not participate in any management decisions 
affecting either U as a whole or a discrete segment of U that 
represents a substantial portion of its activities, assets, income, 
or expenses. Under these facts and circumstances, X does not have 
substantial influence over the affairs of U, and therefore X is not 
a disqualified person with respect to U.
    Example 11. W is a cardiologist and head of the cardiology 
department of the same hospital U described in Example 10. The 
cardiology department is a major source of patients admitted to U 
and consequently represents a substantial portion of U's income, as 
compared to U as a whole. W does not serve on U's governing board or 
as an officer of U. W does not have a material financial interest in 
the provider-sponsored organization (as defined in section 1855(e) 
of the Social Security Act) in which U participates. W receives a 
salary and retirement and welfare benefits fixed by a three-year 
renewable employment contract with U. W's compensation is greater 
than the amount referenced for a highly compensated employee in 
section 414(q)(1)(B)(i) in the year benefits are provided. As 
department head, W manages the cardiology department and has 
authority to allocate the budget for that department, which includes 
authority to distribute incentive bonuses among cardiologists 
according to criteria that W has authority to set. W's management of 
a discrete segment of U that represents a substantial portion of its 
income and activities (as compared to U as a whole) places W in a 
position to exercise substantial influence over the affairs of U. 
Under these facts and circumstances, W is a disqualified person with 
respect to U.
    Example 12. M is a museum that is an applicable tax-exempt 
organization for purposes of section 4958. D provides accounting 
services and tax advice to M as an independent contractor in return 
for a fee. D has no other relationship with M and is not related to 
any disqualified person of M. D does not provide professional advice 
with respect to any transaction from which D might economically 
benefit either directly or indirectly (aside from fees received for 
the professional advice rendered). Because D's sole relationship to 
M is providing professional advice (without having decision-making 
authority) with respect to transactions from which D will not 
economically benefit either directly or indirectly (aside from 
customary fees received for the professional advice rendered), under 
these facts and circumstances, D is not a disqualified person with 
respect to M.
    Example 13. F is a repertory theater company that is an 
applicable tax-exempt organization for purposes of section 4958. F 
holds a fund-raising campaign to pay for the construction of a new 
theater. J is a regular subscriber to F's productions who has made 
modest gifts to F in the past. J has no relationship to F other than 
as a subscriber and contributor. F solicits contributions as part of 
a broad public campaign intended to attract a large number of 
donors, including a substantial number of donors making large gifts. 
In its solicitations for contributions, F promises to invite all 
contributors giving $z or more to a special opening production and 
party held at the new theater. These contributors are also given a 
special number to call in F's office to reserve tickets for 
performances, make ticket exchanges, and make other special 
arrangements for their convenience. J makes a contribution of $z to 
F, which makes J a substantial contributor within the meaning of 
section 507(d)(2)(A), taking into account only contributions 
received by F during its current and the four preceding taxable 
years. J receives the benefits described in F's solicitation. 
Because F offers the same benefit to all donors of $z or more, the 
preferential treatment that J receives does not indicate that J is 
in a position to exercise substantial influence over the affairs of 
the organization. Therefore,

[[Page 2163]]

under these facts and circumstances, J is not a disqualified person 
with respect to F.


Sec. 53.4958-4T  Excess benefit transaction (temporary).

    (a) Definition of excess benefit transaction--(1) In general. An 
excess benefit transaction means any transaction in which an economic 
benefit is provided by an applicable tax-exempt organization directly 
or indirectly to or for the use of any disqualified person, and the 
value of the economic benefit provided exceeds the value of the 
consideration (including the performance of services) received for 
providing the benefit. Subject to the limitations of paragraph (c) of 
this section (relating to the treatment of economic benefits as 
compensation for the performance of services), to determine whether an 
excess benefit transaction has occurred, all consideration and benefits 
(except disregarded benefits described in paragraph (a)(4) of this 
section) exchanged between a disqualified person and the applicable 
tax-exempt organization and all entities the organization controls 
(within the meaning of paragraph (a)(2)(ii)(B) of this section) are 
taken into account. For example, in determining the reasonableness of 
compensation that is paid (or vests, or is no longer subject to a 
substantial risk of forfeiture) in one year, services performed in 
prior years may be taken into account. For rules regarding valuation 
standards, see paragraph (b) of this section. For the requirement that 
an applicable tax-exempt organization clearly indicate its intent to 
treat a benefit as compensation for services when paid, see paragraph 
(c) of this section.
    (2) Economic benefit provided indirectly--(i) In general. A 
transaction that would be an excess benefit transaction if the 
applicable tax-exempt organization engaged in it directly with a 
disqualified person is likewise an excess benefit transaction when it 
is accomplished indirectly. An applicable tax-exempt organization may 
provide an excess benefit indirectly to a disqualified person through a 
controlled entity or through an intermediary, as described in 
paragraphs (a)(2)(ii) and (iii) of this section, respectively.
    (ii) Through a controlled entity--(A) In general. An applicable 
tax-exempt organization may provide an excess benefit indirectly 
through the use of one or more entities it controls. For purposes of 
section 4958, economic benefits provided by a controlled entity will be 
treated as provided by the applicable tax-exempt organization.
    (B) Definition of control--(1) In general. For purposes of this 
paragraph, control by an applicable tax-exempt organization means--
    (i) In the case of a stock corporation, ownership (by vote or 
value) of more than 50 percent of the stock in such corporation;
    (ii) In the case of a partnership, ownership of more than 50 
percent of the profits interests or capital interests in the 
partnership;
    (iii) In the case of a nonstock organization (i.e., an entity in 
which no person holds a proprietary interest), that at least 50 percent 
of the directors or trustees of the organization are either 
representatives (including trustees, directors, agents, or employees) 
of, or directly or indirectly controlled by, an applicable tax-exempt 
organization; or
    (iv) In the case of any other entity, ownership of more than 50 
percent of the beneficial interest in the entity.
    (2) Constructive ownership. Section 318 (relating to constructive 
ownership of stock) shall apply for purposes of determining ownership 
of stock in a corporation. Similar principles shall apply for purposes 
of determining ownership of interests in any other entity.
    (iii) Through an intermediary. An applicable tax-exempt 
organization may provide an excess benefit indirectly through an 
intermediary. An intermediary is any person (including an individual or 
a taxable or tax-exempt entity) who participates in a transaction with 
one or more disqualified persons of an applicable tax-exempt 
organization. For purposes of section 4958, economic benefits provided 
by an intermediary will be treated as provided by the applicable tax-
exempt organization when--
    (A) An applicable tax-exempt organization provides an economic 
benefit to an intermediary; and
    (B) In connection with the receipt of the benefit by the 
intermediary--
    (1) There is evidence of an oral or written agreement or 
understanding that the intermediary will provide economic benefits to 
or for the use of a disqualified person; or
    (2) The intermediary provides economic benefits to or for the use 
of a disqualified person without a significant business purpose or 
exempt purpose of its own.
    (iv) Examples. The following examples illustrate when economic 
benefits are provided indirectly under the rules of paragraph (a)(2) of 
this section:

    Example 1. K is an applicable tax-exempt organization for 
purposes of section 4958. L is an entity controlled by K within the 
meaning of paragraph (a)(2)(ii)(B) of this section. J is employed by 
K, and is a disqualified person with respect to K. K pays J an 
annual salary of $12m, and reports that amount as compensation 
during calendar year 2001. Although J only performed services for K 
for nine months of 2001, J performed equivalent services for L 
during the remaining three months of 2001. Taking into account all 
of the economic benefits K provided to J, and all of the services J 
performed for K and L, $12m does not exceed the fair market value of 
the services J performed for K and L during 2001. Therefore, under 
these facts, K does not provide an excess benefit to J directly or 
indirectly.
    Example 2. F is an applicable tax-exempt organization for 
purposes of section 4958. D is an entity controlled by F within the 
meaning of paragraph (a)(2)(ii)(B) of this section. T is the chief 
executive officer (CEO) of F. As CEO, T is responsible for 
overseeing the activities of F. T's duties as CEO make him a 
disqualified person with respect to F. T's compensation package with 
F represents the maximum reasonable compensation for T's services as 
CEO. Thus, any additional economic benefits that F provides to T 
without T providing additional consideration constitute an excess 
benefit. D contracts with T to provide enumerated ``consulting 
services'' to D. However, the contract does not require T to perform 
any additional services for D that T is not already obligated to 
perform as F's chief executive officer. Therefore, any payment to T 
pursuant to the consulting contract with D represents an indirect 
excess benefit that F provides through a controlled entity, even if 
F, D, or T treats the additional payment to T as compensation.
    Example 3. P is an applicable tax-exempt organization for 
purposes of section 4958. S is a taxable entity controlled by P 
within the meaning of paragraph (a)(2)(ii)(B) of this section. V is 
the chief executive officer of S, for which S pays V $w in salary 
and benefits. V also serves as a voting member of P's governing 
body. Consequently, V is a disqualified person with respect to P. P 
provides V with $x representing compensation for the services V 
provides P as a member of its governing body. Although $x represents 
reasonable compensation for the services V provides directly to P as 
a member of its governing body, the total compensation of $w + $x 
exceeds reasonable compensation for the services V provides to P and 
S collectively. Therefore, the portion of total compensation that 
exceeds reasonable compensation is an excess benefit provided to V.
    Example 4. G is an applicable tax-exempt organization for 
section 4958 purposes. F is a disqualified person who was last 
employed by G in a position of substantial influence three years 
ago. H is an entity engaged in scientific research and is unrelated 
to either F or G. G makes a grant to H to fund a research position. 
H subsequently advertises for qualified candidates for the research 
position. F is among several highly qualified candidates who apply 
for the research position. H hires F. There was no evidence

[[Page 2164]]

of an oral or written agreement or understanding with G that H will 
use G's grant to provide economic benefits to or for the use of F. 
Although G provided economic benefits to H, and in connection with 
the receipt of such benefits, H will provide economic benefits to or 
for the use of F, H acted with a significant business purpose or 
exempt purpose of its own. Under these facts, G did not provide an 
economic benefit to F indirectly through the use of an intermediary.

    (3) Exception for fixed payments made pursuant to an initial 
contract--(i) In general. Except as provided in paragraph (iv), section 
4958 does not apply to any fixed payment made to a person pursuant to 
an initial contract.
    (ii) Fixed payment--(A) In general. For purposes of paragraph 
(a)(3)(i) of this section, fixed payment means an amount of cash or 
other property specified in the contract, or determined by a fixed 
formula specified in the contract, which is to be paid or transferred 
in exchange for the provision of specified services or property. A 
fixed formula may incorporate an amount that depends upon future 
specified events or contingencies, provided that no person exercises 
discretion when calculating the amount of a payment or deciding whether 
to make a payment (such as a bonus). A specified event or contingency 
may include the amount of revenues generated by (or other objective 
measure of) one or more activities of the applicable tax-exempt 
organization. A fixed payment does not include any amount paid to a 
person under a reimbursement (or similar) arrangement where discretion 
is exercised by any person with respect to the amount of expenses 
incurred or reimbursed.
    (B) Special rules. Amounts payable pursuant to a qualified pension, 
profit-sharing, or stock bonus plan under Internal Revenue Code section 
401(a), or pursuant to an employee benefit program that is subject to 
and satisfies coverage and nondiscrimination rules under the Code 
(e.g., sections 127 and 137), other than nondiscrimination rules under 
section 9802, are treated as fixed payments for purposes of this 
section, regardless of the applicable tax-exempt organization's 
discretion with respect to the plan or program. The fact that a person 
contracting with an applicable tax-exempt organization is expressly 
granted the choice whether to accept or reject any economic benefit is 
disregarded in determining whether the benefit constitutes a fixed 
payment for purposes of this paragraph.
    (iii) Initial contract. For purposes of paragraph (a)(3)(i) of this 
section, initial contract means a binding written contract between an 
applicable tax-exempt organization and a person who was not a 
disqualified person within the meaning of section 4958(f)(1) and 
Sec. 53.4958-3T immediately prior to entering into the contract.
    (iv) Substantial performance required. Paragraph (a)(3)(i) of this 
section does not apply to any fixed payment made pursuant to the 
initial contract during any taxable year of the person contracting with 
the applicable tax-exempt organization if the person fails to perform 
substantially the person's obligations under the initial contract 
during that year.
    (v) Treatment as a new contract. A written binding contract that 
provides that the contract is terminable or subject to cancellation by 
the applicable tax-exempt organization (other than as a result of a 
lack of substantial performance by the disqualified person, as 
described in paragraph (a)(3)(iv) of this section) without the other 
party's consent and without substantial penalty to the organization is 
treated as a new contract as of the earliest date that any such 
termination or cancellation, if made, would be effective. Additionally, 
if the parties make a material change to a contract, it is treated as a 
new contract as of the date the material change is effective. A 
material change includes an extension or renewal of the contract (other 
than an extension or renewal that results from the person contracting 
with the applicable tax-exempt organization unilaterally exercising an 
option expressly granted by the contract), or a more than incidental 
change to any amount payable under the contract. The new contract is 
tested under paragraph (a)(3)(iii) of this section to determine whether 
it is an initial contract for purposes of this section.
    (vi) Evaluation of non-fixed payments. Any payment that is not a 
fixed payment (within the meaning of paragraph (a)(3)(ii) of this 
section) is evaluated to determine whether it constitutes an excess 
benefit transaction under section 4958. In making this determination, 
all payments and consideration exchanged between the parties are taken 
into account, including any fixed payments made pursuant to an initial 
contract with respect to which section 4958 does not apply.
    (vii) Examples. The following examples illustrate the rules 
governing fixed payments made pursuant to an initial contract. Unless 
otherwise stated, assume that the person contracting with the 
applicable tax-exempt organization has performed substantially the 
person's obligations under the contract with respect to the payment.
    The examples are as follows:

    Example 1. T is an applicable tax-exempt organization for 
purposes of section 4958. On January 1, 2000, T hires S as its chief 
financial officer by entering into a five-year written employment 
contract with S. S was not a disqualified person within the meaning 
of section 4958(f)(1) and Sec. 53.4958-3T immediately prior to 
entering into the January 1, 2000, contract (initial contract). S's 
duties and responsibilities under the contract make S a disqualified 
person with respect to T (see Sec. 53.4958-3T(a)). Under the initial 
contract, T agrees to pay S an annual salary of $200,000, payable in 
monthly installments. The contract provides that, beginning in 2001, 
S's annual salary will be adjusted by the increase in the Consumer 
Price Index (CPI) for the prior year. Section 4958 does not apply 
because S's compensation under the contract is a fixed payment 
pursuant to an initial contract within the meaning of paragraph 
(a)(3) of this section. Thus, for section 4958 purposes, it is 
unnecessary to evaluate whether any portion of the compensation paid 
to S pursuant to the initial contract is an excess benefit 
transaction.
    Example 2. The facts are the same as in Example 1, except that 
the initial contract provides that, in addition to a base salary of 
$200,000, T may pay S an annual performance-based bonus. The 
contract provides that T's governing body will determine the amount 
of the annual bonus as of the end of each year during the term of 
the contract, based on the board's evaluation of S's performance, 
but the bonus cannot exceed $100,000 per year. Unlike the base 
salary portion of S's compensation, the bonus portion of S's 
compensation is not a fixed payment pursuant to an initial contract, 
because the governing body has discretion over the amount, if any, 
of the bonus payment. Section 4958 does not apply to payment of the 
$200,000 base salary (as adjusted for inflation), because it is a 
fixed payment pursuant to an initial contract within the meaning of 
paragraph (a)(3) of this section. By contrast, the annual bonuses 
that may be paid to S under the initial contract are not protected 
by the initial contract exception. Therefore, each bonus payment 
will be evaluated under section 4958, taking into account all 
payments and consideration exchanged between the parties.
    Example 3. The facts are the same as in Example 1, except that 
in 2001, T changes its payroll system, such that T makes biweekly, 
rather than monthly, salary payments to its employees. Beginning in 
2001, T also grants its employees an additional two days of paid 
vacation each year. Neither change is a material change to S's 
initial contract within the meaning of paragraph (a)(3)(v) of this 
section. Therefore, section 4958 does not apply to the base salary 
payments to S due to the initial contract exception.
    Example 4. The facts are the same as in Example 1, except that 
on January 1, 2001, S becomes the chief executive officer of T and a 
new chief financial officer is hired. At the same time, T's board of 
directors approves an increase in S's annual base salary from 
$200,000 to $240,000, effective on that day. These changes in S's 
employment relationship constitute material

[[Page 2165]]

changes of the initial contract within the meaning of paragraph 
(a)(3)(v) of this section. As a result, S is treated as entering 
into a new contract with T on January 1, 2001, at which time S is a 
disqualified person within the meaning of section 4958(f)(1) and 
Sec. 53.4958-3T. T's payments to S made pursuant to the new contract 
will be evaluated under section 4958, taking into account all 
payments and consideration exchanged between the parties.
    Example 5. J is a performing arts organization and an applicable 
tax-exempt organization for purposes of section 4958. J hires W to 
become the chief executive officer of J. W was not a disqualified 
person within the meaning of section 4958(f)(1) and Sec. 53.4958-3T 
immediately prior to entering into the employment contract with J. 
As a result of this employment contract, W's duties and 
responsibilities make W a disqualified person with respect to J (see 
Sec. 53.4958-3T(c)(2)). Under the contract, J will pay W $x (a 
specified amount) plus a bonus equal to 2 percent of the total 
season subscription sales that exceed $100z. The $x base salary is a 
fixed payment pursuant to an initial contract within the meaning of 
paragraph (a)(3) of this section. The bonus payment is also a fixed 
payment pursuant to an initial contract within the meaning of 
paragraph (a)(3) of this section, because no person exercises 
discretion when calculating the amount of the bonus payment or 
deciding whether the bonus will be paid. Therefore, section 4958 
does not apply to any of J's payments to W pursuant to the 
employment contract due to the initial contract exception.
    Example 6. Hospital B is an applicable tax-exempt organization 
for purposes of section 4958. Hospital B hires E as its chief 
operating officer. E was not a disqualified person within the 
meaning of section 4958(f)(1) and Sec. 53.4958-3T immediately prior 
to entering into the employment contract with Hospital B. As a 
result of this employment contract, E's duties and responsibilities 
make E a disqualified person with respect to Hospital B (see 
Sec. 53.4958-3T(c)(2)). E's initial employment contract provides 
that E will have authority to enter into hospital management 
arrangements on behalf of Hospital B. In E's personal capacity, E 
owns more than 35 percent of the combined voting power of Company X. 
Consequently, at the time E becomes a disqualified person with 
respect to B, Company X also becomes a disqualified person with 
respect to B (see Sec. 53.4958-3T(b)(2)(A)). E, acting on behalf of 
Hospital B as chief operating officer, enters into a contract with 
Company X under which Company X will provide billing and collection 
services to Hospital B. The initial contract exception of paragraph 
(a)(3)(i) of this section does not apply to the billing and 
collection services contract, because at the time that this 
contractual arrangement was entered into, Company X was a 
disqualified person with respect to Hospital B. Although E's 
employment contract (which is an initial contract) authorizes E to 
enter into hospital management arrangements on behalf of Hospital B, 
the payments made to Company X are not made pursuant to E's 
employment contract, but rather are made by Hospital B pursuant to a 
separate contractual arrangement with Company X. Therefore, even if 
payments made to Company X under the billing and collection services 
contract are fixed payments (within the meaning of paragraph 
(a)(3)(ii) of this section), section 4958 nonetheless applies to 
payments made by Hospital B to Company X because the billing and 
collection services contract itself does not constitute an initial 
contract under paragraph (a)(3)(iii) of this section. Accordingly, 
all payments made to Company X under the billing and collection 
services contract will be evaluated under section 4958.
    Example 7. Hospital C, an applicable tax-exempt organization, 
enters into a contract with Company Y, under which Company Y will 
provide a wide range of hospital management services to Hospital C. 
Upon entering into this contractual arrangement, Company Y becomes a 
disqualified person with respect to Hospital C. The contract 
provides that Hospital C will pay Company Y a management fee of x 
percent of adjusted gross revenue (i.e., gross revenue increased by 
the cost of charity care provided to indigents) annually for a five-
year period. The management services contract specifies the cost 
accounting system and the standards for indigents to be used in 
calculating the cost of charity care. The cost accounting system 
objectively defines the direct and indirect costs of all health care 
goods and services provided as charity care. Because Company Y was 
not a disqualified person with respect to Hospital C immediately 
before entering into the management services contract, that contract 
is an initial contract within the meaning of paragraph (a)(3)(iii) 
of this section. The annual management fee paid to Company Y is 
determined by a fixed formula specified in the contract, and is 
therefore a fixed payment within the meaning of paragraph (a)(3)(ii) 
of this section. Accordingly, section 4958 does not apply to the 
annual management fee due to the initial contract exception.
    Example 8. The facts are the same as in Example 7, except that 
the management services contract also provides that Hospital C will 
reimburse Company Y on a monthly basis for certain expenses incurred 
by Company Y that are attributable to management services provided 
to Hospital C (e.g., legal fees and travel expenses). These 
reimbursement payments that Hospital C makes to Company Y for the 
various expenses covered by the contract are not fixed payments 
within the meaning of paragraph (a)(3)(ii) of this section, because 
Company Y exercises discretion with respect to the amount of 
expenses incurred. Therefore, any reimbursement payments that 
Hospital C pays pursuant to the contract will be evaluated under 
section 4958.
    Example 9. X, an applicable tax-exempt organization for purposes 
of section 4958, hires C to conduct scientific research. On January 
1, 2000, C enters into a three-year written employment contract with 
X (``initial contract''). Under the terms of the contract, C is 
required to work full-time at X's laboratory for a fixed annual 
salary of $90,000. Immediately prior to entering into the employment 
contract, C was not a disqualified person within the meaning of 
section 4958(f)(1) and Sec. 53.4958-3T, nor did C become a 
disqualified person pursuant to the initial contract. However, two 
years after joining X, C marries D, who is the child of X's 
president. As D's spouse, C is a disqualified person within the 
meaning of section 4958(f)(1) and Sec. 53.4958-3T with respect to X. 
Nonetheless, section 4958 does not apply to X's salary payments to C 
due to the initial contract exception.
    Example 10. The facts are the same as in Example 9, except that 
the initial contract included a below-market loan provision under 
which C has the unilateral right to borrow up to a specified dollar 
amount from X at a specified interest rate for a specified term. 
After C's marriage to D, C borrows money from X to purchase a home 
under the terms of the initial contract. Section 4958 does not apply 
to X's loan to C due to the initial contract exception.
    Example 11. The facts are the same as in Example 9, except that 
after C's marriage to D, C works only sporadically at the 
laboratory, and performs no other services for X. Notwithstanding 
that C fails to perform substantially C's obligations under the 
initial contract, X does not exercise its right to terminate the 
initial contract for nonperformance and continues to pay full salary 
to C. Pursuant to paragraph (a)(3)(iv) of this section, the initial 
contract exception does not apply to any payments made pursuant to 
the initial contract during any taxable year of C in which C fails 
to perform substantially C's obligations under the initial contract.

    (4) Certain economic benefits disregarded for purposes of section 
4958. The following economic benefits are disregarded for purposes of 
section 4958:
    (i) Nontaxable fringe benefits. An economic benefit that is 
excluded from income under section 132, except any liability insurance 
premium, payment, or reimbursement that must be taken into account 
under Sec. 53.4958-4T(b)(1)(ii)(B)(2);
    (ii) Certain economic benefits provided to a volunteer for the 
organization. An economic benefit provided to a volunteer for the 
organization if the benefit is provided to the general public in 
exchange for a membership fee or contribution of $75 or less per year;
    (iii) Certain economic benefits provided to a member of, or donor 
to, the organization. An economic benefit provided to a member of an 
organization solely on account of the payment of a membership fee, or 
to a donor solely on account of a contribution deductible under section 
170, if--
    (A) Any non-disqualified person paying a membership fee or making a 
contribution above a specified amount to the organization is given the 
option of receiving substantially the same economic benefit; and
    (B) The disqualified person and a significant number of non-
disqualified

[[Page 2166]]

persons make a payment or contribution of at least the specified 
amount;
    (iv) Economic benefits provided to a charitable beneficiary. An 
economic benefit provided to a person solely as a member of a 
charitable class that the applicable tax-exempt organization intends to 
benefit as part of the accomplishment of the organization's exempt 
purpose; and
    (v) Certain economic benefits provided to a governmental unit. Any 
transfer of an economic benefit to or for the use of a governmental 
unit defined in section 170(c)(1), if the transfer is for exclusively 
public purposes.
    (b) Valuation standards--(1) In general. This section provides 
rules for determining the value of economic benefits for purposes of 
section 4958.
    (i) Fair market value of property. The value of property, including 
the right to use property, for purposes of section 4958 is the fair 
market value (i.e., the price at which property or the right to use 
property would change hands between a willing buyer and a willing 
seller, neither being under any compulsion to buy, sell or transfer 
property or the right to use property, and both having reasonable 
knowledge of relevant facts).
    (ii) Reasonable compensation--(A) In general. The value of services 
is the amount that would ordinarily be paid for like services by like 
enterprises under like circumstances (i.e., reasonable compensation). 
Section 162 standards apply in determining reasonableness of 
compensation, taking into account the aggregate benefits (other than 
any benefits specifically disregarded under paragraph (a)(4) of this 
section) provided to a person and the rate at which any deferred 
compensation accrues. The fact that a bonus or revenue-sharing 
arrangement is subject to a cap is a relevant factor in determining the 
reasonableness of compensation. The fact that a State or local 
legislative or agency body or court has authorized or approved a 
particular compensation package paid to a disqualified person is not 
determinative of the reasonableness of compensation for purposes of 
section 4958.
    (B) Items included in determining the value of compensation for 
purposes of determining reasonableness under section 4958. Except for 
economic benefits that are disregarded for purposes of section 4958 
under paragraph (a)(4) of this section, compensation for purposes of 
determining reasonableness under section 4958 includes all economic 
benefits provided by an applicable tax-exempt organization in exchange 
for the performance of services. These benefits include, but are not 
limited to--
    (1) All forms of cash and noncash compensation, including salary, 
fees, bonuses, severance payments, and deferred and noncash 
compensation described in Sec. 53.4958-1T(e)(2);
    (2) Unless excludable from income as a de minimis fringe benefit 
pursuant to section 132(a)(4), the payment of liability insurance 
premiums for, or the payment or reimbursement by the organization of--
    (i) Any penalty, tax, or expense of correction owed under section 
4958;
    (ii) Any expense not reasonably incurred by the person in 
connection with a civil judicial or civil administrative proceeding 
arising out of the person's performance of services on behalf of the 
applicable tax-exempt organization; or
    (iii) Any expense resulting from an act or failure to act with 
respect to which the person has acted willfully and without reasonable 
cause; and
    (3) All other compensatory benefits, whether or not included in 
gross income for income tax purposes, including payments to welfare 
benefit plans, such as plans providing medical, dental, life insurance, 
severance pay, and disability benefits, and both taxable and nontaxable 
fringe benefits (other than fringe benefits described in section 132), 
including expense allowances or reimbursements, and foregone interest 
on loans.
    (C) Inclusion in compensation for reasonableness determination does 
not govern income tax treatment. The determination of whether any item 
listed in paragraph (b)(1)(ii)(B) of this section is included in the 
disqualified person's gross income for income tax purposes is made on 
the basis of the provisions of chapter 1 of Subtitle A of the Internal 
Revenue Code, without regard to whether the item is taken into account 
for purposes of determining reasonableness of compensation under 
section 4958.
    (2) Timing of reasonableness determination--(i) In general. The 
facts and circumstances to be taken into consideration in determining 
reasonableness of a fixed payment (within the meaning of paragraph 
(a)(3)(ii) of this section) are those existing on the date the parties 
enter into the contract pursuant to which the payment is made. However, 
in the event of substantial non-performance, reasonableness is 
determined based on all facts and circumstances, up to and including 
circumstances as of the date of payment. In the case of a payment that 
is not a fixed payment under a contract, reasonableness is determined 
based on all facts and circumstances, up to and including circumstances 
as of the date of payment. In no event shall circumstances existing at 
the date when the payment is questioned be considered in making a 
determination of the reasonableness of the payment.
    (ii) Treatment as a new contract. For purposes of paragraph 
(b)(2)(i) of this section, a written binding contract that provides 
that the contract is terminable or subject to cancellation by the 
applicable tax-exempt organization without the other party's consent 
and without substantial penalty to the organization is treated as a new 
contract as of the earliest date that any such termination or 
cancellation, if made, would be effective. Additionally, if the parties 
make a material change to a contract (within the meaning of paragraph 
(a)(3)(v) of this section), it is treated as a new contract as of the 
date the material change is effective.
    (iii) Examples. The following examples illustrate the timing of the 
reasonableness determination under the rules of this paragraph (b)(2):

    Example 1. G is an applicable tax-exempt organization for 
purposes of section 4958. H is an employee of G and a disqualified 
person with respect to G. H's new multi-year employment contract 
provides for payment of a salary and provision of specific benefits 
pursuant to a qualified pension plan under Internal Revenue Code 
section 401(a) and an accident and health plan that meets the 
requirements of section 105(h)(2). The contract provides that H's 
salary will be adjusted by the increase in the Consumer Price Index 
(CPI) for the prior year. The contributions G makes to the qualified 
pension plan are equal to the maximum amount G is permitted to 
contribute under the rules applicable to qualified plans. Under 
these facts, all items comprising H's total compensation are treated 
as fixed payments within the meaning of paragraph (a)(3)(ii) of this 
section. Therefore, the reasonableness of H's compensation is 
determined based on the circumstances existing at the time G and H 
enter into the employment contract.
    Example 2. N is an applicable tax-exempt organization for 
purposes of section 4958. On January 2, N's governing body enters 
into a new one-year employment contract with K, its executive 
director, who is a disqualified person with respect to N. The 
contract provides that K will receive a specified amount of salary, 
contributions to a qualified pension plan under Internal Revenue 
Code section 401(a), and other benefits pursuant to a section 125 
cafeteria plan. In addition, the contract provides that N's 
governing body may, in its discretion, declare a bonus to be paid to 
K at any time during the year covered by the contract. K's salary 
and other specified benefits constitute fixed payments within the 
meaning of paragraph (a)(3)(ii) of this section. Therefore, the 
reasonableness of those economic benefits is determined on the date 
when the contract was made. However, because the bonus payment is 
not a fixed

[[Page 2167]]

payment within the meaning of paragraph (a)(3)(ii) of this section, 
the determination of whether any bonus awarded to N is reasonable 
must be made based on all facts and circumstances (including all 
payments and consideration exchanged between the parties), up to and 
including circumstances as of the date of payment of the bonus.

    (c) Establishing intent to treat economic benefit as consideration 
for the performance of services--(1) In general. An economic benefit is 
not treated as consideration for the performance of services unless the 
organization providing the benefit clearly indicates its intent to 
treat the benefit as compensation when the benefit is paid. Except as 
provided in paragraph (c)(2) of this section, an applicable tax-exempt 
organization (or entity controlled by an applicable tax-exempt 
organization, within the meaning of paragraph (a)(2)(ii)(B) of this 
section) is treated as clearly indicating its intent to provide an 
economic benefit as compensation for services only if the organization 
provides written substantiation that is contemporaneous with the 
transfer of the economic benefit at issue. If an organization fails to 
provide this contemporaneous substantiation, any services provided by 
the disqualified person will not be treated as provided in 
consideration for the economic benefit for purposes of determining the 
reasonableness of the transaction.
    (2) Nontaxable benefits. For purposes of section 4958(c)(1)(A) and 
this section, an applicable tax-exempt organization is not required to 
indicate its intent to provide an economic benefit as compensation for 
services if the economic benefit is excluded from the disqualified 
person's gross income for income tax purposes on the basis of the 
provisions of chapter 1 of Subtitle A of the Internal Revenue Code. 
Examples of these benefits include, but are not limited to, employer-
provided health benefits and contributions to a qualified pension, 
profit-sharing, or stock bonus plan under Internal Revenue Code section 
401(a), and benefits described in sections 127 and 137. However, except 
for economic benefits that are disregarded for purposes of section 4958 
under paragraph (a)(4) of this section, all compensatory benefits 
(regardless of the federal income tax treatment) provided by an 
organization in exchange for the performance of services are taken into 
account in determining the reasonableness of a person's compensation 
for purposes of section 4958.
    (3) Contemporaneous substantiation--(i) Reporting of benefit. An 
applicable tax-exempt organization provides contemporaneous written 
substantiation of its intent to provide an economic benefit as 
compensation if--
    (A) The organization reports the economic benefit as compensation 
on an original Federal tax information return with respect to the 
payment (e.g., Form W-2 or 1099) or with respect to the organization 
(e.g., Form 990), or on an amended Federal tax information return filed 
prior to the commencement of an Internal Revenue Service examination of 
the applicable tax-exempt organization or the disqualified person for 
the taxable year in which the transaction occurred (as determined under 
Sec. 53.4958-1T(e)); or
    (B) The recipient disqualified person reports the benefit as income 
on the person's original Federal tax return (e.g., Form 1040), or on 
the person's amended Federal tax return filed prior to the commencement 
of an Internal Revenue Service examination described in paragraph 
(b)(3)(i)(A) of this section.
    (ii) Other evidence of contemporaneous substantiation. In addition, 
other written contemporaneous evidence may be used to demonstrate that 
the appropriate decision-making body or an authorized officer approved 
a transfer as compensation for services in accordance with established 
procedures, including an approved written employment contract executed 
on or before the date of the transfer, or documentation satisfying the 
requirements of Sec. 53.4958-6T(a)(3) indicating that an authorized 
body approved the transfer as compensation for services on or before 
the date of the transfer.
    (iii) Failure to report due to reasonable cause. If an applicable 
tax-exempt organization's failure to report an economic benefit as 
required under the Internal Revenue Code is due to reasonable cause 
(within the meaning of Sec. 301.6724-1 of this chapter), then the 
organization will be treated as having clearly indicated its intent to 
provide an economic benefit as compensation for services. To show that 
its failure to report an economic benefit that should have been 
reported on an information return was due to reasonable cause, an 
applicable tax-exempt organization must establish that there were 
significant mitigating factors with respect to its failure to report 
(as described in Sec. 301.6724-1(b) of this chapter), or the failure 
arose from events beyond the organization's control (as described in 
Sec. 301.6724-1(c) of this chapter), and that the organization acted in 
a responsible manner both before and after the failure occurred (as 
described in Sec. 301.6724-1(d) of this chapter).
    (4) Examples. The following examples illustrate the requirement 
that an organization contemporaneously substantiate its intent to 
provide an economic benefit as compensation for services, as defined in 
paragraph (c) of this section:

    Example 1. G is an applicable tax-exempt organization for 
purposes of section 4958. G hires an individual contractor, P, who 
is also the child of a disqualified person of G, to design a 
computer program for it. G executes a contract with P for that 
purpose in accordance with G's established procedures, and pays P 
$1,000 during the year pursuant to the contract. Before January 31 
of the next year, G reports the full amount paid to P under the 
contract on a Form 1099 filed with the Internal Revenue Service. G 
will be treated as providing contemporaneous written substantiation 
of its intent to provide the $1,000 paid to P as compensation for 
the services P performed under the contract by virtue of either the 
Form 1099 filed with the Internal Revenue Service reporting the 
amount, or by virtue of the written contract executed between G and 
P.
    Example 2. G is an applicable tax-exempt organization for 
purposes of section 4958. D is the chief operating officer of G, and 
a disqualified person with respect to G. D receives a bonus at the 
end of the year. G's accounting department determines that the bonus 
is to be reported on D's Form W-2. Due to events beyond G's control, 
the bonus is not reflected on D's Form W-2. As a result, D fails to 
report the bonus on his individual income tax return. G acts to 
amend Forms W-2 affected as soon as G is made aware of the error 
during an Internal Revenue Service examination. G's failure to 
report the bonus on an information return issued to D arose from 
events beyond G's control, and G acted in a responsible manner both 
before and after the failure occurred. Thus, because G had 
reasonable cause (within the meaning of Sec. 301.6724-1 of this 
chapter) for failing to report D's bonus, G will be treated as 
providing contemporaneous written substantiation of its intent to 
provide the bonus as compensation for services when paid.

Sec. 53.4958-5T  Transaction in which the amount of the economic 
benefit is determined in whole or in part by the revenues of one or 
more activities of the organization (temporary). [Reserved]


Sec. 53.4958-6T  Rebuttable presumption that a transaction is not an 
excess benefit transaction (temporary).

    (a) In general. Payments under a compensation arrangement are 
presumed to be reasonable, and a transfer of property, or the right to 
use property, is presumed to be at fair market value, if the following 
conditions are satisfied--
    (1) The compensation arrangement or the terms of the property 
transfer are Approved in advance by an authorized body of the 
applicable tax-exempt organization (or an entity controlled by

[[Page 2168]]

the organization with the meaning of Sec. 53.4958-4T(a)(2)(ii)(B)) 
composed entirely of individuals who do not have a conflict of interest 
(within the meaning of paragraph (c)(1)(iii) of this section) with 
respect to the compensation arrangement or property transfer, as 
described in paragraph (c)(1) of this section;
    (2) The authorized body obtained and relied upon appropriate data 
as to comparability prior to making its determination, as described in 
paragraph (c)(2) of this section; and
    (3) The authorized body adequately documented the basis for its 
determination concurrently with making that determination, as described 
in paragraph (c)(3) of this section.
    (b) Rebutting the presumption. If the three requirements of 
paragraph (a) of this section are satisfied, then the Internal Revenue 
Service may rebut the presumption that arises under paragraph (a) of 
this section only if it develops sufficient contrary evidence to rebut 
the probative value of the comparability data relied upon by the 
authorized body. With respect to any fixed payment (within the meaning 
of Sec. 53.4958-4T(a)(3)(ii)), rebuttal evidence is limited to evidence 
relating to facts and circumstances existing on the date the parties 
enter into the contract pursuant to which the payment is made (except 
in the event of substantial nonperformance). With respect to all other 
payments (including non-fixed payments subject to a cap, as described 
in paragraph (d)(2) of this section), rebuttal evidence may include 
facts and circumstances up to and including the date of payment. See 
Sec. 53.4958-4T(b)(2)(i).
    (c) Requirements for invoking rebuttable presumption--(1) Approval 
by an authorized body--(i) In general. An authorized body means--
    (A) The governing body (i.e., the board of directors, board of 
trustees, or equivalent controlling body) of the organization;
    (B) A committee of the governing body, which may be composed of any 
individuals permitted under State law to serve on such a committee, to 
the extent that the committee is permitted by State law to act on 
behalf of the governing body; or
    (C) To the extent permitted under State law, other parties 
authorized by the governing body of the organization to act on its 
behalf by following procedures specified by the governing body in 
approving compensation arrangements or property transfers.
    (ii) Individuals not included on authorized body. For purposes of 
determining whether the requirements of paragraph (a) of this section 
have been met with respect to a specific compensation arrangement or 
property transfer, an individual is not included on the authorized body 
when it is reviewing a transaction if that individual meets with other 
members only to answer questions, and otherwise recuses himself or 
herself from the meeting and is not present during debate and voting on 
the compensation arrangement or property transfer.
    (iii) Absence of conflict of interest. A member of the authorized 
body does not have a conflict of interest with respect to a 
compensation arrangement or property transfer only if the member--
    (A) Is not a disqualified person participating in or economically 
benefitting from the compensation arrangement or property transfer, and 
is not a member of the family of any such disqualified person, as 
described in section 4958(f)(4) or Sec. 53.4958-3T(b)(1);
    (B) Is not in an employment relationship subject to the direction 
or control of any disqualified person participating in or economically 
benefitting from the compensation arrangement or property transfer;
    (C) Does not receive compensation or other payments subject to 
approval by any disqualified person participating in or economically 
benefitting from the compensation arrangement or property transfer;
    (D) Has no material financial interest affected by the compensation 
arrangement or property transfer; and
    (E) Does not approve a transaction providing economic benefits to 
any disqualified person participating in the compensation arrangement 
or property transfer, who in turn has approved or will approve a 
transaction providing economic benefits to the member.
    (2) Appropriate data as to comparability--(i) In general. An 
authorized body has appropriate data as to comparability if, given the 
knowledge and expertise of its members, it has information sufficient 
to determine whether, under the standards set forth in Sec. 53.4958-
4T(b), the compensation arrangement in its entirety is reasonable or 
the property transfer is at fair market value. In the case of 
compensation, relevant information includes, but is not limited to, 
compensation levels paid by similarly situated organizations, both 
taxable and tax-exempt, for functionally comparable positions; the 
availability of similar services in the geographic area of the 
applicable tax-exempt organization; current compensation surveys 
compiled by independent firms; and actual written offers from similar 
institutions competing for the services of the disqualified person. In 
the case of property, relevant information includes, but is not limited 
to, current independent appraisals of the value of all property to be 
transferred; and offers received as part of an open and competitive 
bidding process.
    (ii) Special rule for compensation paid by small organizations. For 
organizations with annual gross receipts (including contributions) of 
less than $1 million reviewing compensation arrangements, the 
authorized body will be considered to have appropriate data as to 
comparability if it has data on compensation paid by three comparable 
organizations in the same or similar communities for similar services. 
No inference is intended with respect to whether circumstances falling 
outside this safe harbor will meet the requirement with respect to the 
collection of appropriate data.
    (iii) Application of special rule for small organizations. For 
purposes of determining whether the special rule for small 
organizations described in paragraph (c)(2)(ii) of this section 
applies, an organization may calculate its annual gross receipts based 
on an average of its gross receipts during the three prior taxable 
years. If any applicable tax-exempt organization is controlled by or 
controls another entity (as defined in Sec. 53.4958-4T(a)(2)(ii)(B)), 
the annual gross receipts of such organizations must be aggregated to 
determine applicability of the special rule stated in paragraph 
(c)(2)(ii) of this section.
    (iv) Examples. The following examples illustrate the rules for 
appropriate data as to comparability for purposes of invoking the 
rebuttable presumption of reasonableness described in this section. In 
all examples, compensation refers to the aggregate value of all 
benefits provided in exchange for services. The examples are as 
follows:

    Example 1. Z is a university that is an applicable tax-exempt 
organization for purposes of section 4958. Z is negotiating a new 
contract with Q, its president, because the old contract will expire 
at the end of the year. In setting Q's compensation for its 
president at $600x per annum, the executive committee of the Board 
of Trustees relies solely on a national survey of compensation for 
university presidents that indicates university presidents receive 
annual compensation in the range of $100x to $700x; this survey does 
not divide its data by any criteria, such as the number of students 
served by the institution, annual revenues, academic ranking, or 
geographic location. Although many members of the executive 
committee have significant business experience, none of the members 
has any particular expertise in higher education compensation 
matters. Given the failure of

[[Page 2169]]

the survey to provide information specific to universities 
comparable to Z, and because no other information was presented, the 
executive committee's decision with respect to Q's compensation was 
not based upon appropriate data as to comparability.
    Example 2. The facts are the same as Example 1, except that the 
national compensation survey divides the data regarding compensation 
for university presidents into categories based on various 
university-specific factors, including the size of the institution 
(in terms of the number of students it serves and the amount of its 
revenues) and geographic area. The survey data shows that university 
presidents at institutions comparable to and in the same geographic 
area as Z receive annual compensation in the range of $200x to 
$300x. The executive committee of the Board of Trustees of Z relies 
on the survey data and its evaluation of Q's many years of service 
as a tenured professor and high-ranking university official at Z in 
setting Q's compensation at $275x annually. The data relied upon by 
the executive committee constitutes appropriate data as to 
comparability.
    Example 3. X is a tax-exempt hospital that is an applicable tax-
exempt organization for purposes of section 4958. Before renewing 
the contracts of X's chief executive officer and chief financial 
officer, X's governing board commissioned a customized compensation 
survey from an independent firm that specializes in consulting on 
issues related to executive placement and compensation. The survey 
covered executives with comparable responsibilities at a significant 
number of taxable and tax-exempt hospitals. The survey data are 
sorted by a number of different variables, including the size of the 
hospitals and the nature of the services they provide, the level of 
experience and specific responsibilities of the executives, and the 
composition of the annual compensation packages. The board members 
were provided with the survey results, a detailed written analysis 
comparing the hospital's executives to those covered by the survey, 
and an opportunity to ask questions of a member of the firm that 
prepared the survey. The survey, as prepared and presented to X's 
board, constitutes appropriate data as to comparability.
    Example 4. The facts are the same as Example 3, except that one 
year later, X is negotiating a new contract with its chief executive 
officer. The governing board of X has no information indicating that 
the relevant market conditions have changed or that the results of 
the prior year's survey are no longer valid. Therefore, X may 
continue to rely on the independent compensation survey prepared for 
the prior year in setting annual compensation under the new 
contract.
    Example 5. W is a local repertory theater and an applicable tax-
exempt organization for purposes of section 4958. W has had annual 
gross receipts ranging from $400,000 to $800,000 over its past three 
taxable years. In determining the next year's compensation for W's 
artistic director, the board of directors of W relies on data 
compiled from a telephone survey of three other unrelated repertory 
theaters of similar size in similar communities. A member of the 
board drafts a brief written summary of the annual compensation 
information obtained from this informal survey. The annual 
compensation information obtained in the telephone survey is 
appropriate data as to comparability.

    (3) Documentation--(i) For a decision to be documented adequately, 
the written or electronic records of the authorized body must note--
    (A) The terms of the transaction that was approved and the date it 
was approved;
    (B) The members of the authorized body who were present during 
debate on the transaction that was approved and those who voted on it;
    (C) The comparability data obtained and relied upon by the 
authorized body and how the data was obtained; and
    (D) Any actions taken with respect to consideration of the 
transaction by anyone who is otherwise a member of the authorized body 
but who had a conflict of interest with respect to the transaction.
    (ii) If the authorized body determines that reasonable compensation 
for a specific arrangement or fair market value in a specific property 
transfer is higher or lower than the range of comparability data 
obtained, the authorized body must record the basis for its 
determination. For a decision to be documented concurrently, records 
must be prepared before the later of the next meeting of the authorized 
body or 60 days after the final action or actions of the authorized 
body are taken. Records must be reviewed and approved by the authorized 
body as reasonable, accurate and complete within a reasonable time 
period thereafter.
    (d) No presumption with respect to non-fixed payments until amounts 
are determined--(1) In general. Except as provided in paragraph (d)(2) 
of this section, in the case of a payment that is not a fixed payment 
(within the meaning of Sec. 53.4958-4T(a)(3)(ii)), the rebuttable 
presumption of this section arises only after the exact amount of the 
payment is determined, or a fixed formula for calculating the payment 
is specified, and the three requirements for the presumption under 
paragraph (a) of this section subsequently are satisfied. See 
Sec. 53.4958-4T(b)(2)(i).
    (2) Special rule for certain non-fixed payments subject to a cap. 
If the authorized body approves an employment contract with a 
disqualified person that includes a non-fixed payment (such as a 
discretionary bonus) subject to a specified cap, the authorized body 
may establish a rebuttable presumption with respect to the non-fixed 
payment at the time the employment contract is entered into if--
    (i) Prior to approving the contract, the authorized body obtains 
appropriate comparability data indicating that a fixed payment of up to 
a certain amount to the particular disqualified person would represent 
reasonable compensation;
    (ii) The maximum amount payable under the contract (taking into 
account both fixed and non-fixed payments) does not exceed the amount 
referred to in paragraph (d)(2)(i) of this section; and
    (iii) The other requirements for the rebuttable presumption of 
reasonableness under paragraph (a) of this section are satisfied.
    (e) No inference from absence of presumption. The fact that a 
transaction between an applicable tax-exempt organization and a 
disqualified person is not subject to the presumption described in this 
section neither creates any inference that the transaction is an excess 
benefit transaction, nor exempts or relieves any person from compliance 
with any federal or state law imposing any obligation, duty, 
responsibility, or other standard of conduct with respect to the 
operation or administration of any applicable tax-exempt organization.
    (f) Period of reliance on rebuttable presumption. Except as 
provided in paragraph (d) of this section with respect to non-fixed 
payments, the rebuttable presumption applies to all payments made or 
transactions completed in accordance with a contract, provided that the 
provisions of paragraph (a) of this section were met at the time the 
parties entered into the contract.


Sec. 53.4958-7T  Correction (temporary).

    (a) In general. An excess benefit transaction is corrected by 
undoing the excess benefit to the extent possible, and taking any 
additional measures necessary to place the applicable tax-exempt 
organization involved in the excess benefit transaction in a financial 
position not worse than that in which it would be if the disqualified 
person were dealing under the highest fiduciary standards. Paragraph 
(b) of this section describes the acceptable forms of correction. 
Paragraph (c) of this section defines the correction amount. Paragraph 
(d) of this section describes correction where a contract has been 
partially performed. Paragraph (e) of this section describes correction 
where the applicable tax-exempt organization involved in the 
transaction has ceased to exist or is no longer tax-exempt. Paragraph 
(f) of this section provides examples illustrating correction.

[[Page 2170]]

    (b) Form of correction--(1) Cash or cash equivalents. Except as 
provided in paragraphs (b)(3) and (4) of this section, a disqualified 
person corrects an excess benefit only by making a payment in cash or 
cash equivalents, excluding payment by a promissory note, to the 
applicable tax-exempt organization equal to the correction amount, as 
defined in paragraph (c) of this section.
    (2) Anti-abuse rule. A disqualified person will not satisfy the 
requirements of paragraph (b)(1) of this section if the Commissioner 
determines that the disqualified person engaged in one or more 
transactions with the applicable tax-exempt organization to circumvent 
the requirements of this correction section, and as a result, the 
disqualified person effectively transferred property other than cash or 
cash equivalents.
    (3) Special rule relating to nonqualified deferred compensation. If 
an excess benefit transaction results, in whole or in part, from the 
vesting (as described in Sec. 53.4958-1T(e)(2)) of benefits provided 
under a nonqualified deferred compensation plan, then, to the extent 
that such benefits have not yet been distributed to the disqualified 
person, the disqualified person may correct the portion of the excess 
benefit resulting from such undistributed deferred compensation by 
relinquishing any right to receive such benefits (including any 
earnings thereon).
    (4) Return of specific property--(i) In general. A disqualified 
person may, with the agreement of the applicable tax-exempt 
organization, make a payment by returning specific property previously 
transferred in the excess benefit transaction. In this case, the 
disqualified person is treated as making a payment equal to the lesser 
of--
    (A) The fair market value of the property determined on the date 
the property is returned to the organization; or
    (B) The fair market value of the property on the date the excess 
benefit transaction occurred.
    (ii) Payment not equal to correction amount. If the payment 
described in paragraph (b)(4)(i) of this section is less than the 
correction amount (as described in paragraph (c) of this section), the 
disqualified person must make an additional cash payment to the 
organization equal to the difference. Conversely, if the payment 
described in paragraph (b)(4)(i) of this section exceeds the correction 
amount (as described in paragraph (c) of this section), the 
organization may make a cash payment to the disqualified person equal 
to the difference.
    (iii) Disqualified person may not participate in decision. Any 
disqualified person who received an excess benefit from the excess 
benefit transaction may not participate in the applicable tax-exempt 
organization's decision whether to accept the return of specific 
property under paragraph (b)(4)(i) of this section.
    (c) Correction amount. The correction amount with respect to an 
excess benefit transaction equals the sum of the excess benefit (as 
defined in Sec. 53.4958-1T(b)) and interest on the excess benefit. The 
amount of the interest charge for purposes of this section is 
determined by multiplying the excess benefit by an interest rate, 
compounded annually, for the period from the date the excess benefit 
transaction occurred (as defined in Sec. 53.4958-1T(e)) to the date of 
correction. The interest rate used for this purpose must be a rate that 
equals or exceeds the applicable Federal rate (AFR), compounded 
annually, for the month in which the transaction occurred. The period 
from the date the excess benefit transaction occurred to the date of 
correction is used to determine whether the appropriate AFR is the 
Federal short-term rate, the Federal mid-term rate, or the Federal 
long-term rate. See section 1274(d)(1)(A).
    (d) Correction where contract has been partially performed. If the 
excess benefit transaction arises under a contract that has been 
partially performed, termination of the contractual relationship 
between the organization and the disqualified person is not required in 
order to correct. However, the parties may need to modify the terms of 
any ongoing contract to avoid future excess benefit transactions.
    (e) Correction in the case of an applicable tax-exempt organization 
that has ceased to exist, or is no longer tax-exempt--(1) In general. A 
disqualified person must correct an excess benefit transaction in 
accordance with this paragraph where the applicable tax-exempt 
organization that engaged in the transaction no longer exists or is no 
longer described in section 501(c)(3) or (4) and exempt from tax under 
section 501(a).
    (2) Section 501(c)(3) organizations. In the case of an excess 
benefit transaction with a section 501(c)(3) applicable tax-exempt 
organization, the disqualified person must pay the correction amount, 
as defined in paragraph (c) of this section, to another organization 
described in section 501(c)(3) and exempt from tax under section 501(a) 
in accordance with the dissolution clause contained in the constitutive 
documents of the applicable tax-exempt organization involved in the 
excess benefit transaction, provided that the other organization is not 
related to the disqualified person.
    (3) Section 501(c)(4) organizations. In the case of an excess 
benefit transaction with a section 501(c)(4) applicable tax-exempt 
organization, the disqualified person must pay the correction amount, 
as defined in paragraph (c) of this section, to a successor section 
501(c)(4) organization or, if no tax-exempt successor, to any section 
501(c)(3) or other section 501(c)(4) organization not related to the 
disqualified person.
    (f) Examples. The following examples illustrate the principles of 
this section describing the requirements of correction:

    Example 1. W is an applicable tax-exempt organization for 
purposes of section 4958. D is a disqualified person with respect to 
W. W employed D in 1999 and made payments totaling $12t to D as 
compensation throughout the taxable year. The fair market value of 
D's services in 1999 was $7t. Thus, D received excess compensation 
in the amount of $5t, the excess benefit for purposes of section 
4958. In accordance with Sec. 53.4958-1T(e)(1), the excess benefit 
transaction with respect to the series of compensatory payments 
during 1999 is deemed to occur on December 31, 1999, the last day of 
D's taxable year. In order to correct the excess benefit transaction 
on June 30, 2002, D must pay W, in cash or cash equivalents, 
excluding payment with a promissory note, $5t (the excess benefit) 
plus interest on $5t for the period from the date the excess benefit 
transaction occurred to the date of correction (i.e., December 31, 
1999, to June 30, 2002). Because this period is not more than three 
years, the interest rate D must use to determine the interest on the 
excess benefit must equal or exceed the short-term AFR, compounded 
annually, for December, 1999 (5.74%, compounded annually).
    Example 2. X is an applicable tax-exempt organization for 
purposes of section 4958. B is a disqualified person with respect to 
X. On January 1, 2000, B paid X $6v for Property F. Property F had a 
fair market value of $10v on January 1, 2000. Thus, the sales 
transaction on that date provided an excess benefit to B in the 
amount of $4v. In order to correct the excess benefit on July 5, 
2005, B pays X, in cash or cash equivalents, excluding payment with 
a promissory note, $4v (the excess benefit) plus interest on $4v for 
the period from the date the excess benefit transaction occurred to 
the date of correction (i.e., January 1, 2000, to July 5, 2005). 
Because this period is over three but not over nine years, the 
interest rate B must use to determine the interest on the excess 
benefit must equal or exceed the mid-term AFR, compounded annually, 
for January, 2000 (6.21%, compounded annually).
    Example 3. The facts are the same as in Example 2, except that B 
offers to return Property F. X agrees to accept the return of 
Property F, a decision in which B does not participate. Property F 
has declined in value since the date of the excess benefit 
transaction. On July 5, 2005, the property has

[[Page 2171]]

a fair market value of $9v. For purposes of correction, B's return 
of Property F to X is treated as a payment of $9v, the fair market 
value of the property determined on the date the property is 
returned to the organization. If $9v is greater than the correction 
amount ($4v plus interest on $4v at a rate that equals or exceeds 
6.21%, compounded annually, for the period from January 1, 2000, to 
July 5, 2005), then X may make a cash payment to B equal to the 
difference.
    Example 4. The facts are the same as in Example 3, except that 
Property F has increased in value since January 1, 2000, the date 
the excess benefit transaction occurred, and on July 5, 2005, has a 
fair market value of $13v. For purposes of correction, B's return of 
Property F to X is treated as a payment of $10v, the fair market 
value of the property on the date the excess benefit transaction 
occurred. If $10v is greater than the correction amount ($4v plus 
interest on $4v at a rate that equals or exceeds 6.21%, compounded 
annually, for the period from January 1, 2000, to July 5, 2005), 
then X may make a cash payment to B equal to the difference.
    Example 5. The facts are the same as in Example 2. Assume that 
the correction amount B paid X in cash on July 5, 2005, was $5.58v. 
On July 4, 2005, X loaned $5.58v to B, in exchange for a promissory 
note signed by B in the amount of $5.58v, payable with interest at a 
future date. These facts indicate that B engaged in the loan 
transaction to circumvent the requirement of this section that 
(except as provided in paragraph (b)(3) or (4) of this section), the 
correction amount must be paid only in cash or cash equivalents. As 
a result, the Commissioner may determine that B effectively 
transferred property other than cash or cash equivalents, and 
therefore did not satisfy the correction requirements of this 
section.

Sec. 53.4958-8T  Special rules (temporary).

    (a) Substantive requirements for exemption still apply. Section 
4958 does not affect the substantive standards for tax exemption under 
section 501(c)(3) or (4), including the requirements that the 
organization be organized and operated exclusively for exempt purposes, 
and that no part of its net earnings inure to the benefit of any 
private shareholder or individual. Thus, regardless of whether a 
particular transaction is subject to excise taxes under section 4958, 
existing principles and rules may be implicated, such as the limitation 
on private benefit. For example, transactions that are not subject to 
section 4958 because of the initial contract exception described in 
Sec. 53.4958-4T(a)(3) may, under certain circumstances, jeopardize the 
organization's tax-exempt status.
    (b) Interaction between section 4958 and section 7611 rules for 
church tax inquiries and examinations. The procedures of section 7611 
will be used in initiating and conducting any inquiry or examination 
into whether an excess benefit transaction has occurred between a 
church and a disqualified person. For purposes of this rule, the 
reasonable belief required to initiate a church tax inquiry is 
satisfied if there is a reasonable belief that a section 4958 tax is 
due from a disqualified person with respect to a transaction involving 
a church. See Sec. 301.7611-1 Q&A 19 of this chapter.
    (c) Three year duration of these temporary regulations. Sections 
53.4958-1T through 53.4958-8T will cease to apply on January 9, 2004.


Sec. 53.4963-1  [Amended]

    Par. 3. In Sec. 53.4963-1, paragraphs (a), (b), and (c) are amended 
by adding the reference ``4958,'' immediately after the reference 
``4955,'' in each place it appears.

PART 301--PROCEDURE AND ADMINISTRATION

    Par. 4. The authority citation for part 301 continues to read in 
part as follows:

    Authority: 26 U.S.C. 7805 * * *


Sec. 301.6213-1  [Amended]

    Par. 5. In Sec. 301.6213-1, paragraph (e) is amended by adding the 
reference ``4958,'' immediately after the reference ``4955,'' in the 
first sentence.


Sec. 301.6501(e)-1  [Amended]

    Par. 6. Section 301.6501(e)-1 is amended as follows:
    1. Paragraph (c)(3)(ii), first and second sentences are amended by 
removing the language ``or trust'' and adding ``trust, or other 
organization'' in its place.
    2. Paragraph (c)(3)(ii), the first sentence is amended by removing 
the language ``and 4953'' and adding ``4953, and 4958'' in its place.


Sec. 301.6501(n)-1  [Amended]

    Par. 7. Section 301.6501(n)-1 is amended as follows:
    1. The paragraph heading for paragraph (a) is amended by removing 
the language ``or trust'' and adding ``trust, or other organization'' 
in its place.
    2. Paragraph (a)(1), the first sentence is amended by removing the 
language ``or trust'' and adding ``trust, or other organization'' in 
its place.
    3. Paragraph (b), the heading and the first sentence are amended by 
removing the language ``or trust'' and adding ``trust, or other 
organization'' in its place.


Sec. 301.7422-1  [Amended]

    Par. 8. In Sec. 301.7422-1, paragraph (a) introductory text, 
paragraph (c) introductory text and paragraph (d) are amended by adding 
the reference ``4958,'' immediately after the reference ``4955,''.


Sec. 301.7454-2  [Amended]

    Par. 9. In Sec. 301.7454-2, paragraph (a) is amended by adding the 
language ``or whether an organization manager (as defined in section 
4958(f)(2) has ``knowingly'' participated in an excess benefit 
transaction (as defined in section 4958(c),'' immediately after 
``4945''.


Sec. 301.7611-1  [Amended]

    Par. 10. In Sec. 301.7611-1, the Table of contents is amended by:
    1. Adding ``Application to Section 4958. . . . . . . 19'' 
immediately after ``Effective Date. . . . . . . 18''.
    2. Adding an undesignated centerheading and Q-19 and A-19 at the 
end of the section to read as follows:


Sec. 301.7611-1  Questions and answers relating to church tax inquiries 
and examinations.

* * * * *

Application to Section 4958

    Q-19: When do the church tax inquiry and examination procedures 
described in section 7611 apply to a determination of whether there was 
an excess benefit transaction described in section 4958?
    A-19: See Sec. 53.4958-7(b) of this chapter for rules governing the 
interaction between section 4958 excise taxes on excess benefit 
transactions and section 7611 church tax inquiry and examination 
procedures.

[[Page 2172]]

PART 602--OMB CONTROL NUMBERS UNDER THE PAPERWORK REDUCTION ACT

    Par. 11. The authority citation for part 602 continues to read as 
follows:

    Authority: 26 U.S.C. 7805.


    Par. 12. In Sec. 602.101, paragraph (b) is amended by adding an 
entry to the table in numerical order to read as follows:


Sec. 602.101  OMB control numbers.

* * * * *
    (b) * * *

------------------------------------------------------------------------
                                                            Current OMB
   CFR part or section where identified and described       control No.
------------------------------------------------------------------------
 
                  *        *        *        *        *
53.4958-6T..............................................       1545-1623
 
                  *        *        *        *        *
------------------------------------------------------------------------


Robert E. Wenzel,
Deputy Commissioner of Internal Revenue.
    Approved: December 19, 2000.
Jonathan Talisman,
Acting Assistant Secretary of the Treasury.
[FR Doc. 01-256 Filed 1-9-01; 8:45 am]
BILLING CODE 4830-01-P