Summary of Federal Laws
Miscellaneous Tax Issues
In 1996, Congress created a I.R.C. § 4958; the intermediate sanctions provision for tax-exempt organizations that engage in transactions that result in excess benefit. In general, the term excess benefit transaction means any transaction in which an economic benefit is provided by a tax exempt directly or indirectly to or for the use of an disqualified person if the value of the economic benefit provided exceeds the fair market value of the goods or services the organization receives in return. Excess benefit transactions are not limited to compensation and fringe benefits; they are intended to encompass a broad range of transactions such as purchases, sales, leases, or any other transfer of value between the organization and an insider. A disqualified person means, with respect to any transaction, 1) any person who was at any time during the 5 year period ending on the date of the transaction in a position to exercise substantial influence over the affairs of the organization, 2) a member of the family of an individual above described, or 3)a 35 percent controlled entity.
First tier taxes on an excess benefit transaction are 25 % on the disqualified person and 10% on an organization manager who knowingly participated in the illegal transaction. A 200% penalty may be imposed on the disqualified person for failure to correct.
In addition to imposing penalties on the person unduly benefited and a manager with prior knowledge, the law requires I.R.C. § 501(c)(3) and (4) organizations to include on Form 990s information on disqualified persons, excise tax penalties, and excess benefit transactions. Audits may include a look at the relationship a lender has to the university, and what the benefits might be to the lender, as well as a look at all financing arrangements.
On. Jan. 23, 2002 the IRS released the final regulations on Intermediate Sanctions. (67 Fed. Reg. 3076). For a summary of the final regulations see 2002 TNT 15-6. The regulations are very similar to the temporary regulations that came out in Jan. 2001. One difference is that housing provided for the convenience of the employer is not excluded from consideration of executive compensation
Organizations wishing to ensure that compensation packages for insiders or transfers of property are in compliance with the tax law should take steps to create the rebuttable presumption of reasonableness explained in the regulations. Payments under compensation arrangement will be presumed to be reasonable, and transfer of property (or right to use) will be presumed to be at fair market value if the organization can show the following three conditions have been met:
· The transaction is approved by an authorized body of the organization which is composed of individuals who do not have a conflict of interest concerning the transaction. For example, if the treasurer is on the board of directors, the treasurer must excuse him/herself from the director's meeting during the discussion and vote on compensation.A single individual may constitute either a committee of the governing body or a party authorized by the governing body to act on its behalf if state law allows a single individual to act in either of these capacities.
· Prior to making the determination, the authorized body obtained and relied upon appropriate data as to comparability or fair market value of the consideration.
· The authorized body adequately documents the basis for the determination concurrently with making the determination. Documentation of the basis for the determination must take place before the later of the next meeting of the authorized body or 60 days after the final actions are taken, and approval of records as reasonable, accurate, and complete within a reasonable time thereafter.
The regulations provide that an organization manager's participation in an excess benefit transaction will ordinarily not be considered knowing to the extent that, after full disclosure of the factual situation to an appropriate professional, the organization manager relies on a reasoned written opinion of that professional with respect to elements of the transaction within the professional's expertise. For this purpose, appropriate professionals are legal counsel (including in-house counsel), certified public accountants or accounting firms with expertise regarding the relevant tax law matters, and independent valuation experts who meet specified requirements.
Independent contractors, including attorneys and accountants, whose sole relationship to the organization is providing professional advice with respect to transactions from which he or she will not benefit are not disqualified persons. Also, an exception for initial contracts with a previously unrelated person (e.g. a new President) is retained in the final regulations. As in the temporary regulations, the section on revenue sharing transactions is reserved.
Intermediate Sanctions and Supporting Organizations
The Pension Protection Act of 2006 made significant changes to this law as it relates to supporting organizations and "disqualified persons." See the NACUANOTE below under resources.
Final Rule: Standards for Recognition of Tax-Exempt Status if Private Benefit Exists or if an Applicable Tax-Exempt Organization Has Engaged in Excess Benefit Transaction(s),73 Fed. Reg. 16519 March 28, 2008
This rule adds examples to existing regulations illustrating the principle that in order to qualify for tax exempt status, an organization must serve a public rather than private interest. This document also contains provisions that clarify the relationship between the substantive requirements for tax exemption under section 501(c)(3) and the imposition of section 4958 excise taxes on excess benefit transactions.
Standards for Recognition of Tax-Exempt Status if Private Benefit Exists or If an Applicable Tax-Exempt Organization Has Engaged in Excess Benefit Transaction(s)
70 Fed. Reg. 53599, Sept. 9, 2005 Notice of Proposed Rulemaking
These proposed regulations amend the regulations under section 501(c)(3) to provide guidance on
certain factors that the IRS will consider in determining whether an applicable tax-exempt organization described in section 501(c)(3) that engages in one or more excess benefit transactions continues to be described in section 501(c)(3). The general rule is that the IRS will consider the following four factors in determining if a tax exempt organization, which has had excise taxes imposed under Section 4958 of the law, continues to retain its tax exempt status:
1) Whether the organization has been involved in repeated excess benefit transactions;
(2) the size and the scope of the excess benefit transactions;
(3) whether, after concluding that it has been party to an excess benefit transaction, the organization has
implemented safeguards to prevent future recurrences; and
(4) whether there was compliance with other applicable laws.
This proposed rule contains examples of how to determine if a 501(c)(3) serves a public rather than private interest.
NACUANOTES Dec. 19, 2006 The Pension Protection Act of 2006: Charitable Giving and Reform Measures Impacting Colleges and Universities: This is an excellent resource that gives an overview of all sections of this new law that impact colleges and universities, including the provisions on charitable substantiation. Many helpful hyperlinks included. This memo has a section on intermediate sanctions and supporting organizations.
IRS Publication "Automatic" Excess Benefit Transactions under IRC 4958
This new (April 2005) section of the Internal Revenue Manual provides IRS examination guidelines on excess benefit transactions, and helpful checklists.
CCR updated CFR links 6/18/15