Exempt Social Welfare Organization Converts to Quasi‐governmental Entity

• DOI: http://doi.org/10.1002/npc.30246
• Published date: 01 October 2016
• Date: 01 October 2016

Bruce R. Hopkins’ NONPROFIT COUNSEL

5

October 2016

THE LAW OF TAX-EXEMPT ORGANIZATIONS MONTHLY

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

greater than the percentage used to ascertain the annu-

ity payments, exhaustion will never occur.

If a trust would, but for a qualified contingency, meet

the requirements for a CRAT (or a charitable remainder

unitrust), the trust is deemed to meet these require-

ments (IRC § 664(f)(1)). For purposes of determining the

amount of a charitable deduction (or actuarial value of

any interest), a qualified contingency is not taken into

account (IRC § 664(f)(2)). A qualified contingency is a

provision of a trust that provides that, on the happening

of a contingency, the income payments will terminate

not later than these payments would otherwise termi-

nate under the trust document (IRC § 664(f)(3)).

Facts

Recently, low interest rates have greatly limited use

of the CRAT as an effective charitable-giving vehicle. For

example, in May, the assumed rate was 1.8 percent. At

this interest rate, the sole life beneficiary of a CRAT that

provides for payment of the minimum allowable annuity

(the 5 percent rule) must be at least 72 years of age at

creation of the trust for the trust to satisfy the probability-

of-exhaustion test. The assumed rate has not exceeded

the 5 percent annuity payout rate since December 2007;

this has necessitated testing for the probability of exhaus-

tion for each CRAT created since that time.

Prototype Provision

The provision provides for early termination of the

CRAT, and thus the end of the ability to make any more

annuity payments, on the date immediately before the

date on which any annuity payment would be made, if

the payment of the annuity amount would result in the

value of the trust corpus, when multiplied by a special

discount factor, being less than 10 percent of the value

of the initial trust corpus.

The benefit of this IRS guidance—where the provi-

sion is “assured” of treatment as a qualified contin-

gency—is available only when its “precise language”

is used. A CRAT that contains a provision “similar but

not identical” to that provided will not necessarily be

disqualified, but it also will not garner the assurance.

[8.6(a), 12.2(a), (b)] ◆

EXEMPT SOCIAL WELFARE

ORGANIZATION CONVERTS

TO QUASI-GOVERNMENTAL

ENTITY

An organization functions to promote public edu-

cation and improve public school board governance

in a state. Its membership consists of states, political

subdivisions of states, and entities the income of which

is otherwise excludable from gross income (IRC § 115).

This entity is a tax-exempt social welfare (IRC § 501(c)

(4)) entity.

This organization formed a trust to provide risk man-

agement and insurance-related services to its members.

The trustees of the trust are elected by members of the

organization. The trust placed the majority of its insur-

ance programs in a for-profit wholly owned subsidiary.

The trust is also the sole member of a company that pro-

vides insurance services to the public school members of

the organization. The trust is planning on selling its stock

in the subsidiary and substantially all of the assets in the

company for fair value.

After these transactions, the trust will primarily

engage in programs that strive to advance public educa-

tion in the state. Its activities will include training ses-

sions and conferences, and dissemination of information

in other ways, and administering a student accident

insurance program and programs to inform the public

of the conditions and needs of public schools.

The IRS ruled that these activities of the trust will be

essential governmental functions, that income from the

sales transactions will be excluded from gross income,

and that income to the trust generally will be excluded

income, so that the trust essentially will be tax-exempt

by reason of the gross income exclusion rule (Priv. Ltr.

Rul. 201634012). [19.22(b)]

Commentary: This is a nice illustration of a nonprofit

organization’s ability to gain tax exemption via the IRC

§ 115 route, and thus sidestep nearly all of the regula-

tory rules otherwise applicable to exempt entities (usually

those exempt by reason of IRC §§ 501(c)(3) or (4)). Query:

Why doesn’t the 501(c)(4) organization convert? ◆

(NO) EXEMPT BUSINESS

LEAGUE CORNER

• A nonprofit corporation, with the purpose of sup-

porting and promoting professional innkeepers in a

state that are committed to the “highest standards

of excellence in distinctive lodging accommoda-

tions,” was granted recognition of tax exemption

as a business league (an IRC § 501(c)(6) entity). An

ensuing examination by the IRS revealed that this

entity’s principal activities are advertising for its

members, provision of ACH and credit card process-

ing services, and sale of gift certificates. The IRS ruled

that these activities constitute the performance of

particular services for the organization’s members,

as well as commercial and private benefit undertak-

ings, and that the exemption should be retroac-

tively revoked (Priv. Ltr. Rul. 201633035). [4.11(a),

20.12(a), 14.2(c)]

• Another networking organization failed to gain rec-

ognition of exemption as a business league. This one