IRS Concocts New Basis for Revocation: “Sharp Business Practices”

• DOI: http://doi.org/10.1002/npc.30390
• Date: 01 November 2017
• Published date: 01 November 2017

Bruce R. Hopkins’ NONPROFIT COUNSEL

November 20174THE LAW OF TAX-EXEMPT ORGANIZATIONS MONTHLY

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

Analysis

The Foundation will not have any excess business

holdings in the Company because, as noted, it and

its intermediaries are not business enterprises (IRC §

4943(d)(3)(B)). The Foundation is treated as owning

its proportionate share of any interest in any business

(including the Business) that is owned by the Company

or its intermediaries (IRC § 4943(d)(1)).

The Foundation’s constructive ownership of the Busi-

ness is computed on the basis of the voting stock the

Foundation has in the Company (Reg. § 53.4943-8(a)(3)).

The voting shares in the Company are the voting stock,

because the percentage of voting stock held by any per-

son in a corporation is normally determined by reference

to the power of stock to vote for the election of directors

(Reg. § 53.4943-3(b)(1)(ii)). The Foundation’s option to

purchase the Trust’s voting stock in the Company is not

an equity interest (Reg. § 53.4943-3(b)(2)(i)). The IRS con-

cluded that the Foundation will own 20 percent of the

voting stock of the Company and thus will constructively

own 20 percent of the Company’s interest in the Business.

Even though the Foundation will own nonvoting

stock of the Company, the stock is treated as nonvot-

ing stock of any corporation (including the Business) in

which the Company has an interest. Thus, the Founda-

tion’s 100 percent nonvoting stock of the Company does

not result in the Foundation’s constructive ownership of

additional voting stock of the business. [12.4(c)] ◆

IRS CONCOCTS NEW BASIS

FOR REVOCATION: “SHARP

BUSINESS PRACTICES”

The IRS revoked the tax exemption of a charitable

organization, using a series of comical conclusions

(undoubtedly not humorous to the organization) to

find unwarranted private benefit, nonexempt purposes,

commerciality, and “deceptive” and “sharp” business

practices (Priv. Ltr. Rul. 201734009).

Facts

A nonprofit corporation was recognized by the IRS as

a public charity. The entity’s founder, as the sole voting

member of the organization, controls it. Its purpose and

programs are not described in the ruling.

By means of its website, this organization asks whether

an owner of a timeshare would like to donate the timeshare

to a charity. If such a prospective donor is located, the orga-

nization processes the contribution by means of one or two

real estate closings, a deed transfer, and a written appraisal.

To this end, the organization hired three for-profit enti-

ties. Company 1, which is wholly owned by the founder,

conducted marketing and closing services for a redacted

amount of the organization’s timeshare inventory (pre-

sumably a considerable portion). This company was listed

as the client on all the appraisals performed for timeshare

owners who elected them. Company 2, as the charitable

organization’s broker, sold the donated timeshares. Com-

pany 3, owned by the founder and two other individuals,

provided the appraisals to timeshare donors. The founder

prepared the appraisals; the IRS noted, however, that this

individual may not be a qualified appraiser.

During the examination years, Company 2 commu-

nicated directly with potential donors by means of the

charity’s website. If a timeshare qualifies for processing,

Company 1 is notified; it drafts the deeds, engages in

title services, and records the deeds. Donors paid an up-

front fee for these services.

When a timeshare was sold, the proceeds were

deposited into Company 1’s escrow account. The charity

received the net proceeds, after Company 1 retained its

fees and expenses. The charity, after deducting its costs,

paid the funds over to the public charity chosen by the

timeshare donor. If a grantee was not selected, appar-

ently the charity kept all of the funds. The amount of

grants paid is redacted in the ruling.

The charity issued two gift substantiation letters to

the timeshare donors. One letter is for a contribution of

money, that being the up-front fee paid to Company 1,

which the charity regards as a gift. (The IRS disagreed

with this characterization of the payment as a gift.) The

other letter is for the noncash gift of the timeshare.

The IRS agent was troubled by the way in which

the appraisal fees were calculated and believed that the

appraisals were based on incorrect sales data. The agent

complained that the organization provided differing sets of

board meeting minutes. The agent was unhappy with state-

ments about charitable giving posted on the organization’s

website but did not explain why. The agent wrote that there

is a “large disparity” between the organization’s grantmak-

ing purpose and the “actual undertakings” of it in the

examination years but did not identify what the disparity is.

Law and Analysis

The IRS revoked the tax-exempt status of this organi-

zation, in part on the grounds of the “extensive financial

connections” between the founder and the companies

the founder owns and operates. The agent wrote of the

“excessive private benefit” conferred on the founder

during the years under examination.

The IRS also stated that the “primary purpose” of

the organization is “attracting customers who would

otherwise have gone elsewhere to sell their timeshares.”

But thereafter it is written that the organization was

“principally operating to serve the business needs” of

the companies, which then morphed into the conclusion

that the organization “was conducting itself as a com-

mercial, profit-making enterprise.”

The agent then stated that this organization engaged

in “deceptive business practices,” which is said to be