Contemplating Excise Tax on University Endowments

• Date: 01 January 2018
• DOI: http://doi.org/10.1002/npc.30420
• Published date: 01 January 2018

Bruce R. Hopkins’ NONPROFIT COUNSEL

7

January 2018

THE LAW OF TAX-EXEMPT ORGANIZATIONS MONTHLY

Bruce R. Hopkins’ Nonprofit Counsel DOI:10.1002/npc

the Rev. Proc. 96-32 criteria, and thus are members of a

charitable class. This contention was rejected by the IRS

because the organization will only own the land; the resi-

dents are required to purchase their homes. The IRS stated

that the criteria are “designed to measure the complete

expense of housing against the income of a resident.”

This organization, the IRS concluded, by contrast, does not

provide a “complete housing unit.” [7.4, 20.12(a)]

◆It’s been a long time since we saw an attempt by a

stock-based for-profit corporation to gain recognition of

tax exemption; it has just happened. Needless to say, the

IRS declined the recognition on the grounds of private

inurement (Priv. Ltr. Rul. 201746027). This organiza-

tion would not have qualified as an exempt agricultural

organization, even as a nonprofit entity, because it is

operating a business (sale and repair of commercial egg

graders) rather than bettering the conditions of agricul-

tural pursuits. [20.5(e), 16.2]

◆A nonprofit organization was formed as a trade asso-

ciation for franchisees of a particular brand, to promote

cooperation among its members and to foster their trade

and commerce; to disseminate information essential

for members in the conduct of their businesses; and to

otherwise promote the best interests of the franchisees.

As it should, the IRS ruled that this organization is not

entitled to tax-exempt status, in that it is performing

services for the benefit of the franchise businesses rather

than improving business conditions of one or more lines

of business (Priv. Ltr. Rul. 201746028). [14.2(c)(i), (ii)]

◆Still another attempt to have a tax-exempt charitable

farmers market has failed (Priv. Ltr. Rul. 201747009). This

organization creates an opportunity for local producers

to sell their goods, which (1) is not a charitable pursuit

and (2) generates private benefit (namely, fees) for the

vendors. The IRS noted that the local government is not

involved with the operation of the market (eliminating

that rationale for exemption) and that the organization’s

activities are not educational. [4.5(a), 20.12(a)] ◆

CONTEMPLATING EXCISE

TAX ON UNIVERSITY

ENDOWMENTS

The tax reform bills would impose an excise tax of

1.4 percent on an applicable educational institution’s

net investment income for the year (proposed IRC §

4969). This tax would not be applicable to the income

from assets that are directly used in carrying out exempt

purposes.

An applicable educational institution would be

defined as a college, university, or school that (1) has at

least 500 students, (2) is a private institution, and (3) has

an aggregate fair market value of investment assets that

is at least $250,000 per full-time student.

As an illustration, contemplate a private educational

institution that has an endowment of $37 billion, not

involving any exempt-function assets (e.g., the June

2016 issue). This institution has 10,000 full-time stu-

dents. The institution is an applicable educational institu-

tion because its ratio of assets per student is $3.7 million.

The endowment assets generated an 8 percent return in

the most recent year; that amounts to $2.96 billion. The

institution would be subject to an excise tax of $41.44

million for the year. ◆

PROPOSAL WOULD CODIFY

CONCEPT OF “PHILANTHROPIC

BUSINESS”

The provision in the tax reform bills that would, for

the benefit of the Newman’s Own Foundation, create

an exception from the private foundation excess busi-

ness holdings rules (proposed IRC § 4943(g)) would

statutorily introduce the philanthropic business. This

type of business would be required to meet three

tests: ownership requirements, an all-profits-to-charity

distribution requirement, and independent operation

requirements.

Pursuant to these ownership requirements, all of the

voting stock in the business enterprise would have to be

held by the private foundation at all times during the

year and none of the foundation’s ownership interests

in the enterprise may have been acquired by purchase.

The all-profits-to-charity requirement would be met

if the business enterprise, no later than 120 days follow-

ing the close of the year distributes an amount equal

to its net operating income for the year to the private

foundation. The provision would define the phrase net

operating income.

The independent operation requirements would be

met if at all times during the year no substantial con-

tributor (IRC § 4958(c)(3)(C)) to the foundation or family

member of this type of contributor (IRC § 4958(f)(4)) is a

trustee, director, officer, manager, employee, or contrac-

tor of the business enterprise (or an individual with simi-

lar powers or responsibilities). Also, at least a majority

of the foundation’s board could not also be directors or

officers of the business enterprise or be family members

of a substantial contributor to the foundation. Further,

there could not be a loan outstanding from the business

enterprise to a substantial contributor to the foundation

or a family member of this type of contributor.

The concept of the philanthropic business would

not apply with respect to deemed private foundations

(donor-advised funds and certain supporting organiza-

tions (IRC § 4945(e), (f)), certain charitable trusts (IRC §

4947(a)(1)), and split-interest trusts (IRC § 4947(a)(2)).

[12.4(c)] ◆