Exempt Organizations

Structuring your exempt organization properly is crucial if you want to get and keep tax exemption and the other benefits that come with it, and meet your fiduciary obligations under state charity law. Your tax-exempt status affects all aspects of your organization, including how you raise funds, conduct activities, pay staff, and make investments. At Caplin & Drysdale we have focused on the special needs of charities and other organizations for decades, helping to get hundreds of new organizations off to a healthy start and then staying with them as they grow and develop. From the smallest charity working with all volunteer help to some of the largest and best-endowed private foundations and institutions, we have seen the special issues exempt organizations face and have planned the strategies to address them.

Representative Engagements

1. A group of state officials from around the country need to establish a new charity as part of a litigation settlement.
   
   Result: Caplin & Drysdale incorporates the new charity, establishes its federal and state tax exemptions on an expedited basis and works with the charity's board and new CEO to identify the most efficient way to build an endowment.
   
   
2. A private foundation is having difficulty managing its minimum annual payout requirements.
   
   Result: Caplin & Drysdale investigates, suggests that the problem can be relieved by having the foundation become an operating foundation, helps the foundation make the necessary operational changes and secures an IRS ruling confirming qualification for operating foundation status.
   
   
3. A foreign charity wants to raise funds in the United States, but U.S. donors cannot deduct their contributions if they give directly to the foreign charity.
   
   Result: Caplin & Drysdale establishes a U.S.-based "friends" organization to support the foreign charity. Contributions from U.S. donors to the friends organization are fully deductible, giving the foreign charity new capacity to raise funds in the United States.
   
   
4. A national organization of war veterans with chapters in nearly every state and an operating budget of over $100 million is facing loss of its ability to receive deductible contributions as the composition of its membership changes.
   
   Result: Caplin & Drysdale converts the national organization to exempt status under section 501(c)(3) and then obtains a group ruling for the chapters under the same section, thereby ensuring deductible contributions regardless of membership. Caplin & Drysdale then prepares detailed materials for the organization on compliance with the requirements of section 501(c)(3).
   
   
5. A major human services group consisting of dozens of interrelated corporations and partnerships has historically reported to the IRS as a church. Having developed new programs in housing and health care, its Board of Directors desires reassurance that church status is still appropriate.
   
   Result: Caplin & Drysdale reviews the organization's programs in several states and all of its organizational documents and provides a report to the board proposing that certain portions of the organization report separately as a church and that others begin reporting as freestanding public charities.

Our Services

If you are planning to establish a new exempt organization or are looking to make significant changes to an existing organization, here are some of the ways Caplin & Drysdale can help:

Creating a New Organization

• Incorporating the organization (including drafting of articles and bylaws)
• Designing a selection process and terms for board members and officers
• Establishing board committees to divide governance responsibilities
• Establishing sound policies for maintaining books and records
• Securing federal and state tax exemption
• Creating advisory boards and other means to expand the organization's network of supporters
• Establishing and implementing conflicts of interest policies

Daily Operations Counseling

• Employee benefit plans
• Leases
• Employment contracts
• Directors' and officers' liability
• Criteria for awarding grants or scholarships
• Record retention policies

Strengthening an Existing Organization

• Reviewing transactions for intermediate sanctions risks
• Improving leadership through changes to board structure and membership
• Identifying options for qualifying as a public charity or operating foundation, rather than a private foundation

The same rules that provide for federal income tax exemption also impose restrictions on a charity's ability to lobby. Failure to comply with these rules can result in penalty tax or loss of exemption. Alternatively, with the right advice and creative thinking, you can use the rules to support an effective lobbying strategy and advance your cause.

Caplin & Drysdale attorneys are intimately familiar with the unique rules and exceptions that affect a charity's ability to lobby. Indeed, our attorneys have played an active role in shaping various aspects of the rules. We have counseled and trained a broad range of charities in lobbying activities. We also work with exempt organizations to ensure that they are in compliance with the Lobbying Disclosure Act. From our location in Washington, D.C., we have the additional advantage of being in frequent contact with IRS and Treasury Department officials. From this exposure, we are able to learn of new developments in the interpretations of the law and more importantly, how the IRS will treat lobbying activities when implemented.

Representative Engagements

1. A large national advocacy group organized as a 501(c)(4) organization but with a 501(c)(3) affiliate needs guidance on how to manage its day-to-day lobbying activities so that both organizations remain in compliance with the law. Questions regarding allocation of expenditures, staff time, and the permissibility of certain activities for the respective organizations arise on a regular basis.
   
   Result: Caplin & Drysdale establishes a relationship so that staff can call regularly and get quick responses that enable them to go forward without having to wait for formal written guidance. Caplin & Drysdale develops guidebooks for the board and staff to use as reference sources and provides training sessions for staff who need a more in-depth understanding of the rules.
   
2. In 1995, the House of Representatives passed the "Istook Amendment," that would have prohibited charities receiving federal grant funds from using their private funds to lobby or engage in other advocacy activities.
   
   Result: Caplin & Drysdale helped Independent Sector (IS) establish that the self-defense exception under the federal tax rules for charities allowed IS members freedom to work against the Istook Amendment. We then articulated the case against the Istook Amendment and helped develop and implement the coalition's lobbying strategy. Following defeat of the Istook Amendment, we helped design, and secure funding for, a follow-up initiative to ensure the defeat of future challenges to the advocacy rights of charities.
   
   
3. A private foundation supports work in a number of controversial areas where grantees frequently raise electoral or legislative issues that need to be resolved sometimes within a day.
   
   Result: Caplin & Drysdale assigns an attorney to staff a "hotline" to answer the Foundation's questions as quickly as possible. Issues include whether it is permissible to conduct advocacy activities in advance of a ballot initiative on a controversial topic, whether a paid mass media ad scheduled to run the next day is grassroots lobbying, and whether staff can be involved in political campaigns on their own time.

Our Services

To help our clients understand and master the lobbying rules that apply to tax exempt charities, we provide the following services:

• Training sessions for staff and/or board members
• Development of guidebooks and handbooks
• Regular telephone consultations
• Formal written advice
• Assistance in preparation of annual information returns with respect to lobbying

As nonprofit organizations search for new opportunities to raise revenue, the potential for Unrelated Business Income Tax (UBIT) liability grows. For example, UBIT questions often arise when renting mailing lists, licensing other intangibles such as names or logos, generating income from debt-financed property or affinity credit cards, and establishing links with or providing content for web-based businesses. With careful planning, your organization can engage in these activities without creating tax liability or threatening your tax exemption. For some business ventures, you may be able to conduct the activity inside the nonprofit by structuring the payments you earn as royalties, rents, interest, or certain other kinds of favorable payments. In other instances, you will need to conduct the business activity through a for-profit subsidiary, thereby protecting the nonprofit's tax-exempt status.

Caplin & Drysdale regularly helps exempt organizations evaluate and structure a variety of business options. Our current work in this area includes numerous matters involving electronic commerce and other internet business strategies. We also have successfully litigated UBIT issues in the Tax Court and in other federal courts and have resolved numerous UBIT disputes at the IRS appeals level.

Representative Engagements

1. A web company approaches a nationally known charitable organization about building a relationship that would produce revenue for the charity. Although clearly interested, the charity is concerned about UBIT consequences.
   
   Result: Caplin & Drysdale reviews the proposed contract and revises the terms to best protect the charity and its donors, and to minimize any UBIT that might arise.
   
   
2. A state university owns valuable patents to medical technology. The inventor, a member of the faculty, proposes that these patents be licensed for commercial development through his private foundation to a taxable research organization he helped establish. The university is uncertain about the implications of this novel proposal for the university.
   
   Result: Caplin & Drysdale works with the university and its outside intellectual property counsel to develop a series of licensing arrangements that protect the university's tax-exempt status, avoid UBIT for the university, and avoid penalty taxes on the inventor.
   
   
3. A charity has developed a highly valuable database and is interested in exploring both nonprofit and for-profit options for generating substantial income from the database to support future operations.
   
   Result: Caplin & Drysdale helps the charity understand the tax and other legal pros and cons of the nonprofit and for-profit options and works closely with the charity's business advisers to determine the optimum legal structure for realizing the economic potential of the database.

Our Services

• Structuring licenses and other royalty arrangements
• Evaluating the special consequences of having controlled subsidiaries
• Reviewing contracts and other business arrangements with Internet companies
• Planning for nonprofit participation in start-up companies
• Advising on cost allocation
• Assisting in filing the UBIT return (Form 990-T)
• Defending against IRS claims of UBIT liability

When the IRS begins an audit of your organization, the possible consequences might be much more serious than simply a bill for tax due. Your exempt organization might lose credibility with the public and with donors, tax-exempt financing, and possibly its exemption altogether. Caplin & Drysdale can defend your exemption – and everything that depends upon it – when the IRS examines you.

Our attorneys have represented all kinds of exempt organizations in every stage of the audit process including litigation. We frequently work as part of a team with in-house counsel, local counsel, and other lawyers who have an established relationship with the organization, to provide our experience with IRS processes and personnel. This experience is often critical to preserve the client's tax-exempt status and minimize any other ill effects from the audit process.

Representative Engagements

1. A large nonprofit health care system was undergoing an IRS audit when the IRS agent proposed revocation of the entire system's exempt status. The client needed sophisticated exempt organizations counsel to help it preserve its exemption and close the audit.
   
   Result: Working with the client and local counsel, Caplin & Drysdale developed a strategy, retained and supervised valuation experts, coordinated fact-finding, drafted an extensive written submission to the IRS, and ultimately negotiated a very favorable settlement with the local agent. The organization retained its exempt status and paid a minimal dollar amount as part of a closing agreement.
   
   
2. A prominent university that had already been subject to an enforcement action by its State Attorney General found itself subject to an IRS audit. Worrying about a large amount of outstanding tax-exempt debt and that its exemption might be revoked (because of the compensation packages for senior officials that the IRS and State Attorney General were questioning), the university went in search of experienced D.C.-based exempt organizations counsel.
   
   Result: Caplin & Drysdale worked with the university and the university's outside counsel to develop a decisive rebuttal to the IRS allegations. Consequently, the IRS agreed to settle the case for a very modest payment.
   
   
3. A foundation affiliated with a public university was concerned about its compliance with all appropriate tax laws. It decided to bring in outside counsel for a thorough review.

Result: Caplin & Drysdale retained the forensic accounting staff of a large accounting firm and coordinated a detailed review of the organization's recent operations. Together with the accounting firm staff, we reviewed the records and interviewed numerous personnel from both the foundation and the university. Caplin & Drysdale then analyzed the results of the review under existing tax law and provided a written report with specific recommendations to the Board of the foundation.

Our Services

We can guide you through the audit process with effective legal analysis and strategies at each of the following stages:

• Initial contact with the IRS agent
• Responses to Information Document Requests
• Preparation of requests for technical advice
• Negotiation of closing agreements
• Protests
• Tax Court litigation

Do you want to create your own private foundation? Are you an established private foundation with questions about daily operations? Do you work with a large private foundation that is trying to manage an innovative program or novel legal issue? Caplin & Drysdale has been helping private foundations navigate the rules governing their special tax status since the rules were first written into the law in 1969. Our founding partner, Tom Troyer, was a principal author of the original Treasury study that forms the backbone for all of these rules. He and other Caplin & Drysdale attorneys have been instrumental in the development of these rules over the past thirty years.

Our work on behalf of clients ranges from helping individuals who want to make traditional grants to helping some of the largest and most innovative foundations in the country explore the boundaries of program-related investments, grantmaking abroad, and venture philanthropy. For foundations that are suffering from poor planning, we help restructure their affairs so that they can hold on to critical assets while avoiding excise taxes. If you are looking for skilled representatives to advise you on the myriad of issues that are unique to private foundations, Caplin & Drysdale attorneys have the experience you need.

1. A famous modern photographer willed the majority of his work to his private foundation. Upon his death, the foundation needed a plan for complying with foundation excise taxes and avoiding its Unrelated Business Income Tax (UBIT) on licensing arrangements.
   
   Result: Caplin & Drysdale advised the foundation on how to structure its activities so that most of its portfolio would be excluded from its asset base for purposes of the payout rules and how to structure licensing agreements to produce royalties that are exempt from UBIT.
   
   
2. An independent filmmaker asked a private foundation for its support of an educational video covering a controversial topic. The project has been rejected repeatedly by commercial sources due to its content. The foundation was eager to support the project but uncomfortable about devoting a large portion of its annual grants budget to a single project.
   
   Result: Caplin & Drysdale negotiated a low interest loan by the foundation to the filmmaker. The loan terms created the possibility for the foundation to recover its funds when the film was distributed commercially. The loan qualified as a PRI and, thus, as a qualifying distribution under the payout rules.
   
   
3. The newly appointed executive director of a large foundation with complex programmatic and investment activities wanted to ensure that the foundation was, and would remain, in full compliance with the private foundation rules.
   
   Result: Caplin & Drysdale conducted a comprehensive compliance audit and provided the executive director with a detailed written assessment of the foundation's compliance posture and recommendations for strengthening safeguards to ensure future compliance. Caplin & Drysdale also provided training sessions for key foundation staff.
   
   
4. An individual died and left to his foundation an interest in a partnership that was encumbered by debt. The existence of the debt raised a serious question as to whether successive distributions from the testator's estate would each be an act of self-dealing under the private foundation rules. The executors considered at length the best means for dealing with this issue, however, extensive efforts to negotiate a solution had proven unsuccessful. They turned to Caplin & Drysdale for help.
   
   Result: Taking advantage of a specific exception in the self-dealing rules for certain types of transactions, Caplin & Drysdale obtained an IRS ruling confirming that all distributions of the partnership interest to the foundation will not be deemed self-dealing.

Our Services

• Creating and funding a private foundation
• Planning for gifts of business assets
• Counseling on grants that may have a connection to legislative advocacy
• Achieving operating foundation status
• Analyzing potential jeopardy investments
• Strategic planning for program-related investments and/or grantmaking abroad
• Managing required records on grants
• Preventing acts of self-dealing
• Planning to make required minimum annual payout

1. A for-profit company selling products over the Internet wanted to build alliances with well-known charities by offering items specially for their members and supporters. It needed advice on how to reassure the charities that working with the company would not result in UBIT or, worse, loss of exemption.
   
   Result: Caplin & Drysdale helped the company design the terms of the alliance and the materials to be used with the charities and then provided an opinion on the tax consequences. Using the opinion, the company was able to attract one of the country's largest and best-known charities as a partner within a few months.
   
   
2. A large national charity was approached by a for-profit company about turning one of the charity's Web sites into a profitable business through a joint venture.
   
   Result: Caplin & Drysdale recruited and coordinated a multi-disciplinary team to advise the charity on how to structure the transaction, and then led the charity's negotiation team. After negotiating a highly favorable deal for the charity, Caplin & Drysdale advised the charity on closing and implementing the transaction and provided an opinion on the pertinent tax issues raised by the transaction.
   
   
3. A charity that had developed an extremely valuable database and Web site wanted to explore the potential for using venture capital and/or a strategic alliance with major technology companies to finance significant improvements to its technical, marketing, and customer service capabilities.

Result: Caplin & Drysdale helped the client assess the legal and operational implications of a range of alternative structures and negotiated with potential venture partners on behalf of the charity.

If your exempt organization is contemplating a joint venture, we can help you structure the deal to:

• Protect your organization's tax-exempt status
• Minimize UBIT
• Protect your organization's name and other valuable intellectual property
• Assess any special tax consequences of Internet-based transactions

When your organization commits significant resources to advance a legislative or regulatory strategy, you want advocates who not only are conversant with the existing rules governing exempt organizations, but who also know how to persuade policymakers.

Caplin & Drysdale's exempt organizations attorneys have that precise blend of experience. Many of our attorneys have served in policymaking positions at Treasury, the IRS, or on Capitol Hill. One spent a number of years coordinating lobbying activities for a major national charity. Our team members are able to craft and effectively execute legislative and regulatory strategies on issues unique to exempt organizations. We use our familiarity with the history of many of these issues and our experience in structuring advocacy efforts to help our clients choose the strategy that has the greatest likelihood of success.

After developing a strategy, we help our clients explain and build support for that strategy with their constituents, and we help in all aspects of making their case to policymakers. As part of this effort, we create concise, persuasive written materials that provide government personnel with exactly the information that they need. Having been on the receiving side of such presentations, many of our lawyers are particularly sensitive to the need to be brief but thorough with government personnel.

1. The Council on Foundations wanted to ensure that gifts of appreciated stock to private foundations would be fully deductible on a permanent basis. Because most major private foundations are started with gifts of highly appreciated stock, successful resolution of the issue was vital to the continued growth of the foundation field.
   
   Result: We first worked with the Council in the early 1980s to persuade Congress to enact legislation making gifts of appreciated stock to private foundations deductible up to the fair market value of the stock (subject to a limitation based on taxable income). When the legislation was set to expire ten years later, the Council again sought our assistance to get multiple renewals and, ultimately, a permanent provision passed.
   
   
2. In 1993, in the wake of several high-profile scandals involving officers and directors of various charities, Congress began considering new rules to curb insider misconduct. Independent Sector needed assistance evaluating the various proposals and determining what its approach should be.
   
   Result: Caplin & Drysdale worked with Independent Sector to weigh the pros and cons of new federal rules. Concluding with Independent Sector that legislation was needed, but concerned about possible over-regulation, we developed a detailed legislative proposal on Independent Sector's behalf. It was this proposal that formed the basis for the "intermediate sanctions" legislation that was ultimately enacted.
   
   
3. A large group of community foundations was concerned about a legislative proposal issued by the President that would affect their donor-advised funds. The community foundations wanted assistance in convincing the Administration to alter its approach and in ensuring that any legislation that was enacted would be acceptable to the group.
   
   Result: Caplin & Drysdale analyzed the Administration's proposal, helped the community foundations develop a consensus on the legal structure they wanted, and then helped carry their views to the Administration and Capitol Hill. As a result of this work, the Administration acknowledged flaws in its initial proposal, and progress on legislation has been slowed, thereby giving the community foundations the time they need to secure legislation they prefer.

• Timely notice and analysis of key legislative and regulatory developments
• Planning strategy for advocacy
• Making oral presentations to staff
• Drafting focused position papers, statements for the record, and testimony