Planned Giving

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Thursday December 2, 2021

Private Letter Ruling

IRS Denies Change of Exempt Status Request

GiftLaw Note:
Organization previously received exempt status under Sec. 501(c)(4) and applied for a change in exempt status to fall under Sec. 501(c)(3). Organization's purpose is to promote civic activities to improve City and, in part, to develop the civic interests of City. Organization's primary activity is planning, coordinating and raising funds for City's rodeo. After rodeo expenses are paid, excess funds are given to local organizations that work to improve the quality of life for City's residents. Organization states the change of status will help expand solicitation for scholarship funds for graduating seniors. Currently, Organization's scholarship distribution amounts are negligible.

To be exempt under Sec. 501(c)(3), an organization must be both organized and operated exclusively for charitable, religious or educational purposes and no part of the earnings may inure to the benefit of any private shareholder or individual. Under Reg. 1.501(c)(3)-1(a)(1), an organization must be both organized and operated exclusively for an exempt purpose. Under Reg. 1.501(c)(3)-1(b)(1)(i), an organization is organized exclusively for exempt purposes if its articles of organization limit the purpose of the organization to exempt purposes and do not empower the organization to engage, other than insubstantially, in activities that are in themselves not in furtherance of one or more exempt purposes. Under Reg. 1.501(c)(3)-1(c)(1), an organization is operated exclusively for an exempt purpose only if it engages primarily in activities which accomplish an exempt purpose. In Better Business Bureau of Washington D.C. Inc. v. United States, the Supreme Court held that the presence of a single non-exempt purpose, if substantial in nature, will destroy the exemption regardless of the number and importance of truly exempt purposes. Here, the Service determined that Organization does not pass the organizational and operational tests because it is organized and operated primarily for social and recreational purposes. Organization's articles do not limit its purposes to those described in Sec. 501(c)(3). Organization does not exclusively operate for charitable and educational purposes, but for the entertainment of the community. As such, the Service denied Organization's application for exempt status under Sec. 501(c)(3). Organization remains exempt under Sec. 501(c)(4).
PLR 202129015 IRS Denies Change of Exempt Status Request

7/23/2021 (4/27/2021)

Dear * * *:

We considered your application for recognition of exemption from federal income tax under Internal Revenue Code (IRC) Section 501(a). We determined that you don't qualify for exemption under IRC Section 501(c)(3). This letter explains the reasons for our conclusion. Please keep it for your records.

Issues


Do you qualify for exemption under IRC Section 501(c)(3)? No, for the reasons stated below.

Facts


You were incorporated in state of B on D. Your purpose, per your Articles of Incorporation, is to promote and carry on various civic activities for the betterment of the city C and to assist in promotion and development of the literacy, benevolence, scientific, industrial, and civic interests of the city C, and own such properties as may be necessary therefore. Your Articles authorize the issuance of capital stock, on a not for profit basis with no dividends or profits to be paid. The stock is issued "merely to show the respective interest of each stockholder in the corporation." Your Articles are silent regarding the disposition of your assets upon dissolution. Although you provided a dissolution policy, it was a separately adopted policy and not a part of your organizing document.

You are currently exempt under IRC Section 501(c)(4). You are now seeking exemption under Section 501(c)(3).

You described your primary activity as facilitating the C Rodeo, a * * * event in C with * * * of attendees * * *. You are responsible for planning, coordinating, and raising the funds for rodeo expenses. After rodeo expenses have been paid, the excess funds are distributed to other organizations such as local scout troops, a local senior care facility, a men's club, local golf course, recreation commission, other community organizations that improve the quality of life for the citizens. You require the potential grant recipient to submit a proposal stating the purpose of the grant and how the proposal will benefit the community. You also award scholarships to graduating seniors. You state the obtaining IRC Section 501(c)(3) status will help you to expand your solicitation for funds and consequently increase scholarship amounts.

Your financial data indicates that the primary source of your revenue is ticket sales from the rodeo events, followed by food and beer sales. You also receive revenue from sponsors, program sales, and other assorted sales. Your largest expenses are related to the rodeo, such as professional fees, including the stock contactors, announcers, judges, etc. Other expenses include real estate taxes, utilities, and other event related expenses, such as travel and cost of goods sold. You distribute a negligible amount for scholarships, less than g percent of your total revenue per year. On average, you distribute less than h percent to charitable organizations per year.

Law


IRC Section 501(c)(3) provides, in part, for the exemption from federal income tax to organizations organized and operated exclusively for charitable, religious or educational purposes, where no part of the net earnings inures to the benefit of any private shareholder or individual.

Treasury Regulation Section 1.501(c)(3)-1(a)(1) states that in order to qualify under IRC Section 501(c)(3), an organization must be both organized and operated exclusively for one or more exempt purposes. If an organization fails to meet either the organizational or operational test, it is not exempt.

Treas. Reg. 1.501(c)(3)-1(b)(1)(i) provides that an organization is organized exclusively for one or more exempt purposes only if its articles of organization limit its purposes to one or more exempt purposes and do not expressly empower it to engage, otherwise than as an insubstantial part, in activities which in themselves are not in furtherance of one or more exempt purposes.

Treas. Reg. 1.501(c)(3)-1(b)(1)(iii) provides that an organization is not organized exclusively for one or more exempt purposes if its articles expressly empower it to carry on, otherwise than as an insubstantial part of its activities, activities that are not in furtherance of one or more exempt purposes.

Treas. Reg. Section 1.501(c)(3)-1(b)(4) provides that an organization is not organized exclusively for one or more exempt purposes unless its assets are dedicated to an exempt purpose. Assets will be considered dedicated if, upon dissolution, assets would be distributed for one or more exempt purposes.

Treas. Reg. Section 1.501(c)(3)-1(c)(1) states that an organization will be regarded as "operated exclusively" for one or more exempt purposes only if it engages primarily in activities which accomplish one or more of such exempt purposes specified in IRC Section 501(c)(3). An organization will not be so regarded if more than an insubstantial part of its activities is not in furtherance of an exempt purpose.

Revenue Ruling 67-216, 1967-2 C.B. 180, states that a nonprofit organization formed and operated exclusively to instruct the public on agricultural matters by conducting annual public fairs and exhibitions of livestock, poultry, and farm products qualified for exemption from federal income tax under IRC Section 501(c)(3). The organization's activities and exhibits are planned and managed by or in collaboration with person whose business it is to inform and instruct farmers and the general public on agricultural matters, and the resulting displays are designed to be instructive. The presence at the fair of recreational features such as midway shows, refreshment stands, and a rodeo are incidental to the fair's overall educational purpose.

Rev. Rul. 77-366, 1977-2 C.B. 192, states that a nonprofit organization that arranges and conducts wintertime ocean cruises during which activities to further religious and educational purposes are provided in addition to extensive social and recreational activities is not operated exclusively for exempt purposes and does not qualify for exemption under IRC Section 501(c)(3).

In Better Business Bureau of Washington, D.C., Inc. v. United States, 326 U. S. 279 (1945), the Supreme Court of the United States interpreted the requirement in IRC Section 501(c)(3) that an organization be "operated exclusively" by indicating that an organization must be devoted to exempt purposes exclusively. This plainly means that the presence of a single non-exempt purpose, if substantial in nature, will destroy the exemption regardless of the number and importance of truly exempt purposes.

In Help Children, Inc. v. Commissioner, 28 T.C. 118 (1957) which determined that an organization which conducted bazaars, dances, contests, and other forms of amusement in order to acquire funds for the care and assistance of needy children and children's institutions through contributions did not qualify for exemption under IRC Section 501(c)(3). The facts in that case indicated that an insignificant amount of the organization's gross receipts were actually distributed to charitable organizations leading the court to the conclusion that the organization was not operated for exempt purpose.

In St. Louis Science Fiction Limited v. Commissioner, 49 TCM 1126, 1985-162 (1985), the Tax Court held that a science fiction society failed to qualify for tax-exempt status under IRC Section 501(c)(3). Although many of the organization's functions at its annual conventions (the organization's principal activity) were educational, its overall agenda was not exclusively educational. A substantial portion of convention affairs were social and recreational in nature.

Application of law


IRC Section 501(c)(3) and Treas. Reg. Section 1.501(c)(3)-1(a)(1) set forth two main tests for an organization to be recognized as exempt. An organization must be both organized and operated exclusively for purposes described in Section 501(c)(3). Based on the information you provided in your application, we conclude that you fail both tests.

You do not meet the organizational test under Treas. Reg. 1.501(c)(3)-1(b)(1)(i) because your Articles of Incorporation do not limit your purposes to one or more exempt purposes and they expressly empower you to engage in activities which are not in furtherance of one or more exempt purposes as described in Treas. Reg. 1.501(c)(3)-1(b)(1)(iii). Additionally, your Articles are silent regarding the disposition of your assets upon your dissolution, which also precludes exemption as described in Treas. Reg. Section 1.501(c)(3)-1(b)(4).

You do not meet the operational test under Treas. Reg. 1.501(c)(3)-1(c)(1) because your activities further a substantial non-exempt purpose. Your primary activity is the planning and conducting a rodeo for the community. The facts show you are not operated exclusively for charitable and educational purposes, but for the social and recreational purpose of providing a rodeo for entertainment of the community. Although you do provide some charity, such as scholarships and donations to community organizations, those donations are minimal, and not your primary purpose.

Unlike the organization described in Rev. Rul. 67-216, your rodeo activities are not incidental to any charitable or educational purposes. The annual event described in that ruling had recreational features, but the main purpose was educational. You did not describe any educational activities associated with the rodeo you conduct. Similar to Rev. Rul. 77-366, you have extensive social and recreational activities. Accordingly, you do not qualify for exemption under IRC Section 501(c)(3).

The scholarship distributions totaling only g percent of your total revenue, mirrors the organization described in Help Children, Inc. which was found not operated exclusively for an exempt purpose. Like the organization described in St. Louis Science Fiction Limited, your recreational and social purposes outweigh any IRC Section 501(c)(3) purposes you may have. Although you state that you will donate excess cash to community organizations and provide scholarships, this purpose is only incidental to your recreational events.

Your activities are not inherently charitable. Rather, your primary purpose is providing a rodeo for the entertainment of the community, which is a substantial non-exempt purpose and precludes exemption under IRC Section 501(c)(3), as explained in Better Business Bureau of Washington, D.C., Inc.

Conclusion


Based on the information provided, you do not qualify for exemption as an organization described in IRC Section 501(c)(3). You are neither organized nor operated exclusively for exempt purposes as set forth in Section 501(c)(3). You have a substantial non-exempt purpose of conducting rodeo events for your community, which furthers social and recreational activities and precludes you from exemption under Section 501(c)(3). Your exemption under Section 501(c)(4) remains in effect.

Sincerely,

Stephen A. Martin
Director, Exempt Organizations
Rulings and Agreements

Published July 30, 2021

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