Tax-Exempt Organizations: Collecting More Data on Donor-Advised
Funds and Supporting Organizations Could Help Address Compliance
Challenges (27-JUL-06, GAO-06-799).
Donor-advised funds and supporting organizations are two
charitable-giving options that have received attention from
Congress and the Internal Revenue Service (IRS) for their
potential to facilitate noncompliance with tax law. As requested,
GAO is providing information on donor-advised funds and
supporting organizations related to (1) federal laws and
regulations, compared to private foundations; (2) financial and
organizational characteristics; and (3) types of noncompliance
and promotion methods and challenges identifying them.
-------------------------Indexing Terms-------------------------
REPORTNUM: GAO-06-799
ACCNO: A57544
TITLE: Tax-Exempt Organizations: Collecting More Data on
Donor-Advised Funds and Supporting Organizations Could Help
Address Compliance Challenges
DATE: 07/27/2006
SUBJECT: Charitable organizations
Comparative analysis
Data collection
Foundations (organizations)
Funds management
Noncompliance
Program abuses
Tax exempt organizations
Tax exempt status
Tax law
Tax violations
Taxes
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GAO-06-799
Report to the Chairman, Committee on Ways and Means, House of
Representatives
United States Government Accountability Office
GAO
July 2006
TAX-EXEMPT ORGANIZATIONS
Collecting More Data on Donor-Advised Funds and Supporting Organizations
Could Help Address Compliance Challenges
GAO-06-799
Contents
Letter 1
Results in Brief 3
Background 5
Scope and Methodology 9
Federal Laws and Regulations Impose Fewer Requirements on Donor-Advised
Funds and Supporting Organizations and Their Donors, but Allow Donors Less
Control Compared to Private Foundations 11
Donor-Advised Funds, Supporting Organizations, and Private Foundations
Hold Billions of Dollars in Assets, but Some Organizational
Characteristics Cannot Be Reliably Determined from Form 990 Data 16
Private Benefit, Inurement, and Donor Control Have Been Found in Some
Cases Involving Donor-Advised Funds and Supporting Organizations, with
Promoters Sometimes Facilitating Schemes 25
Conclusion 35
Matters for Congressional Consideration 36
Recommendations for Executive Action 37
Agency Comments 37
Appendix I Tax-Exempt Excise Taxes 39
Appendix II Summary Data Tables for Section 501(c)(3) Tax- Exempt
Charities in 2005 Constant Dollars, Tax Years 1999-2003 44
Appendix III Noncash Contribution Valuation Methods 48
Appendix IV Methods and Materials Used to Market Donor- Advised Funds and
Supporting Organizations to Potential Donors 51
Appendix V Comments from the Internal Revenue Service 53
Appendix VI GAO Contact and Staff Acknowledgments 57
Glossary 58
Tables
Table 1: Simplified Comparison of Differences and Similarities in Federal
Tax Laws for Donor-Advised Funds, Supporting Organizations, and Private
Foundations 12
Table 2: Selected Financial Characteristics Reported by Supporting
Organizations and Private Foundations in 2005 Constant Dollars, Tax Years
1999 and 2003 19
Table 3: Medians and Related Data for Selected Financial Characteristics
Reported by Supporting Organizations and Private Foundations in 2005
Constant Dollars, Tax Years 1999 and 2003 20
Table 4: Number of Returns Filed, Tax Years 1999 through 2003 44
Table 5: Total Assets Reported by Section 501(c)(3) Organizations in
Constant 2005 Dollars, Tax Years 1999 through 2003 44
Table 6: Total Revenue Reported by Section 501(c)(3) Organizations in
Constant 2005 Dollars, Tax Years 1999 through 2003 45
Table 7: Total Expenses Reported by Section 501(c)(3) Organizations in
Constant 2005 Dollars, Tax Years 1999 through 2003 45
Table 8: Total Contributions Received Reported by Section 501(c)(3)
Organizations in Constant 2005 Dollars, Tax Years 1999 through 2003 46
Table 9: Total Noncash Contributions Received Reported by Section
501(c)(3) Organizations in Constant 2005 Dollars, Tax Years 1999 through
2003 46
Table 10: Total Grants Paid Reported by Section 501(c)(3) Organizations in
Constant 2005 Dollars, Tax Years 1999 through 2003 47
Table 11: Total Executive Compensation Reported by Section 501(c)(3)
Organizations in Constant 2005 Dollars, Tax Years 1999 through 2003 47
Figures
Figure 1: Simplified Example of How Donor-Advised Fund Accounts Operate 13
Figure 2: Simplified Example of Governance and Structure of Type I, II,
and III Supporting Organizations 14
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United States Government Accountability Office
Washington, DC 20548
July 27, 2006
The Honorable William M. Thomas Chairman Committee on Ways and Means House
of Representatives
Dear Mr. Chairman:
Each year, millions of donors give hundreds of billions of dollars to
charities.1 The Internal Revenue Service (IRS) estimated that for tax year
2002, charitable contributions totaled over $229 billion, the largest
portion coming from individuals and foundations.2 In addition to
traditional public charities and private foundations, donors may make
charitable contributions through the use of donor-advised funds and
supporting organizations. Donor-advised funds are generally separate funds
or accounts established and maintained by a public charity to receive
contributions from a single donor or a group of donors.3 While the donor
may recommend charitable distributions from the account, the charity must
be free to accept or reject the donor's recommendations. Supporting
organizations are public charities that are to carry out their tax-exempt
purpose by supporting one or more tax-exempt organizations, usually other
public charities. IRS has recognized that while the majority of tax-exempt
organizations are trying to comply with tax law, a significant compliance
challenge involves the use of donor-advised funds and supporting
organizations in abusive arrangements benefiting individuals or
organizations other than charities. Concerns about these abuses have led
to proposed legislation imposing requirements on the operation of
donor-advised funds and supporting organizations.
1Charities, recognized by Internal Revenue Code (IRC) section 501(c)(3),
are exempt from paying income taxes on the funds collected for charitable
purposes. Charitable purposes include serving the poor and distressed;
advancing religious, educational, and scientific endeavors; protecting
various human and civil rights; and addressing various societal problems.
Contributions to charities are tax deductible under IRC section 170. See
glossary for terms used throughout this report.
2The most recent IRS estimate available at the time of our review was for
tax year 2002. We have converted IRS's reported dollar amounts to 2005
constant dollars.
3The term donor-advised funds has been used to refer to both the
individual accounts donors establish, as well as the charities that
maintain these accounts. For this report, we will be using the terms
donor-advised funds or donor-advised fund accounts to refer to the
accounts that donors establish, unless otherwise noted.
As requested, we are providing information on (1) federal laws and
regulations regarding donor-advised funds and supporting organizations, as
compared to private foundations;4 (2) financial and organizational
characteristics, such as loan recipients, of donor-advised funds,
supporting organizations, and private foundations, to the extent data are
available; and (3) types of potential or actual noncompliance and
promotion methods involving donor-advised funds and supporting
organizations and the challenges identifying them. In addition, we agreed
to provide information about noncash contribution valuation methods and
marketing methods involving donor-advised funds and supporting
organizations, which are discussed in appendixes III and IV.
To compare current federal laws and regulations for donor-advised funds
and supporting organizations to those for private foundations, we reviewed
the Internal Revenue Code (IRC), Department of the Treasury regulations,
and IRS publications as they related to the purpose and operation of these
entities. To determine financial and organizational characteristics of
donor-advised funds, supporting organizations, and private foundations, we
analyzed IRS Forms 990 and 990-PF5 data, as well as reviewed survey data
that external organizations collected on donor-advised funds. Unless
otherwise noted, tax year 2003 was the most recent year of data available
at the time of our analysis. We converted 2003 dollar amounts to 2005
constant dollars. To identify types of noncompliance and promotion methods
involving donor-advised funds and supporting organizations, we reviewed
documents from IRS as well as from our literature search. For each
objective, we spoke to various IRS managers and individuals knowledgeable
about the tax-exempt community. We conducted our review from July 2005
through May 2006 in accordance with generally accepted government auditing
standards.
4Private foundations are defined by IRC as section 501(c)(3) domestic or
foreign tax-exempt organizations except those specifically excluded from
the definition by section 509(a), including universities, churches, and
hospitals, and similar organizations that meet a public support test or
that support one of these organizations.
5IRS Forms 990 and 990-PF are federal information returns filed annually
by tax-exempt public charities, such as supporting organizations, and
private foundations, respectively. Information reported on these returns
includes assets held, contributions received, and grants paid.
Results in Brief
Although donor-advised funds, supporting organizations, and private
foundations are all tax-exempt, charitable-giving vehicles, federal tax
laws and regulations treat them differently. In general, donors who
establish donor-advised funds and supporting organizations have less
control over the use of the charitable assets than those who establish
private foundations, but they generally incur less administrative burden,
receive less IRS oversight, have fewer limits in claiming charitable tax
deductions, and have fewer reporting requirements. Donor-advised funds,
unlike supporting organizations and private foundations, are
charitable-giving vehicles rather than entities and are not defined under
federal law. Supporting organizations fall in between a donor-advised fund
and a private foundation in terms of restrictions and sanctions versus
control over the use of the charitable assets. The level of control that
the supported charity has over the supporting organization varies,
depending on the type of relationship between the two entities. Unlike
donor-advised funds and supporting organizations, private foundations are
not public charities. They also face more types of taxes and requirements,
such as in annual reporting, making investments, and paying out funds.
Donor-advised funds hold billions of dollars in assets, and supporting
organizations and private foundations hold hundreds of billions of dollars
in assets. However, IRS data on donor-advised funds are limited because
although organizations that maintain donor-advised funds are to file a
Form 990 that includes financial data for all organizational activities,
including for donor-advised funds, data on these funds are not readily
identified from the form because these data are not separately reported.
Limited data on donor-advised funds are available from annual surveys by
The Chronicle of Philanthropy, even though these data are incomplete and
only represent those who voluntarily responded.6 For 2003, the 90 survey
respondents reported that their donor-advised fund accounts held over
$11.9 billion in assets and distributed over $2.2 billion to charities.
Data from Forms 990 and 990-PF for 2003 showed differences between
supporting organizations and private foundations. For example, in 2003,
supporting organizations held over $239.4 billion in assets and paid over
$10.7 billion in grants.7 Private foundations held over $449.5 billion in
assets in 2003 and paid over $31.0 billion in grants. Certain other
characteristics cannot be reliably determined from Form 990. For example,
supporting organizations are not required to compute and report a "payout"
rate equivalent to that for private foundations. Questions have arisen
about how much and how often supporting organizations pay out to charities
because, like private foundations, some supporting organizations can be
used to accumulate contributions before distributing the money to charity.
Further, other organizational characteristics, such as detailed
information on loan recipients and supported organizations' identification
numbers, are not readily identified from the Form 990. IRS revised the
Form 990 for 2003 to include whether the Form 990 filer maintains
donor-advised funds, and for 2005, the type of supporting organization in
terms of its relationship to its supported organization. IRS is
considering other Form 990 revisions for donor-advised funds and
supporting organizations, but plans for making revisions are preliminary.
6The Chronicle of Philanthropy is a newspaper that publishes articles
about the tax-exempt sector and is a source cited by IRS and others on the
tax-exempt sector. Its most recent survey of donor-advised funds collected
2005 data, but in order to compare the data to that for supporting
organizations, we used 2003 survey data that we adjusted to 2005 constant
dollars. Results from this survey cannot be interpreted as being
representative of all donor-advised funds.
Through examinations, IRS is finding evidence that some donors or related
parties are exerting excess control over or receiving undue benefits from
a donor-advised fund or supporting organization. For example, some donors
to donor-advised funds and supporting organizations participate in schemes
which allow them to regain their contribution, thus giving them a tax
deduction on assets that did not actually go to charity. These
examinations were not intended to be a statistically representative sample
and even when finished will not allow IRS to estimate the magnitude of
noncompliance involving donor-advised funds and supporting organizations.
Although the examinations have produced strong evidence of abusive schemes
involving excess control and undue benefits, IRS faces challenges when
identifying and examining noncompliance, namely the difficulty of
gathering evidence on the facts and circumstances of some cases. IRS is
also challenged by cases in which a donor-advised fund or supporting
organization is compliant because no law or regulation is violated, but
engage in activities that do not seem to benefit charity. For example,
under certain circumstances, a market rate loan made to a donor, officer,
or director from a supporting organization may not violate legal
requirements applicable to public charities even though it may appear to
be a conflict of interest and have no benefit to charity. Some abusive
schemes are instigated or facilitated by entities or individuals, such as
attorneys, accountants, and financial planners, who promote the schemes.
Because of the potentially criminal and obscure nature of their
activities, these entities and individuals are often difficult to identify
and investigate, which adds to the challenges in IRS's examinations.
7Beyond grants, supporting organizations can also provide support through
other means, such as providing direct services. At the time of our
analysis, the most recent data available were from 2003. For data that IRS
did not transcribe, such as amount of grants paid for supporting
organizations, we obtained the data from GuideStar. GuideStar is a
nonprofit organization that transcribes data from Form 990 into searchable
databases. IRS has not assessed in detail the quality of GuideStar's data,
but did include quality control provisions in its contract with GuideStar.
Given the concerns about how much and how often donor-advised funds and
supporting organizations are paying out their assets to charities, this
report suggests that Congress should consider directing IRS to revise the
Form 990 to collect sufficient information so that a consistent payout
rate can be calculated for both types of charitable-giving vehicles. This
information could help inform decisions about whether to adopt a minimum
payout requirement and if so, whether the required rate should be adjusted
over time. To help IRS make these revisions, Congress should direct IRS
about the types of support that should be included in the payout rate, as
it has for private foundations. In addition, given the lack of data from
the Form 990 to be used to determine certain characteristics of
donor-advised funds and supporting organizations and the concerns about
noncompliance involving these charitable-giving vehicles, we are making
recommendations to IRS on collecting better data on the Form 990. IRS
agreed with our two recommendations to require more comprehensive
reporting of donor-advised fund data and to require supporting
organizations to report their supported organizations' employer
identification numbers (EIN). However, IRS did not believe that it could
implement our third recommendation to require reporting of loan
recipients' taxpayer identification numbers (TIN) without legislative
authority to protect the TINs from public disclosure.8 In response, we
have revised our recommendation and, so that IRS can modify the Form 990
to require reporting of TINs of loan recipients from supporting
organizations, we are also suggesting that Congress consider providing IRS
authority to protect that information from public disclosure.
Background
IRC section 501(c) specifies 28 types of entities that are eligible for
tax-exempt status and over 1.6 million entities have been recognized as
exempt as of 2005. One subset of these tax-exempt entities is classified
as 501(c)(3) charitable organizations, of which slightly over 1 million
existed in 2005, according to IRS. In 1969, Congress directed that all
501(c)(3) organizations would be private foundations unless they qualify
for exclusion from that status under IRC section 509. This change
subdivided section 501(c)(3) organizations into two general
categories-"public charities" and "private foundations."
8A taxpayer identification number (TIN) is generally a Social Security
number for individuals or employer identification number for
organizations.
Within the public charities classification, Congress created supporting
organizations, which are defined in section 509(a)(3) as public charities
organized to support one or more public charities, including churches and
certain governmental units, and certain other tax-exempt entities, such as
membership-based organizations (e.g., unions and professional
organizations). Supporting organizations are classified as public
charities not because they are themselves publicly supported, but because
they are to support another public charity with which they are to maintain
a strong relationship. In creating supporting organizations, Congress
recognized that it can be beneficial and prudent to place certain assets
or activities in a separate legal entity to insulate assets from liability
or to facilitate separation of functions for programmatic, accounting, or
other reasons, according to the Panel on the Nonprofit Sector Final
Report.9
Donor-advised funds are generally separate accounts operated by tax-exempt
public charities to receive contributions from a single donor or group of
donors. Donors can advise on the distributions from the account. For the
contribution to qualify as a completed gift, the charity must have
ultimate control over how the assets in the account are invested and
distributed. According to our interviews with knowledgeable individuals
and recent Senate testimony, donor-advised funds have generally been in
existence since the 1930s and have traditionally been operated by
community foundations.10 In the 1990s, financial investment firms began
establishing "commercial funds," which are tax-exempt public charities
that operate donor-advised fund accounts. Investment of contributions to
the fund accounts is controlled by the commercial fund's board, which
hires the investment firm that established the commercial fund to manage
the fund's assets.
9The Panel on the Nonprofit Sector Final Report was published in June 2005
and contains recommendations for charitable reform. We discuss the Panel
Report further in the Background section of this report.
10Community foundations are charitable organizations established to hold
funds contributed from a variety of sources and to use those funds to make
charitable grants for the benefit of the local community. See also U.S.
Senate, Committee on Finance, statement of Jane G. Gravelle, Charities and
Charitable Giving: Proposals for Reform, 109th Cong., 1st session, April
5, 2005.
Generally, an entity must apply to IRS to obtain tax-exempt recognition.
Most organizations seeking recognition from federal income tax must use
specific forms, including Form 1023 (Application for Recognition of
Exemption under Section 501(c)(3) of the IRC) or Form 1024 (Application
for Recognition of Exemption under Section 501(a)) as well as other
documentation.11 After receiving tax-exempt recognition, public charitable
entities must annually file a Form 990 information return to report their
financial transactions and activities for a tax year. Charities that have
less than $100,000 in gross receipts and $250,000 in year-end assets may
use Form 990-EZ. Entities with gross receipts below $25,000, and certain
types of entities, such as churches and certain entities associated with
churches, generally are not required to file. Form 990 collects
information on revenues, expenses, and assets, and has accompanying
schedules. Schedule A of Form 990 covers several areas such as
compensation, lobbying expenditures, and revenue sources. Schedule B
covers the source of contributions to charities and certain other exempt
entities.12 Congress has granted public access to Form 990 data in
recognition of the importance of public oversight to inform donors about
how their money is spent and to stem potential abuses. Private
foundations, regardless of their amounts of gross receipts or assets, are
required file a Form 990-PF information return annually.
IRS oversight of tax-exempt entities generally relies on two activities.
First, IRS reviews applications for tax-exempt status to determine whether
a tax-exempt purpose is envisioned. IRS approves those applications that
are properly completed and for which the applicant can demonstrate to the
satisfaction of IRS that its activities or proposed activities meet the
requirements of the section under which exemption is claimed. Second, IRS
annually examines selected Forms 990 to determine whether the exempt
entities meet various requirements (such as properly reporting unrelated
business income tax).13 In general, IRS attempts to select entities that
it believes are likely to have violated requirements. Based on examination
evidence, IRS can accept the Form 990 as filed or change the status of the
entity, impose excise taxes for certain types of violations, or revoke the
exempt status if the violations are serious enough.14 As appropriate, IRS
can also assess other types of taxes, such as employment taxes or
unrelated business income taxes.
11Entities that are not required to apply include those that are not
private foundations and that have gross receipts normally not more than
$5,000, as well as churches and certain entities associated with churches.
The other documentation to be submitted includes organizing and enabling
documents, such as the Articles of Incorporation, financial data and
budgets, and a full description of its exempt purposes and activities.
12In this report, when we refer to Form 990, we are also referring to Form
990-related schedules, such as Schedules A and B.
In 2004, the Senate Committee on Finance asked a panel of experts to make
recommendations to Congress to improve oversight, transparency, and
governance in the tax-exempt sector. To do so, the Independent Sector15
convened a Panel on the Nonprofit Sector in October 2004, which included
24 nonprofit and philanthropic leaders.16 The Panel issued a final report
in June 2005 with over 120 recommendations, several focusing on
donor-advised funds and supporting organizations. On the basis of this
report and other information, Congress has considered proposals to impose
more restrictions and requirements on donor-advised funds and supporting
organizations to better ensure that their contributions advance charitable
rather than private interests and that their donors do not exert control
or receive private benefits. Provisions in legislative proposals that
apply to donor-advised funds have included providing a formal definition
of a fund, setting minimum payout requirements, and placing restrictions
on dealings with those who may privately benefit from charitable
activities. Provisions related to supporting organizations have included
those that would apply certain private foundation rules and restrictions,
such as those on the annual payout requirement and excess business holding
rules.
13Tax-exempt organizations are required to file a Form 990-T federal tax
return and pay taxes on income of $1,000 or more earned from activities
unrelated to their exempt purposes.
14GAO, Tax-Exempt Organizations: Improvements Possible in Public, IRS, and
State Oversight of Charities, GAO-02-526 (Washington, D.C.: Apr. 30, 2002)
discusses IRS examinations of tax-exempt organizations and reasons for
tax-exempt status revocation.
15The Independent Sector is a national coalition of nonprofit
organizations, private foundations, and corporate-giving programs that is
to support the tax-exempt sector.
16The Panel is assisted by over 100 executives of nonprofit entities and
other experts on five work groups.
Scope and Methodology
To compare the federal laws and regulations on donor-advised funds and
supporting organizations with those for private foundations, we reviewed
the IRC, Treasury regulations, IRS publications, and various other
documents describing these laws and regulations. We also interviewed 18
IRS staff and 16 individuals knowledgeable about the tax-exempt community,
such as attorneys and governmental-affairs managers at tax-exempt
entities, to obtain their input about these laws and regulations and our
comparison of them.
To determine financial and organizational characteristics of donor-advised
funds, supporting organizations, and other tax-exempt charitable
organizations, we obtained and analyzed IRS Form 990 and Form 990-PF data,
as well as reviewed survey data on donor-advised funds that were collected
by The Chronicle of Philanthropy. We used the surveys to obtain data on
donor-advised funds because this information was not identifiable on the
Form 990. To determine the reliability of the donor-advised fund data, we
interviewed The Chronicle of Philanthropy staff about their survey
methodology. To obtain supporting organization and other tax-exempt
charitable organization data fields, we obtained data from IRS's Returns
Inventory and Classification System (RICS) for tax years 1999 through
2003, the 5 most recent years of data available at the time of our
analysis. Because not all the data fields we wanted were available from
RICS, we obtained additional Form 990 data fields from GuideStar, an
organization that electronically captures Form 990 data for public access.
To assess the reliability of the RICS and GuideStar data, we interviewed
agency officials and conducted electronic data testing. In addition, we
reviewed a selection of Forms 990 submitted to IRS to confirm that the
values on the form matched those in the database. While we identified some
minor discrepancies, we determined that the Form 990 data were
sufficiently reliable for our purposes. The data files we obtained
included the population of tax-exempt charities filing returns for those
years, including supporting organizations and private foundations. Using
computer software to analyze these data files, we determined summary
statistics and converted dollar amounts to 2005 constant dollars. For our
discussion on "payout" rate, compensation, and Form 990 revisions, we
performed literature searches and interviewed 20 knowledgeable individuals
from IRS's Statistics of Income (SOI) program and Tax-Exempt & Government
Entities (TE/GE) division, Urban Institute, and Congressional Research
Service (CRS).17
To describe the types of noncompliance and promotion methods involving
donor-advised funds and supporting organizations, we reviewed IRS
summaries of examination cases. To obtain anecdotal information about
noncompliance involving donor-advised funds and supporting organizations,
we also interviewed 4 managers at IRS who oversee examinations of
donor-advised funds and supporting organizations and 7 individuals
knowledgeable about the tax-exempt community who work at organizations
such as the Council on Foundations and the Independent Sector. We also
interviewed 6 financial professionals and 11 community foundation managers
on how donor-advised funds and supporting organizations are promoted to
clients for abusive transactions. We also reviewed an IRS research report
on developing abusive promoter leads through searching the Internet.
To provide additional information on noncash contribution valuation
methods (see app. III), we reviewed IRS publications and forms and
interviewed an IRS field specialist working on valuation issues in the
Large and Mid-Sized Business operating division. To obtain information on
the marketing of donor-advised funds and supporting organizations (see
app. IV), we spoke with 11 community foundation managers, 6 financial
professionals, and 18 managers at IRS. The examples we discuss come from
materials that we were referred to or located online based on our
interviews, and do not necessarily represent all materials and methods
used to market donor-advised funds and supporting organizations.
17IRS's SOI program collects and processes tax data and annually publishes
statistics related to the tax system. IRS's TE/GE division covers the
areas of employee plans, exempt organizations, and government entities.
The Urban Institute is a nonpartisan public policy research center that
operates the National Center for Charitable Statistics. CRS is the public
policy research arm of Congress.
Federal Laws and Regulations Impose Fewer Requirements on Donor-Advised Funds
and Supporting Organizations and Their Donors, but Allow Donors Less Control
Compared to Private Foundations
In recent years, donor-advised funds have become popular charitable-giving
vehicles, and the number of supporting organizations has also continued to
increase. At the same time, federal tax law generally imposes fewer
restrictions and requirements on donor-advised funds and supporting
organizations, but provides them and their donors less control over the
use and investment of the charitable assets compared to private
foundations; in fact, section 501(c)(3) and federal regulations do not
specifically mention donor-advised funds.
As a general principle, the more control that a donor has over the use of
the charitable contributions and assets, the more regulations and
restrictions apply. Table 1 discusses how federal tax law views
donor-advised funds and supporting organizations compared to private
foundations across a number of variables.
Table 1: Simplified Comparison of Differences and Similarities in Federal
Tax Laws for Donor-Advised Funds, Supporting Organizations, and Private
Foundations
Supporting Private
Donor-advised funds organizations foundations
Tax code Although not Public charities Charities that do
treatment statutorily defined, that carry out not qualify as
part of a public their charitable public charities.
charity that operates purpose by
funds as separately supporting other
identified accounts. public charities.
Filing Fund administrators Must apply for Must apply for
requirement must apply for exempt status as a exempt status as a
tax-exempt status and supporting private
annually file Form 990 organization. Must foundation. Must
if annual gross annually file Form annually file Form
receipts are over 990 if annual 990-PF as well as
$25,000, indicating if gross receipts are schedules on the
they have separate over $25,000. use, distribution,
accounts (on which and investment of
separate Forms 990 are funds.
not required).
Donor control Donors cannot have Donors can be Donors and
control but may advise involved with foundation's board
on use of funds. boards but should have absolute
not directly or control, such as
indirectly control hiring staff and
the boards. choosing charities
to support.
Donor tax Follows rules for Donors may deduct Donors may deduct
deductions public charities. See up to 50 percent up to 30 percent
"Supporting of adjusted gross of adjusted gross
organizations." income for cash income for
donations and up donations of cash
to 30 percent of and up to 20
adjusted gross percent of
income for adjusted gross
donations of income on capital
capital gain gain property at
property at fair cost basis.
market value.
Excise Follows rules for Subject to two Subject to six
taxation public charities. See excise taxes. excise taxes.
"Supporting
organizations."
Payout rules None. None. Must meet annual
minimum payout
requirement.
Association Follows rules for May make grants to Must follow more
with foreign public charities. See foreign detailed rules
entities "Supporting organizations, but than for public
organizations." must ensure that charities,
funds are used for including
charitable expenditure
purposes. responsibility
process.
Source: GAO analysis of Internal Revenue Code, Treasury Regulations, and
IRS Forms and Publications.
Among the three types of charitable-giving vehicles, donor-advised funds
allow donors to create a long-term vehicle for supporting charities with
relatively less administrative burden because the fund is managed by a
third party. Furthermore, donor-advised funds are not required to file
separate tax returns, file for tax-exempt status, or adhere to private
foundation rules. The donor can make a gift and take an income tax
deduction for that tax year, and at that time or later, advise which
charities should receive the distribution. However, in doing so, the donor
gives up control over the distribution of the gift to charities.
Figure 1: Simplified Example of How Donor-Advised Fund Accounts Operate
Supporting organizations are public charities that are to support one or
more public charities or certain other tax-exempt organizations. They fall
in between a donor-advised fund and a private foundation in terms of
restrictions and sanctions versus donor control over the use of the
charitable assets. For example, donors who create a supporting
organization avoid private foundation excise taxes and other rules and
face fewer restrictions on the deductibility of their donations at the
expense of having less control compared to donors at a private foundation,
such as involvement on the board. The level of control that the supported
charity has over the supporting organization varies by the three basic
types of supporting organizations. Type I supporting organizations are
"operated, supervised, or controlled by" the supported charitable
organization. Type II supporting organizations are "supervised or
controlled in connection with" the supported organization. In contrast,
Type III supporting organizations only are "operated in connection with"
the supported organization (see fig. 2).
Figure 2: Simplified Example of Governance and Structure of Type I, II,
and III Supporting Organizations
In reforming the rules for charitable organizations in 1969, Congress made
changes to restrict and regulate private foundations more than public
charities. Private foundations are generally funded and controlled by a
single or small number of donors and therefore may be prone to potential
abuses, particularly by disqualified persons.18 As a result, private
foundations are subject to anti-abuse rules and related sanctions that are
not applicable to donor-advised funds, supporting organizations, and
public charities as a whole. For example, public charities, including
donor-advised fund operators and supporting organizations, are subject to
restrictions and two related excise taxes for activities involving
political expenditures (section 4955) and excess benefit transactions19
(section 4958). In contrast, private foundations are subject to six excise
taxes20 for activities involving
o investment income21 (section 4940);
o self-dealing22 (section 4941);
o failure to distribute income (section 4942);
o excess business holdings (section 4943);
o investments that jeopardize the charitable purpose (section
4944); and
o certain "taxable expenditures" (section 4945).
Although public charities, such as donor-advised fund operators and
supporting organizations, and private foundations are subject to different
restrictions on transactions with disqualified persons, both excess
benefit and self-dealing restrictions are intended to prevent inurement or
undue private benefit, which are prohibited for all section 501(c)3
organizations. Inurement is the transfer or use of the charity's assets or
income to or for the benefit of a charity's insiders. All transactions
that more than incidentally benefit insiders, other than reasonable
compensation and arm's length transactions, are prohibited inurement
transactions. Private benefit is a broader concept, and may involve a
transfer or use of a charity's assets or income by private persons who are
not necessarily insiders. Some private benefit may be allowed, but if
present, must be no more than incidental to the exempt purpose being
served.
18A disqualified person is an individual, defined in IRC section 4946, who
may have a significant conflict of interest with a charity due to
financial, executive, or voting powers, such as those held by donors,
officers, or directors. The definition applies to individuals involved
with private foundations and supporting organizations, and has limited
application to public charities other than supporting organizations. See
section 4958.
19An excess benefit transaction is a transaction in which an economic
benefit is provided by an applicable tax-exempt organization, directly or
indirectly, to or for the use of a disqualified person, and the value of
the economic benefit provided by the organization exceeds the value of the
consideration received by the organization.
20See appendix I for a more detailed description of tax-exempt excise
taxes.
21This excise tax is not related to any perceived abusive activity.
22Self-dealing includes the following transactions, whether direct or
indirect, between a private foundation and a disqualified person: (1)
sale, exchange, or lease of property; (2) lending money or other
extensions of credit; (3) providing goods, services, or facilities; (4)
paying compensation or reimbursing expenses to a disqualified person; (5)
transferring foundation income or assets to, or for the use or benefit of,
a disqualified person; and (6) certain agreements to make payments of
money or property to government officials.
Unlike with donor-advised funds and supporting organizations, a private
foundation is required under section 4942 to distribute annually a minimum
amount of its funds, equal to approximately 5 percent of the fair market
value of the foundation's noncharitable use of assets (generally, stocks
and other investments that compose the foundation's endowment). In 1984,
Congress passed legislation that clarified what expenses can be included
towards meeting this minimum "payout" requirement.23 If this "payout" rate
is unmet, the foundation is subject to paying taxes on the undistributed
amount.
Donor-Advised Funds, Supporting Organizations, and Private Foundations Hold
Billions of Dollars in Assets, but Some Organizational Characteristics Cannot Be
Reliably Determined from Form 990 Data
Donor-advised funds hold billions of dollars in assets, and supporting
organizations and private foundations hold hundreds of billions of dollars
in assets. Financial data on donor-advised funds are not separately
identified and reported on the Form 990. Although some data on
donor-advised funds have been collected through an annual survey, these
data are incomplete and not statistically representative of the fund
population. Using 2003 data from Forms 990 and 990-PF, we found
differences between supporting organizations and private foundations. For
instance, in 2003, private foundations tended to report more total assets
and contributions received but fewer revenues and expenses compared to
supporting organizations. However, certain other characteristics of
supporting organizations cannot be reliably determined from the Form 990
because this information is either not required to be reported or may be
misreported for various reasons, according to IRS. Specifically,
supporting organizations are not required to report a payout rate or to
pay out a minimum amount of funds to charities, as private foundations
must do. IRS has recently revised the Form 990 to better identify
supporting organizations and donor-advised funds and is considering
additional revisions, but plans to further revise the Form 990 are still
preliminary.
23Pub. L. No. 98-369 (1984).
Limited Data Are Available for Donor-Advised Funds
Data on donor-advised funds are limited because, unlike supporting
organizations and private foundations, the funds usually are not entities
that file a Form 990 to report their activities. Organizations that
maintain donor-advised funds are to file a Form 990 that includes the
assets and other aggregate information for all activities, including for
donor-advised funds, but data on these funds are not readily identified
from the form because these data are not separately reported.
To provide more information about donor-advised funds, The Chronicle of
Philanthropy has been conducting an annual survey of organizations that
maintain donor-advised funds. Started in 2000, the survey focuses on the
largest donor-advised funds and collects data such as the total assets
held and the amount of grants awarded. For 2003, The Chronicle of
Philanthropy reported that the 90 organizations participating in its
survey held over $11.9 billion in assets and distributed over $2.2 billion
to charities from their donor-advised fund accounts.24
However, these survey results, which are one of the few data sources
available for donor-advised funds, do not represent the entire population
of donor-advised funds and also have other data limitations.25 The survey
does not try to capture information for all donor-advised funds, as the
population of donor-advised funds to be surveyed is unknown, and focuses
on the largest funds, such as the 50 largest community foundations, by
amount of money raised. Also, while some efforts are made to generate a
high response rate and to check unusual responses, the survey response
rate has ranged between 53 percent to 57 percent. Further, survey
respondents vary from year to year, and the data are self-reported and
cannot be checked for accuracy. Finally, the survey does not collect data
for individual donor-advised fund accounts.
24The Chronicle of Philanthropy's most recent survey on donor-advised
funds was published in May 2006 and collected 2005 data. It reported that
88 organizations participating in the survey held $15.5 billion in assets
and distributed $3.3 billion to charities. We report 2003 survey data that
we adjusted to 2005 constant dollars to be comparable to our other data.
25We did not assess the reliability of the survey results from this and
other studies on donor-advised funds. In addition to this survey, in 2001,
the Council on Foundations collaborated with the Columbus Foundation to
survey donor-advised funds offered by community foundations. The Council
on Foundations provides legal and other services to its members and the
general public. The Columbus Foundation is a community foundation serving
central Ohio. In 2003, the Council on Foundations also collaborated on a
study on donor-advised funds focusing on donor preferences. Both of these
studies can be found at
www.cof.org/files/Documents/Community_Foundations/CF_Columbus_DAF.pdf and
www.cof.org/files/Documents/Community_Foundations/External_Reports/
FSG2_Oct2003.pdf.
Data on Supporting Organizations Highlight Differences from Private Foundations
From our analysis of Forms 990 and 990-PF, we found that supporting
organizations filed nearly 21,400 Forms 990, and private foundations filed
over 80,300 Forms 990-PF for tax year 2003.26 Table 2 summarizes
differences in the amounts of assets, revenues, expenses, and
contributions received when comparing 1999 and 2003. Appendix II provides
additional related data, including data for the years 1999 through 2003.
26Data for tax year 2003 were the most recent complete IRS and GuideStar
data available at the time of our analysis. In our past work (GAO-02-526),
we have reported that caution in interpreting the data is warranted. No
measures are available on the accuracy of the expense data and substantial
discretion in allocating the expenses makes use of the data problematic in
comparing charities.
Table 2: Selected Financial Characteristics Reported by Supporting
Organizations and Private Foundations in 2005 Constant Dollars, Tax Years
1999 and 2003
(Dollars in billions)
Supporting Private
organizations foundations
Tax Percentage Percentage
year Total change Total change
Number of returns 1999 20,217 N/A 69,812 N/A
filed 2003 21,372 6% 80,365 15%
Total assetsa 1999 $211.1 N/A $428.4 N/A
2003 239.4 13% 449.5 5%
Total revenueb 1999 63.0 N/A 84.6 N/A
2003 65.0 3% 53.6 -37%
Total expensesc 1999 50.0 N/A 40.6 N/A
2003 55.6 11% 41.1 1%
Total grants paid 1999 8.5 N/A 32.4 N/A
2003 10.7 27% 31.0 -4%
Total contributions 1999 14.2 N/A 31.3 N/A
receivedd 2003 $15.5 9% $27.7 -12%
Source: GAO analysis of data from IRS's Returns Inventory and
Classification System and from GuideStar, 1999 and 2003.
aTotal assets include cash and investments in securities, land, buildings,
and equipment.
bTotal revenue includes contributions received and dividends and interest
earned from the investment of securities.
cTotal expenses include grants paid, executive compensation, salaries and
wages, and other administrative expenses, which can be both
program-related and nonprogram-related.
dTotal contributions received include direct contributions from
individuals, indirect contributions through federated fundraising
campaigns or affiliate organizations, and government grants.
Table 2 shows that in 2003, the number of private foundations outnumbered
the number of supporting organizations by more than a factor of 3,
reported over $200 billion more in assets, and reported more contributions
received. However, supporting organizations reported more revenue but also
more expenses by 2003 compared to private foundations. Furthermore,
comparing 1999 to 2003, supporting organizations tended to report growth
in all of these areas while private foundations reported declines in
revenue and contributions received. We were unable to determine the
reasons for these changes, but the year-to-year variations during 2000,
2001, and 2002, in part due to a significant stock market decline during
this time, provided some insights (see app. II for summary tables with
annual data). Median values for the dollar amounts reported are shown in
table 3.
Table 3: Medians and Related Data for Selected Financial Characteristics
Reported by Supporting Organizations and Private Foundations in 2005
Constant Dollars, Tax Years 1999 and 2003
Tax Supporting Private
year organizations foundations
Percentage
returns Percentage
reporting returns
Percentage Percentage reporting
Mediana change zerob Mediana change zerob
Total assets 1999 $1,249,657 N/A 20% $392,542 N/A 5%
2003 1,221,457 -2% 18% 377,827 -4% 6%
Total revenue 1999 286,340 N/A 19% 66,180 N/A 5%
2003 196,376 -31% 17% 27,632 -58% 6%
Total 1999 164,172 N/A 21% 45,346 N/A 7%
expenses 2003 159,935 -3% 18% 41,019 -10% 6%
Total grants 1999 66,001 N/A 49% 41,538 N/A 19%
paid 2003 73,578 11% 46% 37,079 -11% 18%
Total 1999 141,474 N/A 55% 57,294 N/A 54%
contributions
received 2003 $133,474 -6% 53% $41,938 -27% 58%
Source: GAO analysis of data from IRS's Returns Inventory and
Classification System and from GuideStar, 1999 and 2003.
aMedians were calculated using returns reporting a nonzero value for the
characteristic being analyzed. A median is the number above and below
which 50 percent of organizations fall for the characteristic measured. We
present the median because it better represents the typical organization
than would the average, which could be affected by extreme dollar values
for each measure.
bAlthough medians were calculated using returns reporting a nonzero value,
we included, for context, returns that reported a zero value for these
characteristics.
For the four financial characteristics listed in table 3, median values
for supporting organizations were much higher compared to private
foundations in both 1999 and 2003, in contrast to the higher total values
for private foundations listed in table 2. Also, the declines in
supporting organization median values between 1999 and 2003 were much less
compared to private foundations. We excluded zero values from our median
analyses. IRS officials said that organizations might be reporting zero
values if filing a final return or for other reasons. However, we were
unable to conduct additional analysis on these zero values, particularly
for total contributions received in which over 50 percent of the values
reported by supporting organizations and private foundations were zero.
Some Financial and Organizational Characteristics of Supporting Organizations
Cannot Be Reliably Determined from 990 Data
Some financial characteristics of supporting organizations cannot be
reliably determined because they are not required to be reported on the
Form 990 or may be misreported. As a result, directly comparing supporting
organizations and private foundations or other tax-exempt charitable
organizations can pose challenges. Being able to make these comparisons is
important in order to address concerns, such as how much and how often
supporting organizations pay out to charities, since, like private
foundations, supporting organizations can be used to accumulate
contributions prior to distributing the money to charity, but, unlike
private foundations, they do not have a minimum payout requirement to
support charities that must be annually reported.27
Because supporting organizations do not have this payout requirement, they
do not explicitly report a payout rate, as is required for private
foundations. Certain lines on the Form 990-PF allow IRS, and the public,
to determine whether private foundations have met their required payout
rate. For supporting organizations, factors that are included in the
payout calculation for private foundations might not be readily determined
from the Form 990.28 Absent being able to identify these additional data
and clarifying how they are to be accounted for in a supporting
organization payout rate, consistently comparing supporting organizations'
and private foundations' payout rates cannot be done. Similarly, for
donor-advised funds, payout rate has not been statutorily required or
defined and consequently is also not required to be reported on the Form
990, and available data do not allow a payout rate to be determined.
Despite these difficulties, researchers have studied different ways to
compute a payout rate for supporting organizations. A 2005 Urban Institute
study found that supporting organization payout rates could vary due to
factors such as the purpose of the organization and which lines on the
Form 990 were included in determining how much support was provided.29 The
study pointed out that differences in supporting organization payout rates
may reflect differences in the purpose and operation of the supporting
organizations, rather than the amount of charitable support provided. For
example, some supporting organizations provide operational services to
their supported charities, rather than provide grants. Supporting
organizations can serve to pool or manage investments or endowments for
their supported organization, hold real estate, or provide services, such
as office or property management. Payout rates for these types of
supporting organizations might indeed be low or infrequent, since these
organizations do not hold and distribute charitable funds like other
supporting organizations or private foundations whose primary purpose is
grant-making.
27Type III supporting organizations can demonstrate that they are an
integral part of their supported organizations by paying substantially
all-85 percent or more-of their income to, or for the use of, one or more
of their supported organizations. The amount of support provided must also
be enough to ensure the attentiveness of these supported organizations.
28Factors include administrative expenses, program-related investments,
trustee fees, amounts set aside for future charitable projects, and
monthly average of fair market value of noncharitable use securities.
While the Form 990 includes a supporting organization's grants and net
assets, using only those lines to determine a payout rate may provide an
incomplete picture of the supporting organization's charitable activity.
In 2002, supporting organizations reported over $7 billion in grants as
transfers of charitable support. However, in the Urban Institute study,
researchers found that transfers of support from a supporting organization
to its supported organizations were reported on 1 or more of at least 10
lines on the Form 990.30 While the amounts reported on these lines might
include transfers of support, the Form 990 line data alone are generally
not enough to determine how much of the amount reported, if any, supports
charities. For example, they found that organizations they sampled
sometimes reported transfers of support to a supported organization on the
line for rental expenses. However, only by examining Form 990-related
documentation, which an Urban Institute researcher said required
considerable effort, could they determine this result. In 2003, supporting
organizations reported over $431 million on this Form 990 line, but
without significant effort, one cannot determine how much, if any, of this
amount consisted of transfers of support to supported organizations.
Another challenge in using Form 990 data to determine financial
characteristics arises when analyzing compensation paid to executives and
employees of tax-exempt organizations, such as supporting organizations.
In 1999 and 2003, supporting organizations reported over $894 million and
over $1 billion, respectively, in total executive compensation. Private
foundations reported almost $739 million in 1999 and about $812 million in
2003 in total executive compensation (see app. II for data tables).
Organizations are required to report compensation for certain employees on
the Form 990 and Schedule A. However, according to IRS managers,
misreporting is not uncommon, although some may be unintentional, in such
areas as deferred executive compensation, payments made to relatives, and
compensation paid from related entities, such as a for-profit subsidiary
of a tax-exempt organization paying the salary of an employee or board
member of its parent tax-exempt organization. In addition, an IRS
researcher had concerns that compensation could be overreported for
tax-exempt organizations within a network, such as a health care network
of hospitals. In such networks, which commonly include supporting
organizations, compensation for board members can be misreported on the
Forms 990 when related organizations have common board members.
29Thomas H. Pollak and Jonathan D. Durnford, The Scope and Activities of
501(c)(3) Supporting Organizations (Washington, D.C.: Urban Institute),
June 2005, http://www.urban.org/url.cfm?ID=411175 (downloaded Aug. 8,
2005).
30As described by the Urban Institute, transfers of support are the flow
of funds from the supporting organization to the supported organization,
including grants, payments, and loans.
IRS is currently working on an initiative to identify and stop abuses by
public charities and private foundations that pay excessive compensation
and benefits to their officers and other insiders. Beginning in late 2004,
IRS contacted a broad spectrum of over 1,800 public charities and private
foundations seeking information about their compensation practices and
procedures. IRS also just started a new phase of the initiative, involving
an additional 250 contacts about loans to officers, directors, and key
employees. The goals for the initiative are to
o learn how exempt organizations determine and manage
compensation;
o gauge the existence and effectiveness of exempt organizations'
controls over compensation issues;
o learn how exempt organizations report compensation on Forms 990
and 990-PF;
o address instances of questionable compensation practices, as
well as compensation of specific individuals; and
o increase exempt organizations' awareness of
compensation-related tax issues.
The initial results of the compensation initiative will be included in a
report that is expected to be completed in late August or September 2006.
All examinations are expected to be completed by or during 2007.
In addition to financial characteristics such as payout rate and executive
compensation, organizational characteristics about supporting
organizations are difficult to determine from the Form 990. For example,
Form 990 does not collect the EINs of their supported organizations, which
according to IRS officials, would facilitate IRS's ability to track the
flow of donations. In addition, an IRS manager said that having supported
organizations' EINs would facilitate IRS's ability to track how
compensation is treated between supporting organizations and supported
organizations. IRS emphasized that any form changes must be balanced
against the increased burden on taxpayers of supplying additional
information.
Other organizational characteristics for which IRS collects limited data
on Form 990 include relationships with foreign entities, noncash
contributions, loan recipients, and donor information. We were unable to
closely evaluate these characteristics because IRS had limited data and
information to provide and because of time constraints. Although the costs
and burdens of collecting additional data to determine these
organizational characteristics and protecting taxpayer privacy are
legitimate concerns, IRS has acknowledged the need for greater
transparency and better data to track the flow of funds between donors and
charities. For example, IRS does not have TINs of loan recipients to track
the flow of funds.
IRS Has Made and Is Considering Changes to the Form 990 Regarding Donor-Advised
Funds and Supporting Organizations
IRS has begun to take steps to help address the lack of information
reported on donor-advised funds and supporting organizations. For example,
IRS has revised the 2005 Form 990 Schedule A to include a check box to
indicate whether a supporting organization is Type I, II, or III.31 This
information will be transcribed into IRS's electronic databases beginning
in 2007, which, according to IRS, would allow it to better focus its
examination and educational resources on compliance issues particular to
each type. Also, starting with the 2003 Form 990 Schedule A, organizations
must indicate whether they maintain separate accounts for donors, such as
donor-advised funds. In January 2006, IRS began transcribing this
information, which is a first step towards identifying how many and which
charities have donor-advised funds. However, these organizations are not
required to separately report data on the donor-advised funds from the
other activity reported on the Form 990, meaning that data on the funds
are not easily identified. While IRS is considering revising the Form 990
to include more information about donor-advised funds, it does not have
details on what data they might collect or how or when they would revise
the form.
31Supporting organization type is now also being indicated on IRS's
determination letters.
IRS is considering additional changes to the Form 990 that, pending
management approval, would include reorganizing the form in stages. A
pending proposal includes recommendations to create new sections or
schedules on the Form 990 with questions on donor-advised funds and
supporting organizations. Because the Form 1023 asks questions regarding
donor-advised funds and supporting organizations, the proposal recommends
aligning the Form 990 with Form 1023 so that IRS can track a charity from
its formation. If the recommendation is approved, IRS's Form 990 Redesign
Team plans to rewrite the Form 990 instructions and add a glossary
consistent with the Form 1023 which, according to IRS, may provide better
data.
According to IRS staff and others we interviewed, these form revisions,
along with increased use of electronic filing, could improve the quality
of data available to IRS to better identify noncompliance through its
research and compliance efforts, as well as to the public to improve the
effectiveness of tax-exempt charitable organizations.
Private Benefit, Inurement, and Donor Control Have Been Found in Some Cases
Involving Donor-Advised Funds and Supporting Organizations, with Promoters
Sometimes Facilitating Schemes
IRS program managers report that some donor-advised funds and supporting
organizations cases highlight concerns about private benefit, inurement,
and donor control. Some of these cases demonstrate clear noncompliance,
allowing IRS to propose appropriate corrective actions. However, IRS is
confronted with many cases that require detailed assessments of evidence,
which makes addressing noncompliance challenging. Additionally, IRS
contends with activities involving donor-advised funds and supporting
organizations that do not violate laws or regulations, yet do not seem to
benefit charities. Entities or individuals, such as financial advisers or
attorneys, sometimes facilitate abusive schemes, introducing additional
complexities to IRS's examination process.
Private Benefit, Inurement, and Donor Control Are Prevailing Concerns in
Donor-Advised Fund and Supporting Organization Noncompliance Cases
Private benefit, inurement, and donor control are common concerns for IRS
in examinations of potential noncompliance involving donor-advised funds
and supporting organizations. IRS is unable to provide estimates about the
prevalence of this noncompliance, and noncompliance in general. Thus, the
examples presented are intended to illustrate known cases of private
benefit and donor control, and do not represent the entire range of
noncompliance.32
Private Benefit and Inurement Lead to Personal Gains
Private benefit occurs when a 501(c)(3) organization is not operated or
organized exclusively for exempt purposes because it serves a private
rather than public interest. Because they are subject to section
501(c)(3), both donor-advised funds and supporting organizations must
avoid private benefit that is more than incidental to the charitable
purpose being served; if private benefit is substantial enough, it may
jeopardize an organization's tax-exempt status. If the organization's
assets or income are transferred to an individual who is a charity
insider, the benefit is called "inurement."33 Private benefit and
inurement schemes involving donor-advised funds and supporting
organizations may benefit various individuals and may vary in complexity.
IRS has encountered multiple cases of private benefit where donors to
donor-advised funds are able to regain some or all of their contribution.
For example, IRS has concerns about one fund offering a "loan program,"
where donors were able to repossess their donation, with no obligation for
repayment. IRS also sees inurement cases, in which individuals other than
the donor receive private benefit. For example, IRS is examining one
exempt organization and donor-advised fund operated by a for-profit
company. The company offered the fund as a charitable giving vehicle for
its employees. The exempt organization lacked an independent board, with
the president-who also served as president of the for-profit
company-receiving potentially high commissions and fees from contracts
with the donor-advised fund.
32All examples in this section are from ongoing or past IRS
investigations, and were described by IRS officials.
33A charity insider is an individual such as an officer, board member, or
other persons able to exercise substantial influence over a tax-exempt
organization. Donors to donor-advised funds are rarely considered to be
insiders, while donors to supporting organizations can be insiders, for
example, if they also serve on the supported organization's board.
While donor-advised fund schemes often involve private benefit, schemes
involving supporting organizations more often result in inurement and are
typically more complex, according to IRS management. Schemes can involve
direct payment of benefits to donors or, more indirectly, payments routed
through offshore entities. One direct payment scheme, designed to benefit
a donor's children, funneled school tuition payments through a supporting
organization intended to support their child's school. More complex
schemes enable the donor to regain his or her donation after it is routed
offshore. One typical scheme begins with a donation to a supporting
organization, which is then transferred to an account in an offshore
investment firm controlled by a financial planner, accountant, or other
knowledgeable insider working with the donor. The money is then
transferred to a domestic mortgage lender, also controlled by the insider,
giving the donor access to the money for use toward an interest-only
mortgage. As a result, the donor benefits from a tax deduction on his or
her contribution, while still retaining access to the donation. To justify
the scheme, the supporting organization claims that earnings from their
investment in the offshore firm will benefit charity.
Donor Control May Involve Assets or Charity Operations
Donor control arises when a donor holds authority that exceeds what is
permissible for donor-advised funds or supporting organizations. Illegal
control can occur when a donor or disqualified person has control over the
charity's assets, operations, or governance, or the organizations
receiving support.34 It is possible for donor control to occur without
private benefit. A donor may control a function or operation of a
supporting organization or donor-advised fund without receiving benefits,
according to IRS management. Donor control involving donor-advised funds
and supporting organizations manifests in different ways.
Donor control of a donor-advised fund occurs when the donor oversteps his
or her advisory role and retains ultimate authority over the distribution
of fund assets. One IRS manager told us that, although more common in
supporting organization cases, a donor-advised fund donor may also achieve
control by controlling the exempt organization receiving the benefits of
their donation. For example, IRS is pursuing a case where a donor-advised
fund appears to be making distributions to a public charity, which is
controlled by the donor-advised fund's donor. If the donor-advised fund
did not exist, the public charity recipient would likely be classified as
a private foundation. IRS is investigating whether the charity has other
support sources.
34In order for a charitable contribution to be considered a donation
eligible for a tax deduction, the donor must relinquish control of the
asset. IRC section 170 defines charitable contributions and provides the
rules and limits for tax deductions for individuals and corporations.
For supporting organizations, control of the organization's board or the
donor's ability to designate charitable recipients can constitute donor
control.35 Board control can occur directly by controlling more than 50
percent of board voting power or veto power granted to disqualified
persons. Alternatively, board control can occur indirectly through a
disqualified person influencing board members who are not disqualified
persons, according to IRS managers. Retaining access to assets can also
signify direct or indirect control of a supporting organization. In one
case, IRS has questioned whether or not a donor controlled the operations
and investments of the supporting organization that the donor founded,
although the donor did not receive private benefit. Donor control can also
occur indirectly through control of an asset donated to the supporting
organization. For example, in one case, IRS is concerned that a donor is
continuing to collect and retain rent from building tenants after the
building was donated to a supporting organization.
Other Types of Noncompliance Exist
Although private benefit, inurement, and donor control are reoccurring
themes in IRS's caseload, other types of noncompliance involving
donor-advised funds and supporting organizations can occur. Specifically,
a supporting organization could fail to maintain a relationship with its
supported organization(s).36 A representative from the tax-exempt
community told us of situations where charities listed as supported
organizations were unaware of a purported relationship with a supporting
organization. The Panel on the Nonprofit Sector also recognized this
problem in its June 2005 report. Similarly, IRS managers told us that a
major issue in supporting organization examinations is whether or not the
organization maintains a sufficient relationship with its supported
organization. Form 990 only requires that supporting organizations report
the name of their supported organizations; it does not require them to
report the EIN of the supported organization. IRS managers told us that
not knowing the EIN makes it harder for IRS staff to track the
relationship between the two organizations.
35Definitions of "control" and the limits of power for disqualified
persons are found in Treas. Reg. S:1.509(a)-4(j)(1). Also see Rev. Rul.
80-207 for analysis of indirect influence on a board.
36Because of required structures and board oversight for Type I and II
supporting organizations, this problem is more likely for Type III
supporting organizations.
IRS Has Various Efforts to Identify and Correct Noncompliance, but Does Not
Know the Rate of Noncompliance
IRS uses resources from a variety of units to identify and examine
noncompliance involving donor-advised funds and supporting organizations.
Toward these ends, IRS created two teams, one on donor-advised funds and
one on supporting organizations.37 As of June 2006, the donor-advised fund
team had opened but had not yet closed 27 examinations, according to an
IRS manager.38 As of June 2006, the supporting organization team had
opened 102 examinations and closed 20 of them; 18 of which were found to
be noncompliant, according to IRS. IRS managers also told us that other
programs-including the Tax Examination Program and the Excessive
Compensation Program-have also examined and closed supporting organization
cases, and are currently examining 655 supporting organizations.39
Regardless of the type of noncompliance found, IRS can propose corrective
actions when the evidence shows that a law or regulation has been
unmistakably violated. IRS is developing criteria for proposing corrective
actions for donor-advised funds as the related team finishes its
examinations; many of the examinations are in the early stages. For
supporting organization cases, IRS officials said, in general, they will
propose a change to private foundation status for issues of donor control.
Intermediate sanctions or revocation of the tax-exempt status are
typically proposed for inurement cases, according to IRS.40 Criminal
charges may be brought upon individuals found to be exhibiting criminal
behavior while participating in abusive schemes, and may occur in
conjunction with corrective actions resulting from examinations. In cases
where the donor-advised fund or supporting organization is believed to be
beneficial overall but needs correction in order to be fully compliant,
IRS managers told us they may also initiate a closing agreement, which
provides a set of requirements intended to correct flaws in the
donor-advised fund or supporting organization structure or operations.
37Each team will report on noncompliance trends and possible regulatory or
legislative actions. The donor-advised fund team, which formed in 2002,
plans to issue a report by the end of 2006, according to an IRS manager.
The supporting organization team, which formed in 2003, told us it plans
to issue reports-the first of which would be released in August 2006 and
the last of which would be released at the end of fiscal year 2007-on each
of the three waves of cases they are investigating.
38The 27 examination cases involved 27 tax returns for 22 different
organizations.
39Between October 1, 2001, and September 30, 2005, these other IRS units
have closed 715 cases involving supporting organizations, 400 of which
were found to be noncompliant. For fiscal year 2006, 94 cases have been
closed so far; 64 of which were found to be noncompliant.
40"Intermediate sanctions" in this context generally refers to excise
taxes paid by a disqualified person receiving private benefit or a charity
manager with knowledge of a scheme, as defined in IRC section 4958. IRS
officials said that, in the most egregious cases, IRS may recommend
intermediate sanctions in conjunction with revocation of the supporting
organization's tax-exempt status.
For various reasons, IRS does not know the overall rate of noncompliance
or the prevalence of different forms of noncompliance involving
donor-advised funds and supporting organizations. First, IRS did not use a
random sample to identify cases for examination. Instead, it used methods
that led to examining the most egregious noncompliance schemes. For
example, the manager for the donor-advised fund team told us it selected
cases for examination based on large asset size or other unusual
characteristics, such as high compensation or high fees.41 Supporting
organizations cases were selected based on referrals from other IRS units,
according to the team's manager. Second, IRS has no established population
of donor-advised funds for which to estimate a noncompliance rate. An IRS
manager said IRS is unable to identify the population because exempt
organizations have not been required to report their use of donor-advised
funds, which prevents IRS from employing statistical sampling methodology
to estimate donor-advised fund noncompliance. Third, examinations by IRS's
teams are relatively new; examinations began in 2005 for donor-advised
funds and began in 2004 for supporting organizations, according to IRS
managers.42
IRS Faces Challenges in Addressing Noncompliance Involving Donor-Advised Funds
and Supporting Organizations
Not all cases involving donor-advised funds and supporting organizations
are clear; IRS faces challenges in identifying and examining potential
noncompliance. In part, these challenges are due to uncertainty about
whether the evidence unequivocally points to noncompliance, and to the
difficulty in exhaustively collecting evidence on the facts and
circumstances of a case.
41IRS identified donor-advised funds for potential examination using (1)
data from IRS's Rulings and Agreements office, which assesses
organizations' applications for tax-exempt status, and (2) outside
sources, including The Chronicle of Philanthropy.
42Although the donor-advised fund and supporting organizations teams began
in 2002 and 2003, respectively, examinations did not begin until later.
To evaluate facts and circumstances, IRS managers said that agents may
evaluate minutes of meetings, correspondence among trustees, contracts or
agreements on loans or rent, news articles, or the organization's trust
document. Although exempt organizations must maintain documentation that
they operate exclusively for exempt purposes, the existence and quality of
these documents may differ among organizations, according to IRS managers.
Therefore, IRS may need to collect evidence that is time- or
resource-intensive to uncover. Evidence that does not readily exist or
that is difficult to uncover, combined with the practical limits of the
examination process, make some noncompliance nearly impossible to detect,
as the following examples illustrate.
o In determining influence on or control of a board, regulations
define permissible relationships between disqualified persons and
supporting organization boards. Despite regulatory guidance, IRS
is unable to identify all noncompliant situations because it
cannot always identify influence on board members by disqualified
persons, especially when attempting to identify a disqualified
person's indirect influence. Nomination of a majority of board
members by a disqualified person may signify this influence, but
IRS cannot consistently track the origination of a board
nomination. Only in some cases are trust documents and meeting
minutes available that may document the nomination process,
according to IRS. Additionally, IRS may have difficulty
identifying a disqualified person's indirect influence on a board
when this influence may occur in private conversations.
o It may also be challenging to find evidence that ensures that
donor-advised funds are operating on "donor advice" rather than
"donor control." To establish that donors are not exercising undue
control, IRS may examine the process by which a donor makes a
funding recommendation, according to the manager of IRS's
donor-advised fund team. Specifically, IRS managers said this
examination could include verification of an independent board,
the process by which the fund operator investigates donor
recommendations or provides documents that show that a donor's
recommendations are not all accepted. However, similar to the
challenges of identifying board control, IRS may not be able to
detect subtle coercion occurring in payout decisions.
o Detecting control of assets may also be difficult. For example,
a donor may contribute a large portion of interest in a business
partnership to a supporting organization.43 The donor, serving as
the business's general partner, retains some ownership of the
partnership and has a management responsibility or controls voting
stock. According to an IRS manager, unless the supporting
organization has other assets, this situation would likely allow
the donor to have effective control over the assets of the
supporting organization. In some situations, the business may
claim that the general partner lacks controlling power, in which
case IRS managers said examiners must rely on available evidence,
such as partnership agreements, to determine the donor/partner's
control over the business. Once again, evidence of more subtle
control may not be available or practical for IRS to pursue.
Some Compliant Activities Involving Donor-Advised Funds and Supporting
Organizations Do Not Seem to Benefit Charity, Thus Introducing Areas for
Potential Future Scrutiny
Not all cases involving donor-advised funds and supporting organizations
are clear cases of private benefit, inurement, or donor control, or
involve the challenges of gathering evidence. IRS managers said they
encounter scenarios where no statute or regulation was violated, but where
activities involving donor-advised funds or supporting organizations do
not seem to benefit charity. In these situations, noncompliance cannot be
alleged, but IRS may still question an organization's or individual's
charitable purposes. A general lack of data as well as a lack of legal
definitions and regulations for donor-advised funds contribute to these
uncertainties for IRS, which have prompted both IRS and Congress to
consider different solutions for reform, as the following examples
illustrate.
o One IRS manager told us that IRS is uncertain about whether or
not donor-advised funds with low payout rates are supporting
charitable purposes. No laws or regulations require annual minimum
payouts to charities from donor-advised funds, but according to
IRS management, idle assets are unlikely to result in benefits.
Conversely, a donor-advised fund may be idle in paying out to
build an endowment. If a supporting organization has a low payout
rate, however, IRS said this can sometimes signify that it is not
fulfilling its requirement. Legislation has been introduced in
Congress to impose a minimum payout on donor-advised funds and
supporting organizations. As of early July 2006, legislation on
this issue had not passed.
o IRS managers told us that examiners have discovered loans made
from a supporting organization to a donor or insider. Loans made
by public charities to officers, directors, donors, and others are
legal, provided that they are repaid and not made at terms lower
than the market rate.44 According to IRS, charities could justify
these loans as an investment. However, these loans may carry risk
or introduce a conflict of interest. For example, if a borrower
has some form of control over the organization, such as that of a
board member or executive, it is less likely that the organization
will take legal action if the loan is not repaid. Also, loans may
prevent assets from being paid out to charitable purposes.
Furthermore, if a loan is made as part of an employee compensation
package, in some cases it may be classified as an excess benefit
under IRC section 4958, according to IRS management. Additionally,
these loans may signify control by disqualified persons. Even if a
loan's interest rate is reasonable, or the borrower is not an
employee or in control of the organization, the terms of the loan
may give a borrower other benefits, thus making a case that the
organization serves private rather than public purposes. In
recognition of such potential improprieties, 19 states have banned
such loans, according to The Chronicle of Philanthropy. As part of
a broader study of executive compensation at public charities, IRS
is examining loans made to insiders, but is not specifically
focusing on supporting organizations.
43A donor-advised fund can receive a donation of interest in a
partnership, but the legal analysis required to determine donor control
differs from that for a supporting organization.
Promoters May Aid in Abusive Schemes, and May Be Difficult to Identify and
Examine
In addition to examining donor-advised funds, supporting organizations,
and donors, IRS investigates the promoters-creators and facilitators of
abusive schemes. Some abusive schemes are organized or participated in by
professionals or entities who work in concert with the donor. Identifying
and examining the roles of these professionals or entities can be
difficult and therefore may exacerbate the challenges in examining
donor-advised fund and supporting organizations cases.
A promoter is an individual or entity that organizes or assists in the
organization of a partnership, trust, investment plan, or any other
arrangement to be sold to a third party and designed to be used or is
actually used in obtaining illegal tax benefits.45 Accountants, financial
planners, attorneys, community foundations, and tax preparers could serve
as promoters, and may not just be involved in schemes involving exempt
organizations. Cases involving promoters address both the material used to
promote noncompliance, which must adhere to tax law, as well as the actual
activities implementing a scheme.46 Because promoters may be committing
fraud, promoters could face criminal charges. See appendix IV for a
discussion of materials and methods for publicizing donor-advised funds
and supporting organizations which are not intended to lead to abusive
schemes.
44IRS encounters transactions between supporting organizations and donors
that are labeled as "loans" but do not result in repayment. These
transactions are likely cases of inurement and are a separate issue from
true loans, which result in repayment. As described in IRC section 4941,
loans made from a private foundation to a disqualified person are subject
to excise taxation.
45The definition of promoters is for purposes of IRC section 6700.
According to IRS managers, some schemes, particularly those benefiting
high-income donors, originate with a financial planner, accountant, or
lawyer. Other promoters may play a role in facilitating schemes, such as
the mortgage inurement scheme previously described in this report.
According to the manager of IRS's donor-advised fund team, promoters are
typically more involved in schemes involving supporting organizations than
donor-advised funds due to the complexity of supporting organizations'
schemes.
For some cases IRS is able to identify the promoter, noncompliant
material, and transactions that promote noncompliance.47 For example,
material from a financial planner offered a hypothetical estate plan
proposing that a supporting organization hold a wealthy donor's personal
assets, thus facilitating a reduction in estate taxes upon the donor's
death. The plan proposed transferring land owned by the donor to the
supporting organization, who would offer the sale of the land to the
donor's heirs at about 10 percent of its fair market value. Furthermore,
the plan proposed that the supporting organization also lease the estate
assets back to the donor's business. If the plan were carried out,
inurement, private benefit, excess benefit, and donor control would be
significant legal concerns.
However, according to IRS managers identifying and investigating promoters
is often challenging. IRS managers said they rely on referrals and
Internet searches to find promoters. Although some promoters advertise on
the Internet, they may sometimes only share details about the promotion in
conversations with a donor. IRS's donor-advised fund and supporting
organization teams have investigated nine promoters involved in
potentially abusive schemes, according to IRS managers. In addition to the
work of the issue teams, IRS's civil Lead Development Center is tasked
with identifying promoters and coordinating promoter investigations. IRS
managers told us that once IRS identifies potential promoters, examiners
must seek information that is typically carefully hidden among complex
transactions involving multiple entities. This requires that IRS carefully
craft document requests and summonses, which can be a lengthy process.
Furthermore, once IRS refines its examination process to target certain
schemes, promoters quickly alter their approaches.
46Promoters are subject to laws prohibiting the promotion of abusive tax
structures, covered in IRC sections 6700 and 6701.
47IRS is unable to determine the extent of the role of promoters in
noncompliance.
Finally, like some of the cases described earlier in this section, some
marketing material may not violate a law or regulation, but may have a
questionable purpose which may indicate potential noncompliance by
misleading donors with incomplete information. This may occur when
marketing material may be providing incomplete information on the limits
of donor-advised funds and supporting organizations versus private
foundations. We found examples of Web sites that describe a donor-advised
fund or supporting organization as a giving option with all the benefits
and advantages of a private foundation, which may mislead potential donors
into believing they can retain control over their donation.
Conclusion
Donor-advised funds, supporting organizations, and private foundations are
vehicles for charitable giving. Donors can use these approaches for
long-term giving or to accumulate assets to address some larger need. They
also may create donor-advised funds or supporting organizations to avoid
the costs, burdens, excise taxes, and restrictions associated with private
foundations.
However, concerns have been expressed about the potential for abuses by
those who create and operate donor-advised funds and supporting
organizations, prompting legislative proposals to deter abuses. IRS has
found examples of abuses in these funds and organizations involving those
who do not give up control of their donations and who benefit privately at
the expense of the charitable interest. Although IRS has efforts to focus
on such abuses, IRS examiners lack sufficient data, which complicates
efforts to identify and address the noncompliance.
Congress is considering proposals to require donor-advised funds and
supporting organizations to annually pay out a certain percentage of their
assets to serve charities, which would roughly mirror the requirement for
private foundations. However, no defined way exists to calculate a payout
rate for these funds and these organizations, and current Form 990 data do
not allow for full or consistent analyses of the payout rate for
donor-advised funds or supporting organizations. Guidance is needed on
what types of support should be included in a payout rate so that the Form
990 collects the necessary data. If a payout rate requirement is not
adopted, these Form 990 requirements would provide data to inform future
congressional decisions about whether a requirement should be instituted.
If a payout rate is adopted, the data would help in tracking compliance
and determining whether the requirement may need to be adjusted.
Collecting payout information on the Form 990, however, would not be
possible for donor-advised funds due to limitations in annual Form 990
reporting. Starting in tax year 2003, IRS has been able to identify Forms
990 that report donor-advised fund activity. However, IRS will not have
data that separate the fund activity from other activity. Adding a
requirement to separately report the donor-advised fund activity from
other activity on the Form 990 would allow IRS to check the payout rate as
well as other fund activity that looks suspicious.
IRS also has concerns with supporting organizations that do not support
their supported organizations or that make loans to individuals or
organizations. IRS would be better able to track the flow of funds to the
charities to be supported and loan recipients if it knew their TINs, which
are generally Social Security numbers for individuals or EINs for
organizations. Collecting the TINs of loan recipients raises concerns
about the potential costs and burdens and the protection of the TINs from
unauthorized use. IRS could address these concerns by only requiring TIN
reporting for loans above a certain dollar threshold and by not making the
information publicly available. If the Form 990 is changed to separately
report data on donor-advised fund activity, IRS should consider extending
this TIN reporting to donor-advised funds.
Matters for Congressional Consideration
Given the concerns about payout rates for both donor-advised funds and
supporting organizations, Congress should consider directing IRS to revise
the Form 990 to collect sufficient information so that a consistent payout
rate can be calculated for both types of charitable-giving vehicles. This
information could help inform decisions about whether to adopt a minimum
payout requirement and if any required rate should be adjusted. To help
IRS in making these revisions, Congress should direct IRS about the types
of support that should be included, as it has for private foundations. In
addition, so that IRS can modify the Form 990 to require TINs of loan
recipients from supporting organizations, Congress should also consider
providing IRS authority to protect that information from public
disclosure.
Recommendations for Executive Action
To better understand the characteristics of donor-advised funds and
supporting organizations and to better identify possible noncompliance,
the Commissioner of Internal Revenue should, as part of the Form 990
revision process, (1) require more comprehensive reporting of
donor-advised fund activity, (2) require supporting organizations to
report their supported organizations' EINs, and (3) require that the TINs
for recipients of large loans be reported, if IRS is granted authority to
protect the TINs from public disclosure.
Agency Comments
The Commissioner of Internal Revenue provided written comments on a draft
of this report in a July 19, 2006, letter, which is reprinted in appendix
V. IRS said our recommendations would help it deter abuse within
tax-exempt and government entities and the misuse of such entities by
third parties. IRS agreed with our two recommendations regarding requiring
more comprehensive reporting of donor-advised fund activity and requiring
supporting organizations to report their supported organizations' EINs on
the Form 990. IRS said it will consider these form changes as part of the
Form 990 revision process, but the timing of these revisions will depend
on available resources. IRS also said that reporting supported
organizations' EINs would potentially help with early identification of
abuses involving promoters and donors getting back their donations in the
form of a purported loan that may never be repaid. Regarding our third
recommendation, which had been to require that the TINs for large-loan
recipients be reported on the Form 990, IRS agreed that greater
transparency and better tracking of loans are needed. However, IRS did not
believe that it had the authority under current law to protect the TINs of
loan recipients from public disclosure if the TINs were reported on the
Form 990. As a result, we have added a matter for congressional
consideration to provide IRS the authority to protect loan recipient TINs
on the Form 990 from public disclosure and revised the recommendation so
that if provided the authority to protect the information from public
disclosure, IRS should revise the Form 990 to collect loan recipient TINs.
As agreed with your office, unless you publicly announce its contents
earlier, we plan no further distribution of this report until 30 days from
its issue date. At that time, we will send copies to the Ranking Minority
Member, the Senate Committee on Finance; the Secretary of the Treasury;
the Commissioner of Internal Revenue; and other interested parties. We
will make copies available to others on request. In addition, the report
will be available at no charge on the GAO Web site at http://www.gao.gov.
If you or your staff have any questions about this report, please contact
me at (202) 512-9110 or [email protected]. Contact points for our Offices
of Congressional Relations and Public Affairs may be found on the last
page of this report. Key contributors to this report are listed in
appendix VI.
Sincerely yours,
Michael Brostek Director, Tax Issues Strategic Issues
Appendix I: Tax-Exempt Excise Taxes
Over the years, Congress has imposed various excise taxes that affect
tax-exempt entities, particularly private foundations under section
501(c)(3). Public charities differ in several ways from private
foundations. Public charities have broad public support and tend to
provide charitable services directly to beneficiaries. Private foundations
are often tightly controlled and receive a significant portion of their
funds from a small number of donors, and tend to make grants directly to
other organizations rather than directly provide charitable services.
Since these differences create the potential for self-dealing or abuse by
a small group, private foundations are subject to anti-abuse rules not
applicable to public charities. In addition, both public charities and
private foundations are generally prohibited from engaging in certain
types of transactions. Excise taxes are to be levied on public charities
and private foundations, as well as a few other types of tax-exempt
entities, that violate the rules. Details on these rules and excise taxes
follow.
Excise Tax on Section 501(c)(3) Political Expenditures (Section 4955)
Section 4955 was added by the Revenue Act of 1987, P.L. 100-203. According
to the House Report1 for the Act, the committee believed that the excise
tax applicable to private foundations for making prohibited political
expenditures (section 4945) should also apply to public charities. Section
4955 imposes an initial 10 percent excise tax on each political
expenditure of a section 501(c) (3) organization. An additional 2- 1/2
percent excise tax is imposed on the organization's manager if the manager
knew that it was a political expenditure. Political expenditures include
any amounts paid or incurred by the organization in any participation or
intervention in any political campaign on behalf of any candidate for
public office. If an initial tax has been imposed regarding a political
expenditure and that expenditure is not corrected, an additional tax equal
to 100 percent of the amount is to be imposed on the organization. An
additional tax equal to 50 percent of the amount of the expenditure is to
be imposed on the organization's manager if that manager refuses to agree
to part or all of the correction.
Excise Tax on Section 501(c)(3) and (4) Excess Benefit Transactions (Section
4958)
Section 4958 was added in 1996 by the Taxpayer Bill of Rights 2, P.L.
104-168. According to the related House Report2 this excise tax was added
to ensure that the advantages of tax-exempt status benefit the community
and not private individuals. The act provided for this intermediate
sanction (i.e., something short of a loss of tax-exemption) to be imposed
when nonprofit organizations engage in transactions with certain insiders
that result in private inurement. Section 4958 imposes an initial tax of
25 percent on each excess benefit transaction entered into between a
disqualified person and tax-exempt organizations under sections 501(c)(3)
and (4). The initial tax is to be paid by this disqualified person,
including any person who at any time during the 5-year period ending on
the date of the transaction was in a position to exercise substantial
influence over the organization, a member of this person's family, and a
35 percent controlled entity. Such an entity exists when a disqualified
person owns more than 35 percent of the voting power of a corporation,
more than 35 percent of the profit interest of a partnership, or more than
35 percent of the beneficial interest of a trust or estate. If an initial
tax is imposed on the disqualified persons, an additional tax of 10
percent is to be imposed on the organization's manager if that manager
participated knowing that it was an excess benefit transaction. If the
excess benefit transaction is not corrected within the taxable period, a
tax equal to 200 percent of the excess benefit transaction will be imposed
on the disqualified person. Private foundations are not subject to this
excise tax.
1H. Rep. No. 100-391 (1987).
2H. Rep. No. 104-506 (1996).
Excise Tax on Private Foundation Investment Income (Section 4940)
Section 4940 was added by the Tax Reform Act of 1969, P.L. 91-172. The
related Senate Report3 described the excise tax as an "audit fee tax" that
was believed to be necessary to cover IRS's costs for increased
supervision over private foundations under the act. Section 4940 imposes a
2 percent excise tax on the net investment income of tax-exempt private
foundations. Net investment income includes income from interest,
dividends, and net capital gains that is reduced by the expenses incurred
to earn it. This tax is 1 percent if a private foundation meets certain
distribution requirements. Private foundations that meet the requirements
to be an "exempt operating foundation" are not subject to this excise tax.
Among these requirements are stipulations that the foundation be publicly
supported for at least 10 years and that it have a governing body that is
broadly representative of the general public. Private foundations that are
not exempt from taxation are subject to this excise tax and unrelated
business income tax.
Excise Tax on Private Foundation Acts of Self-Dealing (Section 4941)
Because a tax-exempt entity cannot operate to confer a benefit on private
parties, Section 4941 was enacted by the Tax Reform Act of 1969. According
to the Senate Report, generally prohibiting self-dealing transactions
would minimize the need to apply the subjective arm's-length standard that
was used for loans, payments of compensation, and preferential
availability of services under the 1950 amendments. Section 4941 imposes a
5 percent excise tax on acts of self-dealing between a private foundation
and disqualified persons. This tax is to be paid by the disqualified
person who participated in the self-dealing. An additional tax equal to
200 percent of the amount involved is to be imposed if the self-dealing is
not corrected during the taxation period. A separate tax equal to 2- 1/2
percent of the amount involved is to be imposed on the foundation's
manager if that manager knowingly participated in the act of self-dealing.
If this additional tax has been imposed on the foundation manager and that
manager refuses to agree to part or all of the correction, an additional
tax equal to 50 percent of the amount is to be imposed. Acts of
self-dealing include sales, exchanges, or leases of property; lending of
money or other extensions of credit; and payment of compensation.
Disqualified persons include substantial contributors to the foundation,
foundation managers, an owner of more than 20 percent of a business
enterprise that is a substantial contributor, and certain government
officials.
3S. Rep. No. 91-552 (1969).
Excise Tax on Private Foundation Failure to Distribute Income (Section 4942)
Section 4942 was enacted by the Tax Reform Act of 1969. Prior to it, a
private foundation could lose its exemption if it failed to make
distributions towards its charitable purposes instead of just accumulating
income. According to the Senate Report, the committee believed that loss
of exempt status as the only sanction was often ineffective or harsh, and
that substantial improvement could be achieved by providing a graduation
of sanctions if income is not distributed. Section 4942 imposes a 15
percent excise tax on the undistributed income of a private foundation for
any taxable year in which the required amount has not been distributed
before the first day of the next taxable year. If an initial tax has been
imposed under section 4942 and the income remains undistributed at the end
of the taxable period, a tax equal to 100 percent of the remaining
undistributed amount is to be imposed. This excise tax does not apply to
private operating foundations that meet distribution requirements or to
the extent that the failure to distribute is due solely to an incorrect
valuation of assets as long as other requirements are met.
Excise Tax on Private Foundation Excess Business Holdings (Section 4943)
Section 4943 was enacted by the Tax Reform Act of 1969. According to its
Senate Report, the use of foundations to maintain control of a business
appeared to be increasing, and some who wished to use a foundation's stock
holdings to control a business were relatively unconcerned about producing
income for charitable purposes. Where the charitable ownership
predominated, the business could unfairly compete with businesses whose
owners were required to pay taxes on their business income. The committee
concluded that a limit on the extent to which a private foundation may
control a business was needed. Section 4943 imposes a 5 percent excise tax
on certain excess business holdings of a private foundation. Permitted
holdings generally include up to 20 percent of the voting stock of an
incorporated business enterprise (reduced by the percentage of the voting
stock owned by all disqualified persons) and similar holdings in
partnerships and other unincorporated enterprises (except sole
proprietorships). If the excise tax has been imposed, foundations that
fail to make the required divestiture of excess holdings above the
permitted amounts are subject to an additional tax equal to 200 percent of
the excess holdings. In certain cases, foundations are allowed a 5-year
period to dispose of the excess holdings and may receive an additional
5-year extension.
Excise Tax on Private Foundation Investments Which Jeopardize Charitable Purpose
(Section 4944)
Section 4944 was enacted by the Tax Reform Act of 1969. Under prior law, a
private foundation could lose its exemption if it invested in a manner
that jeopardized its exempt purpose. In the Senate Report, the committee
concluded that limited sanctions were preferable to the loss of exemption.
Section 4944 imposes an initial 5 percent excise tax on the amount
involved if a private foundation invests in a manner that jeopardizes its
exempt purpose (e.g., investing with the purpose of income production or
property appreciation). If this tax is imposed on the foundation, a
separate 5 percent excise tax is to be imposed on the foundation manager
if that manager knew that making the investment would jeopardize the
foundation's exempt purpose. If an initial tax is imposed, an additional
tax equal to 25 percent of the amount of the investment is to be imposed
on the foundation if the investment is not withdrawn within the taxable
period. An additional tax equal to 5 percent of the amount of the
investment is to be imposed on the foundation manager if the investment is
not withdrawn.
Excise Tax on Private Foundation Taxable Expenditures (Section 4945)
Section 4945 was enacted by the Tax Reform Act of 1969. Under prior law,
the only sanction against prohibited political activity by a foundation
was loss of exemption. The Senate Committee Report noted that the
standards for determining the permissible level of political activity were
so vague as to encourage subjective application of the sanction. As a
result, section 4945 was added to clarify the types of impermissible
activities and provide more limited sanctions. Section 4945 imposes an
initial 10 percent excise tax on each taxable expenditure made by the
foundation. An additional 2- 1/2 percent excise tax is to be imposed on
the foundation manager if that manager knowingly participated in the
taxable expenditure. Taxable expenditures include amounts paid to carry on
propaganda or otherwise influence legislation or the outcome of a public
election, or to directly or indirectly carry on a voter registration
drive. If the expenditure is not corrected within the taxable period, an
additional tax equal to 100 percent of the amount of the expenditure is to
be imposed on the foundation and an additional tax equal to 50 percent of
the amount of the expenditure is to be imposed on the foundation manager.
Appendix II: Summary Data Tables for Section 501(c)(3) Tax-Exempt
Charities in 2005 Constant Dollars, Tax Years 1999-2003
The following tables summarize data reported on the annual Forms 990 and
990-PF filed by tax-exempt charitable entities under section 501(c)(3) of
the Internal Revenue Code. The tables cover number of returns filed and
the reported totals for the following characteristics: assets, revenues,
expenses, contributions received, noncash contributions received, grants
paid, and executive compensation. The data are categorized by supporting
organizations, private foundations, and all other 501(c)(3) charities.
Table 4: Number of Returns Filed, Tax Years 1999 through 2003
All other
501(c)(3)
Tax Supporting Percentage Private Percentage tax-exempt Percentage
year organizations change foundations change charities change
1999 20,217 N/A 69,812 N/A 280,033 N/A
2000 20,817 3% 74,056 6% 283,826 1%
2001 21,466 3% 77,229 4% 301,043 6%
2002 21,057 -2% 80,631 4% 289,381 -4%
2003 21,372 1% 80,365 0% 298,897 3%
Source: GAO analysis of data from IRS's Returns Inventory and
Classification System, 1999 through 2003.
Table 5: Total Assets Reported by Section 501(c)(3) Organizations in
Constant 2005 Dollars, Tax Years 1999 through 2003
(Dollars in
billions)
All other
501(c)(3)
Tax Supporting Percentage Private Percentage tax-exempt Percentage
year organizations change foundations change charities change
1999 $211.1 N/A $428.4 N/A $1,514.1 N/A
2000 213.5 1% 470.5 10% 1,544.1 2%
2001 214.6 1% 451.9 -4% 1,583.1 3%
2002 215.8 1% 447.8 -1% 1,546.7 -2%
2003 $239.4 11% $449.5 0% $1,646.3 6%
Source: GAO analysis of data from IRS's Returns Inventory and
Classification System, 1999 through 2003.
Table 6: Total Revenue Reported by Section 501(c)(3) Organizations in
Constant 2005 Dollars, Tax Years 1999 through 2003
(Dollars in
billions)
All other
501(c)(3)
Tax Supporting Percentage Private Percentage tax-exempt Percentage
year organizations change foundations change charities change
1999 $63.0 N/A $84.6 N/A $896.4 N/A
2000 62.5 -1% 84.4 0% 915.8 2%
2001 55.2 -12% 50.0 -41% 934.0 2%
2002 55.4 0% 35.6 -29% 925.6 -1%
2003 $65.0 17% $53.6 51% $987.4 7%
Source: GAO analysis of data from IRS's Returns Inventory and
Classification System, 1999 through 2003.
Table 7: Total Expenses Reported by Section 501(c)(3) Organizations in
Constant 2005 Dollars, Tax Years 1999 through 2003
(Dollars in
billions)
All other
501(c)(3)
Tax Supporting Percentage Private Percentage tax-exempt Percentage
year organizations change foundations change charities change
1999 $50.0 N/A $40.6 N/A $806.5 N/A
2000 53.3 6% 44.0 8% 845.2 5%
2001 51.3 -4% 43.5 -1% 894.6 6%
2002 52.9 3% 41.6 -4% 903.3 1%
2003 $55.6 5% $41.1 -1% $927.5 3%
Source: GAO analysis of data from IRS's Returns Inventory and
Classification System, 1999 through 2003.
Table 8: Total Contributions Received Reported by Section 501(c)(3)
Organizations in Constant 2005 Dollars, Tax Years 1999 through 2003
(Dollars in
billions)
All other
501(c)(3)
Tax Supporting Percentage Private Percentage tax-exempt Percentage
year organizations change foundations change charities change
1999 $14.2 N/A $31.3 N/A $195.9 N/A
2000 16.3 14% 36.0 15% 211.8 8%
2001 14.7 -10% 31.3 -13% 225.0 6%
2002 13.3 -9% 25.2 -19% 211.9 -6%
2003 $15.5 17% $27.7 10% $219.4 4%
Source: GAO analysis of data from IRS's Returns Inventory and
Classification System, 1999 through 2003.
Table 9: Total Noncash Contributions Received Reported by Section
501(c)(3) Organizations in Constant 2005 Dollars, Tax Years 1999 through
2003
(Dollars in
billions)
All other
501(c)(3)
Tax Supporting Percentage Private Percentage tax-exempt Percentage
year organizations change foundationsa change charities change
1999 $2.7 N/A N/A N/A $16.7 N/A
2000 2.6 -1% N/A N/A 20.3 22%
2001 2.6 -2% N/A N/A 21.0 3%
2002 1.8 -30% N/A N/A 18.0 -14%
2003 $2.4 33% N/A N/A $25.8 43%
Source: GAO analysis of data from GuideStar, 1999 through 2003.
aUnlike organizations that file a Form 990, private foundations do not
report the amount of noncash contributions received on the Form 990-PF.
Table 10: Total Grants Paid Reported by Section 501(c)(3) Organizations in
Constant 2005 Dollars, Tax Years 1999 through 2003
(Dollars in
billions)
All other
501(c)(3)
Tax Supporting Percentage Private Percentage tax-exempt Percentage
year organizations change foundations change charities change
1999 $ 8.5 N/A $32.4 N/A $42.6 N/A
2000 11.3 33% 34.9 8% 45.5 7%
2001 8.0 -29% 35.9 3% 48.2 6%
2002 7.9 -2% 33.9 -6% 47.4 -2%
2003 $10.7 37% $31.0 -9% $58.2 23%
Source: GAO analysis of data from IRS's Returns Inventory and
Classification System for private foundations, and from GuideStar for
supporting organizations and all other 501(c)(3) tax-exempt charities,
1999 through 2003.
Table 11: Total Executive Compensation Reported by Section 501(c)(3)
Organizations in Constant 2005 Dollars, Tax Years 1999 through 2003
(Dollars in
billions)
All other
501(c)(3)
Tax Supporting Percentage Private Percentage tax-exempt Percentage
year organizations change foundations change charities change
1999 $0.9 N/A $0.7 N/A $11.1 N/A
2000 1.0 6% 0.8 8% 11.5 3%
2001 1.0 4% 0.9 9% 12.9 12%
2002 1.0 2% 0.8 -3% 12.8 -1%
2003 $1.1 7% $0.8 -4% $13.0 2%
Source: GAO analysis of data from IRS's Returns Inventory and
Classification System, 1999 through 2003.
Appendix III: Noncash Contribution Valuation Methods
IRS's Publication 561 provides guidance to taxpayers on determining the
value of property donated to qualified organizations. It defines "fair
market value" (FMV) as the price a willing, knowledgeable buyer would pay
a willing, knowledgeable seller when neither has to buy or sell. Future
events that may affect the property cannot be included in FMV unless they
are known at the time of the donation. In addition, past events, such as
rapid growth of value over the short term, may have to be balanced out
over a longer time frame for a realistic projection of value. While there
is no single method to determine FMV, factors to consider include the cost
or selling price, sales of comparable properties, replacement costs, and
opinions of experts.
Although there are many categories of noncash contributions including
vehicles, used clothing, and works of art that charities may receive,
donor-advised funds and supporting organizations typically receive larger
noncash gifts, according to IRS.
For stocks and bonds, the fair market value is the average price between
the highest and lowest trading price on the date of donation. This method
is only to be used for items for which an active market exists. If the
item is traded on multiple exchanges, then the principle exchange must be
used. In addition, large blocks of stock may require an expert to assist
in the appraisal.
For closely-held securities, determining FMV would include considering the
company's net worth, prospective earning power, dividend-paying capacity,
and other factors such as the economic outlook in the particular industry
and the company's relative position within it, and the value of securities
of companies engaged in the same or similar business.
For real estate, a detailed appraisal by a qualified appraiser is
required. Certain items must be included such as complete description,
legal description, lot and block number, physical features, condition,
dimension, zoning, and potential uses. Three valuation methods may be
used-comparable sales, capitalization of income, and replacement cost new
or reproduction cost minus observed depreciation (this method used alone
does not determine FMV but rather tends to set the upper limit of value).
IRC section 170, particularly Sec 170(f)(8), provides the basis for
reporting noncash charitable contributions, such as using a qualified
appraiser. The American Jobs Creation Act of 20041 also contains
provisions regarding noncash contributions, including requiring the donor
to attach a qualified appraisal to the tax return if the contribution is
over $500,000.
Taxpayers are required to file IRS Form 8283 (Noncash Charitable
Contributions) if the charitable tax deduction claimed is greater than
$500. Form 8283 should be filed for the tax year that the deduction is
claimed. Different sections of the form are to be completed based on type
of property donated and whether the amount claimed is less than or greater
than $5,000. Generally appraisals are required by a qualified appraiser
for donations of more than $5,000. Charitable organizations receiving
donated property must file Form 8282 to report information to IRS about
disposition of certain charitable deduction property made within 2 years
after the donor contributed the property.
According to an IRS manager, closely-held stock is a growing concern and
challenge to IRS, since it can involve a broad base of taxpayers. He added
that artwork, while well-publicized in terms of valuation issues, is less
of a concern since the dollar amounts involved are small compared to other
types of noncash contributions. In addition, the IRS manager identified
the following challenges to addressing noncompliance, gathered from about
100 examination cases:
o donors are sometimes vague when describing the contribution on
Form 8283, impeding IRS's understanding and ability to address any
problems;
o donors can submit Form 8283 upon examination, creating problems
with detecting problems early;
o corporate donors of patents can structure the contribution
(e.g., pay maintenance fees on the patent) so that the donee is
not required to file a Form 8282 upon disposition of the
contribution;
o no requirement exists that noncash contribution amounts
reported on a donor's tax return and a charity's Form 990 must
match;
o donors take improper deductions without adverse impact to the
charity; and
o multiple appraisals of contribution value are not helpful
because appraisals are very subjective.
1 Pub. L. No. 108-357 (2004).
To address some of these concerns, IRS has several initiatives looking at
specific types of noncash contributions, such as vehicle donations and art
valuations. Additionally, IRS has a program that compares valuations of
noncash contributions claimed by taxpayers (on Form 8283) with the price
obtained by recipient charities when they resell the property. IRS has
used data from this program to complete a study of large noncash
contributions.
Appendix IV: Methods and Materials Used to Market Donor-Advised Funds and
Supporting Organizations to Potential Donors
Earlier in this report, we discussed some of the methods and materials
used to publicize donor-advised funds and supporting organizations that
may lead to noncompliance with tax laws. The following is a discussion of
donor motivations and materials and methods that are not intended to lead
to abusive schemes. To obtain this information, we spoke with 11 community
foundation managers, 6 financial professionals, and 18 managers at IRS.
The examples we discuss come from materials that we were referred to or
located online based on our interviews, and do not necessarily represent
all materials and methods used to market donor-advised funds and
supporting organizations.
Because donor-advised funds and supporting organizations are just two
among many charitable giving options, potential donors must select an
option that best suits their goals and donation plan. Factors that may
influence a donor's decision include: types of causes they wish to
support, the size and type of donation they wish to give, and their
desired involvement level in directing the use of their donation. For
example, some donors, who desire to donate to a specific community or to
have in-depth information on charities receiving their funds, might find
that a donor-advised fund administered by a community foundation is an
appealing option. Community foundations, which typically have a local
focus, may do particularly well at performing due diligence on charities
receiving their funds, according to one estate planner. Due diligence may
include identifying organizations listed in IRS Publication 78,1 or
interacting with exempt organizations that are potential recipients of
funds, according to community foundation managers.
To evaluate giving options in relation to their goals, donors may seek
information from accountants, financial planners, lawyers, community
foundations, the Internet, and tax-exempt organizations, among others.
Some exempt organizations' efforts to market donation options tend to be
limited, according to a study by a nonprofit philanthropic research and
development organization. This makes personal and business relationships
important ways for donors to learn about donor-advised funds and
supporting organizations, according to community foundation managers.
Because many donor-advised funds are administered by community foundations
or are housed in charities affiliated with commercial investment firms,
such as Vanguard and Fidelity, these relationships may be particularly
important sources for introducing donors to donor-advised funds, according
to a community foundation manager interviewed by The Chronicle of
Philanthropy. According to several community foundation managers, many
donors to community foundation donor advised funds are referred from
professional advisers. Recognizing the importance of these relationships,
some community foundations have launched specific outreach efforts aimed
at financial advisers and other professionals who could refer
donor-advised fund clients.
1IRS's Publication 78, the Cumulative List of Organizations described in
Section 170(c) of the Internal Revenue Code of 1986, contains a list of
all organizations eligible to accept tax-deductible donations.
In addition to discussions with professionals, donors may encounter or be
presented with a variety of material explaining charitable giving options.
Material may contain details of giving options in relation to both tax
incentives to the donor and charitable benefits for the exempt
organization. Some firms advertise services for clients in magazines or
national publications, according to IRS managers and an estate lawyer,
while others depend on the Internet. Descriptions of professional services
can include outlines of charitable giving options, some of which attempt
to explain giving options based on the legal, practical, and charitable
characteristics of each option. For example, some community foundations,
philanthropy organizations, and investment firms provide tables or
descriptions comparing various combinations of donor-advised funds,
supporting organizations, private foundations, and other donation options.
These tables describe and compare levels of donor involvement, tax status,
deductions by asset type, start-up costs, and administrative requirements.
Other material outlines the steps and requirements necessary to establish
a donor-advised fund or supporting organization.
Appendix VI: GAO Contact and Staff Acknowledgments
GAO Contact
Michael Brostek, (202) 512-9110
Acknowledgments
In addition to the contact named above, Tom Short, Assistant Director;
Mark Bondo; Marta Chaffee; Elizabeth Fan; Evan Gilman; Nancy Hess; Shirley
Jones; Donna Miller; John Mingus; Coltrane Stansbury; Paul Thacker; and
Lindsay Welter made key contributions to this report.
Glossary
Charity insider
An individual such as an officer, board member, or other persons able to
exercise substantial influence over a tax-exempt organization. Donors to
donor-advised funds are rarely considered to be insiders, while donors to
supporting organizations can sometimes be insiders if they also serve on
the supported organization's board.
Community foundation
An organization, usually a nonoperating charity, providing charitable
support through grants to local or regional communities. Typically a
community foundation will aggregate contributions from local residents,
build endowments, and distribute grants to communities.
Disqualified person
An individual, defined in IRC section 4946, who may have a significant
conflict of interest with a charity due to financial, executive, or voting
powers, such as those held by donors, officers, or directors. The
definition applies to individuals involved with private foundations and
supporting organizations, and has a limited application to public
charities that are not supporting organizations.
Donor-advised fund
Charitable giving accounts that are held by a public charity. A donor
contributes to an individual account within a charity's donor-advised
fund, and maintains an advisory role on distribution of the funds. No
statutory or regulatory definition currently exists.
Donor control
Authority exerted by a donor that exceeds what is allowable for a
donor-advised fund or supporting organization. Donor control includes
direct or indirect power over decisions regarding an organization's assets
or operations.
Excess benefit
A transaction, directly or indirectly, between a disqualified person and a
tax-exempt organization that results in economic benefit to the
disqualified person exceeding the value of service to the organization.
Subject to excise taxation under IRC section 4958.
Excise tax
A tax imposed on an act, occupation, privilege, manufacture, sale, or
consumption and that is usually designed to influence taxpayer behavior.
Expenditure responsibility process
A set of procedures used by private foundations to ensure responsible use
of grants to charities. The assessment may include:
a pre-grant inquiry on the recipient charity, establishment of commitments
for grant recipient, investment requirements, or agreements on actions if
agreements are violated.
Intermediate sanctions
Excise taxes that provide a corrective remedy for excess benefit
transactions. The excise taxes are paid by the disqualified person, as
defined in IRC 4958, who receives excess benefit, or by a charity manager
who knowingly participates in the transaction.
Inurement
The transfer or use of a charity's assets or income for the benefit of a
charity's insiders. Inurement is a specific form of private benefit, and
is prohibited for all 501(c)(3) organizations.
IRS Form 1023
Application for Recognition of Exemption under IRC Section 501(c)(3) that
organizations must file in order to receive tax-exempt status.
IRS Form 990
IRS information return that public charities are required to file annually
unless the organization is a church or entity associated with a church, a
certain type of governmental unit affiliate, or falls below certain gross
receipts thresholds.
IRS Form 990-PF
IRS information return that private foundations must file annually.
Noncash contribution
An asset other than cash donated to a tax-exempt organization, for
example, stocks, bonds, vehicles, artwork, or real estate.
Payout
An organization's expenditures to individuals or charities for certain
operational or administrative functions. Private foundations must
distribute about 5 percent of the average market value of their
noncharitable use assets, generally stocks or other investments that
compose the foundation's endowment; donor-advised funds and supporting
organizations do not have to meet a minimum payout.
Private foundation
A 501(c)(3) organization, further defined in IRC section 509(a), that does
not qualify as a public charity. Generally, private foundation rules and
regulations are more complex and limiting than those for public charities.
Private benefit
The transfer or use of a charity's assets or income, or the conferment of
undue advantage, to private persons who are not necessarily charity
insiders. Some private benefit is permitted, but it must not be more than
incidental to the charitable purpose being served. Private benefit is a
broad term that includes inurement and applies to all 501(c)(3)
organizations.
Public charity
A tax-exempt organization defined in IRC section 501(c)(3) that receives
broad financial support or is a supporting organization. Public charities
have fewer legal requirements than private foundations.
Revocation
A corrective action that removes a charity's tax-exempt charter.
Revocation is used for violations such as inurement, performing nonexempt
activities, operating in a commercial manner, and operating for private
use.
Section 501(c)(3) organization
A tax-exempt organization operated for a charitable purpose. Purposes
considered to be charitable include serving the poor and distressed;
advancing religious, educational, or scientific endeavors; and protecting
human or civil rights. All 501(c)(3) organizations are considered either
public charities or private charities, known as private foundations.
Contributions to charities are tax deductible under IRC section 170.
Self-dealing
Transactions, either direct or indirect, made between a private foundation
and disqualified person that involve (1) sale, exchange, or lease of
property; (2) lending of money or other extensions of credit; (3)
providing goods, services, or facilities; (4) paying compensation to or
reimbursing expenses of a disqualified person; (5) transferring foundation
income or assets to, or for the use or benefit of, a disqualified person;
and (6) certain agreements to make payments of money or property to
government officials.
Supported organization
A tax-exempt organization that receives funds or services from a
supporting organization.
Supporting organization
A public charity defined under IRC section 509(a)(3) that provides money
or services to one or more supported organizations. There are three types
of supporting organizations defined by their relationship with their
supported organization(s):
Type I
operated, supervised, or controlled by a supported organization
(parent-subsidiary relationship);
Type II
supervised or controlled in connection with the supporting organization
(brother-sister relationship); and
Type III
operated in connection with the supported organization(s).
(450432)
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www.gao.gov/cgi-bin/getrpt? GAO-06-799 .
To view the full product, including the scope
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Highlights of GAO-06-799 , a report to the Chairman, Committee on Ways and
Means, House of Representatives
July 2006
TAX-EXEMPT ORGANIZATIONS
Collecting More Data on Donor-Advised Funds and Supporting Organizations
Could Help Address Compliance Challenges
Donor-advised funds and supporting organizations are two charitable-giving
options that have received attention from Congress and the Internal
Revenue Service (IRS) for their potential to facilitate noncompliance with
tax law.
As requested, GAO is providing information on donor-advised funds and
supporting organizations related to (1) federal laws and regulations,
compared to private foundations; (2) financial and organizational
characteristics; and (3) types of noncompliance and promotion methods and
challenges identifying them.
What GAO Recommends
GAO suggests that Congress consider (1) directing IRS to collect Form 990
data for, and provide guidance on calculating payout rates for
donor-advised funds and supporting organizations, and (2) providing IRS
authority to protect from public disclosure the taxpayer identification
numbers (TIN) of loan recipients, so that IRS can collect the TINs on the
Form 990.
GAO recommends that IRS require (1) more comprehensive reporting of
donor-advised fund data, (2) reporting of supported organizations'
identification numbers, and (3) reporting of TINs for recipients of large
loans, if granted authority to protect the TINs from public disclosure.
IRS agrees with the first two recommendations but believes it needs
legislative authority to protect loan recipient TINs.
Donor-advised funds, supporting organizations, and private foundations are
all tax-exempt charitable-giving vehicles. Donor-advised funds are
separate accounts held by a public charity to receive contributions from
donors who may recommend, but not control, charitable distributions from
the account. Supporting organizations are public charities that are to
carry out their tax-exempt purpose by supporting one or more tax-exempt
organizations, usually other public charities. Compared with private
foundations, donor-advised funds and supporting organizations give donors
less control over how their donation will be used but provide donors more
favorable tax deductions, lower administration costs, less IRS oversight,
and fewer reporting requirements.
Donor-advised funds hold billions of dollars in assets, and supporting
organizations and private foundations hold hundreds of billions of dollars
in assets. Public charities and private foundations must annually file an
IRS Form 990 or Form 990-PF, respectively, to report their activities.
However, donor-advised fund data are limited because organizations that
maintain the funds are not required to separately report fund data from
other financial data on Form 990. Although some supporting organization
characteristics can be determined from Form 990 data, other
characteristics, such as the rate at which payments are made to charities
and details about the recipients of loans from the organization, cannot be
reliably determined. Concerns have arisen about the "payout" rate to
charities, and Congress is considering a minimum payout requirement,
similar to the one for private foundations. Further, supporting
organizations are not required to report their supported organizations'
identification numbers, making it more difficult to track the relationship
between organizations. To collect additional data, IRS revised Form 990
for 2003 and 2005 and is considering further revisions, but no firm plans
have been determined.
According to IRS managers, examinations reveal that some donor-advised
funds and supporting organizations are used in abusive schemes to
unallowably benefit donors or related parties or give donors excess
control of charitable assets and operations. In some cases, IRS is able to
clearly determine noncompliance and assign appropriate corrective actions.
However, in other cases, IRS faces challenges gathering evidence or
addressing activities that do not seem to benefit charities, but do not
violate any law or regulation, such as when a supporting organization
loans money, at market rate, to a donor, director, or officer of the
organization. Promoters, who are individuals or entities who facilitate
abusive schemes, further complicate IRS's examination efforts.
*** End of document. ***