Beware U.S. tax rules on grants to foreign organizations.

• Author: Cocco, James W.

Countries are recognizing a need for public assistance with their social welfare and educational systems, as well as for relief from disasters, natural or otherwise. Many nations have enacted laws to allow for the creation of nongovernmental not-for-profit organizations (NGOs). Many NGOs receive assistance from U.S. nonprofit organizations in the form of grants. Making grants to foreign organizations in the post-September 11 era has become more challenging and can result in adverse tax consequences for unwary U.S. grantor organizations. The IRS and Treasury have provided some guidance, but there are few rules on which U.S. exempt organizations can rely when making cross-border grants.

A U.S. tax-exempt grantor organization making grants is under increased scrutiny to document its relationships to foreign grantees, and can be penalized if it does not. These organizations should examine four factors for cross-border grants and determine whether the:

1. Organization receiving the grant has an IRS-issued U.S. determination letter;

2. Foreign recipient organization uses the grant for activities consistent with the grantor's exempt purpose;

3. Grantor organization is a public charity or private foundation; and

4. Grant is made in consideration of the Treasury's updated anti-terrorist financing guidelines.

   Foreign Organization with U.S. Determination Letter

   If the foreign recipient organization has a determination letter from the Service, a grant will be treated as if made to a U.S. organization with a determination letter. A U.S. public charity is limited to making grants for activities consistent with its exempt purposes; the requirement is presumed to have been met if the grant is made to another Sec. 501(c)(3) organization. The presumption that a grant was a qualifying payment to a public charity can, however, be rebutted by the IRS if evidence exists that the grant was not used for allowed exempt purposes (e.g., a grant used for excessive legislative lobbying in a foreign country).

   If the grantor organization is a private foundation, Sec. 4945(h), dealing with expenditure responsibility, will apply. The foundation's determination of whether a grant is a qualifying distribution for Sec. 4942 purposes will be simplified if the foreign recipient has an IRS determination letter; it may rely on the Service's determination that the foreign organization is exempt under Sec. 501(c)(3).

   Grant by U.S. Public Charity to Foreign Organization without...