Eradication of World Hunger Thwarted by Private Benefit Doctrine

Published date01 January 2015
Date01 January 2015
January 2015
Bruce R. Hopkins’ Nonprofit Counsel DOI:10.1002/npc
center, without disturbance of its tax-exempt status and
without incurrence of any unrelated business income tax
(Priv. Ltr. Rul. 201444043).
This supporting organization provides, to and for
the benefit of the university, a broad range of financial
support, including fundraising, asset administration,
and investment activities. This organization is the sole
member of a limited liability company (LLC), which is a
disregarded entity for federal tax purposes.
The LLC purchased commercial property (Retail
Center) adjacent to the university’s campus, partially
financing the acquisition. The Retail Center’s buildings
are leased to tenants, with the lease amounts fixed and
not based on net income or profits. The business reasons
for this purchase include (1) the unique opportunity
to enhance the university’s community by investing in
property adjacent to the campus, (2) the opportunity
to acquire the property at a favorable price from a dis-
tressed seller, and (3) the opportunity to realize a signifi-
cant return on investment in the form of rental revenue
and long-term appreciation in the property’s value.
The LLC is required to provide certain property man-
agement and maintenance services with respect to the
Retail Center. It will contract with a third-party manage-
ment company to conduct these activities. Thus, neither
the supporting organization nor the LLC will engage in
the activities.
The supporting organization affirmed to the IRS that
the acquisition of the Retail Center has not altered the
nature of its charitable program. It also affirmed that,
ultimately, all of the net profits from the Retail Center
will be granted to the university or otherwise expended
on its behalf.
The IRS first ruled (without much difficulty) that
operation of the Retail Center is an unrelated business,
noting that “[r]enting retail space is an activity carried
on for profit.” This activity is regularly carried on and is
not substantially related to the supporting organization’s
exempt purposes.
The rental activities were held to be routine prop-
erty management and maintenance services, and not
the provision of personal services by a landlord to its
tenants. The exclusion for rent (IRC § 512(b)(13)) was
not available because the property acquisition was debt-
financed. Nonetheless, because the university and the
supporting organization are qualified organizations (IRC
§ 514(c)(9)(C)), the debt-financed rental income from
the Retail Center is not taxable as unrelated business
income (IRC § 514(c)(9)(A)).
The IRS then decided that operation of the Retail
Center by the LLC will not jeopardize the supporting
organization’s exempt status. This is because the organi-
zation will continue to meet the primary purpose test
inasmuch as its program of supporting the university
will remain commensurate in scope with its financial
resources. Also, the IRS concluded that the supporting
organization is not functioning as a feeder organization
(IRC § 502). [24.12(c)]
Note: Behold the power of IRC § 514(c)(9).
EradIcaTIon oF WorLd
hunGEr ThWarTEd bY
PrIvaTE bEnEFIT docTrInE
The IRS decided that an organization striving to
eliminate world hunger cannot be tax-exempt because
of financial integration with a for-profit company
and a one-individual governing board (Priv. Ltr. Rul.
An individual discovered an aspect of hydroponics tech-
nology as to which he has a patent pending (T System). The
T System entails a soilless growing process, which can run
without conventional power and aid in growing food in
impoverished regions of the world where fertile soil and
clean water are scarce. A horticultural expert advised that
this new technology can ultimately solve the problem of
global starvation. This consultant recommended chang-
ing the T System to a stand-alone system. This individual
formed a nonprofit corporation to further the research and
development of the T System, and obtain benefactors in
support of his invention. The purpose of this corporation is
to “eliminate world hunger.”
So far, 80 percent of this organization’s time has been
dedicated to prototyping and working with a manufac-
turer to bring the T System into being. It has also been
working closely with an engineer and a marketing agent.
This inventor has a for-profit company, which is to
market and distribute the T System. The corporation
uses a website; it has a link to the for-profit’s website
for purchasing the T System. The nonprofit organization
advised the IRS that it does not want the public to differ-
entiate between it and the for-profit company because
it wants purchasers of the system to know that the
proceeds are “going directly to building food machines
to feed the starving.”
The public is advised that, for every (redacted) number
of systems sold, the company will donate a system to the
nonprofit entity to, in the language of the ruling, “get it
to the places that need it most.” Also, the company will
contribute a (redacted) percentage of its sales proceeds
to the nonprofit organization for development of the T
System. Once a prototype of this system is developed,
it will be tested in a “hostile region of the world.” Two

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