The Internet and tax-exempt organizations.

• Author: Blazek, Jody

EXECUTIVE SUMMARY

* Use of a Website to publish information about an organization simply replaces brochures and reports now available on paper with no negative tax consequences.

* For all categories of exempt organizations, the character of revenues generated through a Website and delivery of services via electronic communication will depend on the relationship between the activity generating the revenue and accomplishment of the organization's exempt purposes.

* There is a list of questions an organization producing revenue from its Website should ask to determine whether its Web activities produce UBI.

As more and more exempt organizations move toward a presence on the Internet, a host of questions arise to determine whether such presence may trigger loss of exempt status or recognition of unrelated business income (UBI). This article explores the types of services exempt organizations normally provide and explains why use of the Internet to offer these services should not necessarily endanger exempt status or trigger UBI.

Most exempt organizations are beginning to use the Internet as a tool for conveying and accomplishing their mission. Opportunities to provide links between an Organization's Website and other Websites abound, making it increasingly important for exempt organizations and their advisers to familiarize themselves with the effect of the use of electronic communication systems on exempt status. The issue is evolving; in 1999, Treasury solicited public comments on the application of existing rules regarding Internet use. Readers must be alert for new developments.

Exempt Status Issues

To obtain recognition and maintain exempt status, a nonprofit organization must be dedicated to and devote its primary energies to conducting activities that accomplish a qualifying exempt purpose. The standards for qualification under the different Sec. 501(c) categories are well defined and documented in regulations, Internal Revenue Manuals for exempt organizations and private foundations, countless published and private IRS rulings and court decisions.(1) The IRS Fiscal 2000 CPE Text for Exempt Organizations states that the "use of the Internet to accomplish a particular task does not change the way the tax law applies to that task."(2) Thus, the existing standards can be studied to make determinations about the character of electronic communication activities. Logically, the Code and regulations should be applied consistency without regard to the medium in which activities are conducted, although the unique nature of the Internet presents some new dimensions (as discussed below).

Electronic communication is a relatively unexplored area of activity for exempt organizations.(3) In 1974, the IRS approved exemption for a regional computer network for a consortium of colleges and universities, because it advanced education.(4) In 1981, a computer network to exchange bibliographic information between libraries was ruled to be a Sec. 501 (c)(3) organization, even though some of its members were not exempts The.(5) IRS 1999 CPE Text for Exempt Organizations states, "Internet Service Providers [ISPs] have usually been denied exemption because they are viewed as carrying on a trade or business for profit, or conferring an [un]mixed private benefit, or both."(6) "Providing communication services of an ordinary commercial nature in a community, even though the undertaking is conducted on a nonprofit basis, is not regarded as conferring a charitable benefit on the community unless the service directly accomplishes one of the established categories of charitable purposes."(7) IRS technicians were told to "peruse the ISP's home page to evaluate its exempt character as a source of public information and to see if `placards,' `banners' and links to commercial sites constitute advertising that create unrelated business income."

Regarding exemption qualification for an organization that operates exclusively on the Internet, an IRS representative contrasted an interactive medical organization (that might qualify as educational) with an online church (that the Service does not believe could qualify as having a regular congregation and meeting the other requirements of the 14-point test for church status).(8) Again, the medium for accomplishing the charitable or other nonprofit mission should not, per se, deprive an organization of eligibility for exempt status. Is there a reason religious worship services cannot be provided to a virtual congregation solely on the Internet? Why not an e-marriage? Must spiritual ceremonies take place in a physical space?

ISPs

Before 1998, ISPs were usually denied exemption, because they were viewed as a business, conferring private benefit, or both.(9) "Providing communication services of an ordinary commercial nature in a community, even though the undertaking is conducted on a nonprofit basis, is not regarded as conferring a charitable benefit on the community unless the service directly accomplishes one of the established categories of charitable purposes."(10) This language from IRS training courses should be carefully studied for an ISP seeking exempt status.

An ISP operated as an adjunct or integral part of a university, public school, library system or a local government qualifies for exemption. Accountability and control, dependence on government grants (rather than user fees) and free access by students, library patrons and the general public are said to be characteristics that evidence a charitable ISP. Such an ISP might also qualify as relieving the burdens of government.

Providing Information

Nonprofit organizations increasingly use Websites to post information about their programs and to communicate with constituents. Use of a Website to publish information about an organization (e.g., tuition rates, grant applications, deadlines, admission standards, locations, caregiver resumes and other descriptive program information) simply replaces brochures and reports now available on paper with no negative tax consequences. Any dissemination of information through the Internet to advance the accomplishment of an organization's exempt purposes should be permitted. A site might also contain a bulletin board for constituent communication, such as a parent forum concerning childcare issues.

Linking an organization's site to sites of other exempt organizations that contain reference materials, services or resources pertaining to its exempt function should also be considered an exempt activity. For example, a childcare provider should be able to link its site to a mental health agency, the school district, an association of child psychiatrists and a child protective service agency. Links that might cause concern regarding exempt status or produce unrelated business income (UBI) are discussed below. Publishing information on legislation and elections on an organization's Website will have varying consequences for different types of exempt organizations. Posting a position on proposed legislation or a political candidate online might violate the existing rules that limit printed and broadcast lobbying and election activities by charities, but could be permissible for other types of exempt organizations. If information on a Website is available for all to see, the rules for communicating with an organization's members will not necessarily apply.

Providing Services

Rendering services to an organization's exempt constituents that advances the mission should similarly be considered an exempt activity. Again, the standards for identifying services that promote the mission are well documented. A business league that sells legal forms to industry members to provide common conveyance documents should certainly be allowed do so electronically.(11) An organization that provides counseling, resource information and transportation assistance to the elderly and handicapped should be able to do so through its Website.(12) A legal aid society could provide advice and documents electronically.(13) Providing bibliographic information to libraries has been found to be an exempt function that can be an exempt service when provided on the Internet.(14)

Fees for Internet Activities

When information, goods or consulting services are sold on an organization's Website, revenues may or may not be taxable. For all categories of exempt organizations, the character of revenues generated through a Website and delivery of services via electronic communication will depend on the relationship between the activity generating the revenue and accomplishment of the organization's exempt purposes.(15) Any charges made by the organizations described in the preceding paragraph would represent exempt-function revenues related to the mission. In considering other situations, the standards for defining "relatedness" under Sec. 513 and the labyrinth of exceptions and modifications applied in calculating taxable income under Sec. 512 can provide answers. The Regs. Sec. 1.513-1 (c)(2)(i) irregular activity exception might apply, depending on the time frame and nature of a sales activity. The profits from the online sale of donated goods would be excluded from tax.(16) Without question, an organization that exploits its own Website in a commercial fashion or provides Internet services to the...