A fundraiser is not an insider.

• Author: Bliha, Richard
• Position: Private inurement rules influencing tax-exempt status of nonprofit organizations

Recently, the Seventh Circuit issued its opinion in United Cancer Council, 2/10/99, which reversed the Tax Court and held that a fundraising company was not an "insider" for purposes of the Sec. 501(c)(3) private inurement rules. The case was remanded to the Tax Court to settle the still-unresolved question of whether the fundraising contract resulted in improper private benefit to the fundraiser, leaving practitioners still uncertain as to how the case will eventually be resolved.

In 1984, the United Cancer Council (UCC) entered into an exclusive five-year contract with a fundraising company to raise funds through a direct-mail campaign. At the time of the execution of the contract, UCC was on the verge of bankruptcy and had a minimal operating budget. UCC's board of directors engaged the fundraising company to raise the funds necessary for its survival. From 1984 to 1989, the fundraising company helped UCC conduct a nationwide direct-mail fundraising campaign. UCC received about $2.3 million in net fundraising revenue under the contract. The fundraising company received more than $4 million in fees from UCC and derived substantial income from exploiting co-ownership rights in UCC's mailing list, which had been granted to the fundraiser under the contract.

When the IRS revoked a favorable ruling letter retroactively to 1984, UCC initiated Tax Court proceedings to determine if it qualified as an exempt organization and as an eligible charitable donee. The Tax Court found that the fundraiser was an "insider" who exercised substantial influence and control over the organization due to the terms of the contract (i.e., the fundraiser was able to manipulate and control the exempt organization).

The Seventh Circuit reversed and remanded the Tax Court's decision, holding that there was no diversion of charitable revenues to an insider. The appeals court rejected the Service's argument that the arm's-length fundraising contract was so advantageous to the fundraiser and so disadvantageous to UCC that the charity essentially had surrendered control of its operations and earnings to a private third party. Although the court questioned UCC's judgment in entering into the contract, it found the contract to be negotiated at arm's length and stated that the charity "drove (so far as the record shows) the best bargain that it could, but it was not a good bargain." The appeals court further wrote that private inurement "is designed to prevent the siphoning...