IRS Revokes Supporting Organization's Exempt Status

Person to Contact: * * *

This is a Final Adverse Determination revoking your exempt status under section 501(c)(3) of the Internal Revenue Code.

Our adverse determination was made for the following reasons:

Contributions to your organization are no longer deductible under section 170 of the Internal Revenue Code.

You are required to file Federal income tax return Form 1041. These returns should be filed with the appropriate Internal Revenue Campus for the year ending December 31, 20xx and for all years thereafter, the prior year returns were previously submitted to the District Office.

Processing of income tax returns and assessment of any taxes due will not be delayed should a petition for declaratory judgment be filed under section 7428 of the Internal Revenue Code.

If you decide to contest this determination in court, you must initiate a suit for declaratory judgment in the United States Tax Court, the United States Claim Court or the District Court of the United States for the District of Columbia before the 91^st day after the date this determination was mailed to you. Contact the clerk of the appropriate court for the rules for initiating suits for declaratory judgment.

You also have the right to contact the office of the Taxpayer Advocate. However, you should first contact the person whose name and telephone number are shown above since this person can access your tax information and can help you get answers. You can call 1-877-777-4778 and ask for Taxpayer Advocate assistance. Or you can contact the Taxpayer Advocate from the site where the tax exempt status was determined by calling* * *, faxing * * * or writing to: Internal Revenue Service, Taxpayer Advocates Office, * * *, * * *, * * *.

Taxpayer Advocate assistance cannot be used as a substitute for established IRS procedures, formal appeals process, etc. The Taxpayer Advocate is not able to reverse legal or technically correct tax determinations, nor extend the time fixed by law that you have to file a petition in the United States Tax Court. The Taxpayer Advocate can, however, see that a tax matter that may not have been resolved through normal channels gets prompt and proper handling.

We will notify the appropriate State Officials of this action, as required by section 6104(c) of the Internal Revenue Code.

If you have any questions, please contact the person whose name and telephone number are shown in the heading of this letter.

We have enclosed a copy of our report of examination explaining why we believe revocation of your exempt status under section 501(c)(3) of the Internal Revenue Code (Code) is necessary.

If you accept our findings, take no further action. We will issue a final revocation letter.

If you do not agree with our proposed revocation, you must submit to us a written request for Appeals Office consideration within 30 days from the date of this letter to protest our decision. Your protest should include a statement of the facts, the applicable law, and arguments in support of your position.

An Appeals officer will review your case. The Appeals office is independent of the Director, EO Examinations. The Appeals Office resolves most disputes informally and promptly. The enclosed Publication 3498, The Examination Process, and Publication 892, Exempt Organizations Appeal Procedures for Unagreed Issues, explain how to appeal an Internal Revenue Service (IRS) decision. Publication 3498 also includes information on your rights as a taxpayer and the IRS collection process.

You may also request that we refer this matter for technical advice as explained in Publication 892. If we issue a determination letter to you based on technical advice, no further administrative appeal is available to you within the IRS regarding the issue that was the subject of the technical advice.

If we do not hear from you within 30 days from the date of this letter, we will process your case based on the recommendations shown in the report of examination. If you do not protest this proposed determination within 30 days from the date of this letter, the IRS will consider it to be a failure to exhaust your available administrative remedies. Section 7428(b)(2) of the Code provides, in part: "A declaratory judgment or decree under this section shall not be issued in any proceeding unless the Tax Court, the Claims Court, or the District Court of the United States for the District of Columbia determines that the organization involved has exhausted its administrative remedies within the Internal Revenue Service." We will then issue a final revocation letter. We will also notify the appropriate state officials of the revocation in accordance with section 6104(c) of the Code.

You have the right to contact the office of the Taxpayer Advocate. Taxpayer Advocate assistance is not a substitute for established IRS procedures, such as the formal appeals process. The Taxpayer Advocate cannot reverse a legally correct tax determination, or extend the time fixed by law that you have to file a petition in a United States court. The Taxpayer Advocate can, however, see that a tax matter that may not have been resolved through normal channels gets prompt and proper handling. You may call toll-free 1-877-777-4778 and ask for Taxpayer Advocate Assistance. If you prefer, you may contact your local Taxpayer Advocate at:

Thank you for your cooperation.

* * * * *

 

 

 

 

PRIMARY ISSUE

 

The * * * Foundation * * * was created with a Trust Agreement dated November 5, 19xx. In the Trust Agreement, * * * and an organization referred to as the * * * were listed as the initial trustees. Pursuant to the Trust Agreement, * * * was created exclusively as a supporting organization as described under section 509(a)(3) of the Code. * * * was to be the supported * * * organization and have 60% control over the activities and operation of * * *. * * * was to have 40% control over * * * and was acknowledged to be a disqualified person and, as such, a disqualified trustee.

The Trust Agreement calls for a prohibition on political activity, inurement and private benefit. There were to be no substantial legislative activities.

Article 6 of the Trust Agreement states that at all times the Board of Trustees shall consist of a sixty-forty split with regard to non-disqualified and disqualified trustees. The article further states that a trustee may resign at anytime, by written instrument, to the extent that the resignation does not cause any disqualified person to be put in control of the Trust.

Article 12 of the Trust Agreement also covers resignation, removal or absence of non-disqualified or disqualified trustees. In the event that a non-disqualified trustee decides to withdraw or resign, the remaining disqualified trustee is not allowed to make distributions until a new non-disqualified trustee is appointed.

The Trust Agreement states that both non-disqualified and disqualified trustees have the power to make investments, or cause monies or assets to be invested at any time. The Trust Agreement further states that distributions to supported organizations can only be made by non-disqualified trustees.

* * * filed an application for Recognition of Exemption, Form 1023, on Novembers, 19xx. It requested exempt status under 501(a), as an organization described in section 501(c)(3) of the Code with a foundation status of 509(a)(3). The purposes of as listed on the application were consistent with the Trust Agreement. However, the supported organization on the application is different from the supported organization as listed in the original Trust Agreement. The Trust Agreement called for * * * to be the supported organization. The application states that * * * was to be the supported organization.

According to * * *, at some point between the time that the original Trust Agreement was signed and the filing of the application, it became evident to Attorney * * * that * * * was not going to receive tax exempt status under section 501(a) of the Code as an organization described in section 501(c)(3). As such, Attorney * * * identified * * * as the supported organization. * * * was never recognized as exempt.

The Trust Agreement was amended on March 26, 20xx, to add * * * as a supported organization. * * * remained on the Trust Agreement at that time. The Trust Agreement was amended a second time on December 4, 20xx. This amendment removed from the Trust Agreement and left * * * as the sole supported organization.

On January 31, 20xx, * * * was issued a determination letter and received exempt status under section 501(a) of the Code as an organization described in section 501(c)(3). The foundation status was determined to be 509(a)(3).

The Trust Agreement was amended for the third time on December 1, 20xx. This amendment removed * * *, as the supported organization and added * * * lost * * * its tax exempt status in 20xx. remained the sole supported organization per the Trust Agreement for the period beginning December 1, 20xx and ending sometime after the conclusion of the 20xx tax year.

In correspondence received from * * *, acting as the representative for the organization, stated that * * * was briefly associated with Attorney * * * from the Fall/Winter of 20xx as a supported organization. In the Spring of 20XX it terminated any association with * * * and * * *. She further stated that her organization never received any distributions from * * * and that there were no board meetings or elections of any type with regard to * * *.

The Trust Agreement was never amended to reflect the fact that * * * terminated their association with * * *. In fact, * * * Trust Agreement kept * * * as the supported organization for over eighteen months after it requested to have its association terminated.

In 19xx, * * * transferred $* * * from his personal bank account to an account established in the name of the * * * Foundation. * * * 19xx Form 1040, Schedule A, shows that * * * claimed the $* * * as a charitable contribution deduction.

In 20xx, * * * transferred an additional $* * * from his personal bank account to an account established in the name of the * * * Foundation. * * * 20xx Form 1040, Schedule A, shows that * * * claimed $* * * as a charitable contribution deduction.

In 20xx, * * * transferred another $* * * from his personal bank account to an account established in the name of the * * * Foundation. * * * 20xx Form 1040, Schedule A. shows that * * * claimed the $* * * as a charitable contribution deduction.

For the period of December 19xx through the end of the tax year ended December 31, 20XX, there had been no grants to any of the above referenced supported organizations.

During the period of the examination from January 1, 20xx through December 31, 20xx, there are no Board of Director's minutes for any meetings. There are no records of any meetings of any kind. There were no elections of any board members. There are no documents explaining why grants were not made. There is no documentation indicating that there were any transactions other than the transfers of * * * funds to Attorney * * * described below.

In the December 8, 20xx telephone interview with * * *, he stated that he relied on Attorney * * * to take care of all * * * business matters as well as investing * * * funds.

* * * also stated that at some point after he donated the funds to Attorney * * * called * * * and requested that the money in the * * * account be transferred to * * *. There is no written documentation of this conversation, only the written explanation provided by Attorney * * *. In the December 8, 20xx, telephone interview with * * *, he confirmed that the transfer of funds occurred with his permission via a telephone conversation with * * * does not have records that provide any detail of legal fees that * * * received for establishing and investing for * * *. In the interview with he had no recollection for how much * * * got paid or any recollection as to what the original agreement called for. Attorney * * * did not respond to inquiries into how much he received.

Attorney * * * states in an email to * * *, CPA and Power of Attorney for * * *, that * * * Trust account records show receipt of * * * funds on three separate dates. The first being February 17, 20xx in the amount of $* * *, the second being on June 25, 20xx in the amount of $* * * and the third being on August 13, 20xx in the amount of $* * *.

In that same email message, * * * states that the $* * * received from * * * was invested in * * * of * * *. At an undisclosed date, * * * sold its * * * assets to * * *. The date is undisclosed because * * * has no records detailing any investment transactions.

In a letter from * * * to this office, * * * disclosed that he is on the Board of Directors for * * * and is also a share holder. * * * disclosed that he received verbal confirmation from * * * to invest the money from * * * in * * *.

* * * has produced a stock certificate that shows ownership of * * * shares of * * *. That same stock certificate shows * * * Attorney * * * daughter, as the Secretary for * * *.

An unrelated U.S. District Court Case 3:05-cv-1328-(BD) references the value of * * * stock and the low value that it has. The court agreed to a value of $* * * per share. Therefore, the total value of * * * stock held by * * * has a current value of $* * *.

During the interview * * * was asked if he knew that * * * was a stock holder and Chairman of the Board for * * *, and * * * stated that he did not know that. * * * daughter, * * *, is Secretary for * * *.

Section 1.501(c)(3)-1(a)(1) of the regulations provides that in order to be exempt as an organization described in section 501(c)(3) of the Code, the organization must be one that is both organized and operated exclusively for one or more purposes specified in that section. If an organization fails to meet either the organizational or operational test, it is not exempt.

Section 1.501(c)(3)-1(c)(1) of the regulations provides that an organization will not be regarded as operated exclusively for exempt purposes if more than an insubstantial part of its activities is not in furtherance of exempt purposes.

Section 1.501(c)(3)-1(c)(2) provides that an organization is not operated exclusively for one or more exempt purposes if its net earnings inure in whole or in part to the benefit of private shareholders or individuals. The words "private shareholder or individual" refer to persons having a personal and private interest in the activities of the organization.

Section 1.501(c)(3)-1(d)(1)(ii) of the regulations provides that an organization is not organized or operated exclusively for one or more exempt purposes unless it serves a public rather than a private interest. Thus, it is necessary for an organization to establish that it is not organized or operated for the benefit of private interests such as designated individuals, the creator or his family, shareholders of the organization, or persons controlled, directly or indirectly, by such private interests.

Section 1.509(a)-4 (e)(1) of the regulations addresses permissible beneficiaries in that it specifies that a supporting organization will be regarded as "operated exclusively" to support one or more specified publicly supported organizations only if it engages solely in activities which support or benefit the specified publicly supported organizations. An organization will be regarded as "operated exclusively" to support or benefit one or more publicly supported organizations if it supports or benefits an organization, other than a private foundation, which is described in section 501(c)(3).

In Better Business Bureau v. United States, 326 U.S. 279 (1945), the United States Supreme Court held that regardless of the number of truly exempt purposes, the presence of a single substantial non-exempt purpose will preclude exemption under IRC section 501(c)(3).

American Campaign Academy v. Commissioner, 92 TC 1053 (1989): Defines private benefit as "non-incidental benefits conferred on disinterested persons that serve private interests."

Securities and Exchange Commission v. Megafund Corporation, Stanley A. Leitner, Sardaukar Holdings, IBC, and Bradley C. Stark, CIG, LTD., and James A. Rumpf, Individually and d/b/a Cilak International, 3:05-cv-01328: Sets value of Moondoggie stock.

Revenue Ruling 76-206; Service provided to a private party that they would have otherwise had to purchase.

In Rev. Rul. 67-5, 1967-1 C.B. 123, it was held that a foundation controlled by the creators family was operated to enable the creator and his family to engage in financial activities which were beneficial to them, but detrimental to the foundation. It was further held that the foundation was operated for a substantial non-exempt purpose and served the private interests of the creator and his family. Therefore, the foundation was not entitled to exemption from Federal income tax under IRC section 501(c)(3).

In contrast to section 1.501(c)(3)-1(d)(ii) of the regulations which calls for an organization to be organized and operated for a public rather than a private benefit, * * * has indulged in substantial acts of private benefit with regard to its dealings with Attorney * * *. The activities of * * * also stand in contrast to section 1.501(c)(3)-1(c)(1) of the regulations in that more than an insubstantial part of its activities have been for the private benefit of Attorney * * *.

* * * has not engaged in any charitable activities since its inception and has made no charitable grants from its inception until late 20xx * * * donated $* * * to * * * over the three year period from 19xx through 20xx and received the tax benefit on his personal federal tax return in the form of charitable contribution deductions totaling $* * * The only other activity engaged in by * * * was the transfer of money from the * * * bank account to Attorney * * * over that same time frame. This transfer of funds was accomplished, not with written documentation, but by verbal approval from * * * to Attorney * * *.

During the two year period beginning January 1, 20xx and ending December 31, 20xx, * * * did not make any grants to any section 501(c)(3) charity. In fact, according to * * * there never were any grants to a section 501(c)(3) charity prior to the two year period being examined, and there were no grants to a section 501(c)(3) charity until sometime in the later half of 20xx.

* * * funds, instead of being distributed to a legitimate and designated section 501(c)(3) charity, went to Attorney * * * who in turn invested these funds in a company called * * * purportedly for * * *.

At some undisclosed point in time, * * * transferred its assets to a * * * company called * * * Attorney * * * is a shareholder of * * * and has admitted to being the Chairman of the Board for * * *. A further connection between Attorney * * * and * * * is that daughter is an officer of * * * where she holds the position of Secretary.

Further evidence of the private benefit to Attorney * * * is the fact that from the time that * * * transferred their funds to * * * in 19xx, 20xx and 20xx. until sometime after the end of the tax year ended December 31, 20xx, * * * had exclusive access to * * * funds to invest or do with as he pleased. * * * claims it was unable to locate and maintain a relationship with a qualified section 501(c)(3) charity to whom to distribute money. It is beyond any reasonable measure to accept as fact that could not find one single qualified organization to support since * * * inception.

As the only activity of * * * was the transfer of funds for Attorney * * * personal use, private benefit to Attorney * * * made up more than an insubstantial part of activities. With the only activity of * * * being the transfer of funds to Attorney * * *, * * * has operated more for a private rather than a public benefit.

As in the case of Better Business Bureau of Washington,D.C. v. United States, the private benefit present in this case is substantial and destroys the exempt status of the organization. The only activity and only apparent purpose of * * * was the transfer and subsequent use of funds by Attorney * * * to invest as he saw fit for his personal gain.

As in the case of American Campaign Academy v. Commissioner, there were non-incidental benefits conferred on disinterested persons that serve private interests. The benefit enjoyed by Attorney * * * is not incidental but is more reasonably construed as a purposeful event caused by Attorney * * * and * * *, trustee for * * *. The benefit enjoyed by Attorney * * * constitutes private benefit in that the public was denied the receipt of any benefit because no grants were distributed to a supported organization.

As * * * has not operated exclusively for charitable purposes and considering the extensive private benefit enjoyed by Attorney * * *, the tax exempt status of should be revoked. Retroactive revocation is appropriate because * * * failed to disclose in its application that it would be operated primarily for the benefit of Attorney * * * and/or an organization which he owns and controls. It failed to disclose that it would make no grants to public charities.

ALTERNATIVE ISSUE # 1: Should The * * * Foundation be reclassified as a private foundation?

From March 26, 20xx through December 1, 20xx, the Trust Agreement was amended three times. Each amendment changed the organization that was to be supported. Each new supported organization was to have 60% control over the Trust.

The December 1, 20xx amendment added * * * as the sole supported organization.

In correspondence received from * * *, * * * acting as the representative for the organization stated the following: * * * was briefly associated with Attorney * * * from the Fall/Winter of 20xx as a supported organization. When told by IRS * * * agents in the Spring of 20xx that Attorney was under investigation, she terminated any association with * * * and the Foundation. She further stated that her organization never received any distributions from * * * and that there were no board meetings or elections of any type with regard to * * *.

The Trust Agreement was never amended to reflect the fact that * * * terminated its association with * * * In fact, * * * Trust Agreement kept * * *. as the supported organization for over eighteen months after it requested to have its association terminated.

There were no grants made to any supported organization. There was no measure of control provided by any supported organization. There were no elections of directors by any supported organization, and there were no board meetings of any kind attended by any of the above referenced supported organizations.

* * * has stated that at some point after he "contributed" the funds to * * *, Attorney * * * called * * * and requested that the money in the account be transferred to * * * complied with * * * verbal request and transferred all of the money in the * * * account, $* * *, to * * *.

There is no written documentation of this conversation, only the written explanation provided by Attorney * * *. In the December 8, 20xx telephone interview with * * *, he confirmed that the transfer of funds occurred with his permission via a telephone conversation with * * *.

The only activity ever conducted by * * * was to transfer * * * funds to the promoter so that he could "invest" the funds as he saw fit. The funds were ultimately "invested" in a company in which Attorney * * * held stock and was the Chairman of the board and his daughter was an officer.

At no time from * * * inception through the years under examination did any of the above listed supported organizations attend meetings, elections or exert any measure of control over * * *.

For additional facts, see Facts section of the primary position (revocation).

Code section 4946(d) defines disqualified persons as members of the family of an individual as ones spouse, ancestors, children, grandchildren, great grandchildren, and the spouses of children, grandchildren, and great grandchildren.

Regulation section 1.507-6(a)(1) defines the term "substantial contributor" as, except as provided in subparagraph (2) of this paragraph, with respect to a private foundation, any person (within the meaning of section 7701(a)(1)), whether or not exempt from taxation under section 501(a), who contributed or bequeathed an aggregate amount of more than $5,000 to the private foundation, if such amount is more than 2 percent of the total contributions and bequests received by the private foundation before the close of the taxable year of the private foundation in which a contribution or bequest is received by the foundation from such person. In the case of a trust, the term "substantial contributor'' also means the creator of the trust. Such term does not include a governmental unit described in section 170(c)(1).

Regulations section 1.509(a)-4(c), regarding the organizational test of a 509(a)(3) organization, states that:

Regulations section 1 509(a)-4(e) references the operational test a 509(a)(3) organization must comply with.

Due to Congressional concerns about wide-spread abuses of their tax-exempt status by private foundations, private foundations were defined and subjected to significant regulations and controls by the Tax Reform Act of 1969. The definition of a private foundation is intentionally inclusive so that all organizations exempted from tax by IRC § 501(c)(3) are private foundations except for those specified in IRC § 509(a)(1) through (4). Roe Foundation Charitable Trust v. Commissioner, See Quarrie, supra. * * * currently is excepted from private foundation status because if is currently classified as an organization described in section 509(a)(3) which defines supporting organizations.

Public charities (organizations described in section 501(c)(3) that meet the requirement of sections 509(a)(1) or (2)) are excepted from private foundation status on the theory that their exposure to public scrutiny and their dependence on public support keep them from the abuses to which private foundations are subject. Supporting organizations are similarly excepted from private foundation status. Supporting organizations are excepted if they are subject to the scrutiny of public charities that provide sufficient oversight to keep supporting organizations from the types of abuses to which private foundations are prone. Quarrie, 603 F.2d at 1277-78.

Section 509(a)(3) organizations must meet all three of the following tests:

1) Operational Test

* * * fails the operational test set forth in Treas. Reg. § 1.509(a)-4(e)(1). A supporting organization will be regarded as "operated exclusively" to support a specified publicly supported organization(s) only if it engages in activities which support or benefit the specified publicly supported organization(s). As was discussed under the Primary Issue above, * * * has served private interests and has operated for the benefit of Attorney * * * and/or an organization which he owns and controls. Therefore, it has not established that it operated exclusively for the benefit of the publicly supported organizations.

2) Relationship Test

As set forth in Treas. Reg. § 1.509(a)-4(f)(2), there are three permissible relationships:

(a) operated, supervised, or controlled by; (b) supervised or controlled in connection with; and

(c) operated in connection with one or more publicly supported organizations.

The relationships "operated, supervised or controlled by" and "supervised or controlled in connection with" presuppose a substantial degree of direction over the policies, programs and activities of the supporting organization by a publicly supported organization. The "operated, supervised or controlled by" relationship is established by the fact that a majority of the officers, directors, or trustees of the supporting organization are appointed or elected by the governing body, members of the governing body, officers acting in their official capacity or the membership of the publicly supported organization. The "supervised or controlled in connection with" relationship is established by the fact that there is common supervision or control by the persons supervising or controlling both the supporting and the publicly supported organizations (i.e.; that control or management of the supporting organization is vested in the same persons that control or manage the publicly supported organization.

In the present case, there are two trustees. On paper the publicly supported organization is supposed to have 60% of the voting control while * * *, a disqualified person, has 40% of the voting control. Therefore, * * * has technically satisfied the requirements of being in a relationship "operated, supervised or controlled by" the primary charity. As set forth below, in actuality this requirement was not satisfied.

3) Control by a Disqualified Person

* * * is under the control of a disqualified person. * * * is not a supporting organization under Code section 509(a)(3) because it is controlled directly or indirectly by one or more disqualified persons.

* * * is a disqualified person because he is a substantial contributor as defined in Code section 4946(a)(1)(A). He is the only contributor to * * *. While the Trust Agreement provides for two trustees with the publicly supported charity having 60% of the vote, there were no board meetings or other indication that any publicly supported organization had any involvement in the operations of

The first listed supported organization, * * * never received tax exempt status. The second listed supported organization, * * *. lost its tax exempt status in 2C. The third listed supported organization, * * * is a qualified section 501(c)(3) organization but thought it withdrew as * * * trustee in early 20xx and as described below never had any input into * * * operations.

* * * was the designated supported organization per the Trust Agreement from December 20xx until sometime after the end of the December 31, 20xx tax year. * * *. never asked for and was not provided with any monetary grants. During the examination it was determined that * * * had no contact with the beneficiary organization. There were no meetings, no elections and no support provided. In addition, the beneficiary had no influence over any decisions made.

* * * remained listed as a trustee despite its request that the relationship be terminated. It acknowledged that it had no control over operations. The only activity of * * * was the distribution of all of its funds to Attorney * * *. This was accomplished by a telephone call between Attorney and * * *. There is no evidence the board considered this action or approved it.

Treas. Reg. § 1.509(a)-4(j)(1) provides that for purposes of section 509(a)(3)(C), an organization will be considered "controlled" if the person, by reason of his position or authority, may require the organization to perform any act which significantly affects its operations or prevents such organization from performing such act. All facts and circumstances are taken into consideration in determining whether a disqualified person controls an organization. Id. There is no indication that any representatives of the specified public charities had any input into the operations of * * *. Thus, * * *, a disqualified person, directly controlled * * *.

Accordingly, if its exempt status is not revoked, * * * should be reclassified as a private foundation because it does not qualify as a supporting organization under the requirements set forth in Treas. Reg. § 1.509(a)-4(j). This reclassification is effective November 5, 19xx. Retroactive reclassification is appropriate because * * * did not disclose in its application that it would not operate to benefit the specified public charity and that it would be controlled by a disqualified person,

Alternately, The * * * Foundation should be reclassified as an organization that is a private foundation as defined in section 509(a) of the Code.