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Monday, November 25, 2002 (Class 1)
- 1/3 state law, 2/3 tax law
- In class, open-book exam
- x3345; firstname.lastname@example.org
- No class on Wednesday
- Nonprofit organization
- Does not mean they don't make a profit, but is called surplus of revenue over expenses
- Cannot distribute assets, except to another nonprofit--nondistribution constraint.
- Tax-exempt organization
- Subset of nonprofits, exempt from federal income tax.
- IRS Code Section 501
- Section (c): organizations that are exempt from federal income tax, at least 25 kinds
- Doesn't include other exempt organizations, such as pension funds.
- Section (c)(3): donations to these organizations are tax deductible.
- Statue Section 170: deduction for charitable contributions; 170(c) lists organizations which can receive tax deductible contributions [same as 501(c)(3)].
- American Automobile Club: nonprofit that is not tax exempt, not covered in this course.
- Private Foundations: subject to stricter rules than other 501(c)(3), live on investment income.
- Why are there nonprofit organizations?
- Don't fit well into economic theory
- Nonprofits have been around much longer than private corporations, e.g., church, universities
- Sometimes you have a task which you can't supervise (either technically or logistically); imagine for-profit that says it will ship food to Africa.
- Or hospital: you have no idea if they know what they're doing. Don't want surgery just so hospital can make profit.
- On the other hand, we don't use this system for auto mechanics, where same problems exist.
- Why tax-exempt organizations?
- Nonprofits can't sell stock, need alternative to attract capital.
- But there have been times when hospitals have been cash-rich, but aren't treated differently ("in sickness and in health" book).
- Most of course is about line between tax-exempt and non-tax-exempt, and 501(c)3 and other nonprofits.
- State law concerning duties of nonprofit boards/executives generally not enforced.
- Duties of loyalty and care taken on by the Federal Tax Code, which is enforced.
- Example of non-tax-related law: whether solicitations can be limited, if nonprofit does not use money for charitable purpose but instead, for example, for salaries.
- 501(c)3 cannot lobby but can educate, difficult distinction--first amendment law.
Monday, December 2, 2002 (Class 2)
- Mutual Benefit vs. Public Benefit Non-Profit Organizations
- Public Benefit organizations not taxed in order to encourage activity.
- "Social club" or other Mutual Benefit Organization is not taxed because members are doing together what they could otherwise do separately.
- Public Benefit organization: assets and earnings cannot go to private individual. E.g., corporations code of New York, "there shall be no dividends."
- California code divides public benefit and mutual benefit corporations into different sections.
- Mutual benefit organizations can distribute assets to members or to buy out a member.
- IRS Code 501(c)3: what kind of organization can qualify (statute book p233): several undefined terms.
- Kind of entity is irrelevant for federal tax law--i.e., unincorporated association, charitable trust, nonprofit organization.
- State law does distinguish, however. Questions of State Law:
- Can unincorporated association sue, or only individual members?
- Can association be sued, or just members, etc..
- Which assets are reachable by lawsuit against associations.
- Labor unions and political parties, unincorporated associations.
- Federal labor statute provides that a labor union has capacity to sue and be sued; that it can be liable for violating collective bargaining agreement, and can bring suit against employer for violating agreement; only assets of Union, not assets of members, are subject to liability.
- Very unusual for a lawyer to suggest unincorporated association as legal form.
- Charitable trust
- Useful to grantor because trustee has high fiduciary duty; must prefer interests of beneficiary above all others.
- Typical entity in England
- Charitable trust can be perpetual, while private trusts cannot because of rule against perpetuities (restricted to life of someone plus 21 years).
- Because class of beneficiaries is indefinite (e.g., "the hungry"), no one will hold trustee to his duties. Attorney General supposed to enforce charitable trusts.
- Heirs might challenge a charitable trust in order to get money; if trust is not for proper purpose and is perpetual, then is invalid.
- Could be "for charitable purposes" (broad) or "to aid young people to attend college" (narrow).
- Lawyer will usually write "for the purposes set out in section 501(c)3 of the IRC."
- If you leave out something, e.g., who is the trustee, courts will generally fill it in.
- Typically create small charitable trust prior to death, then give money to trust in will.
- Corporation (more common in United States)
- Need to go through formality of writing Articles of Incorporation
- Nothing in IRC matters to trust vs. corporation
- Under State Law, Directors of Corporation have duty of care and loyalty to corporation (like fiduciary duty of trustee).
- Differences: for example, if Charitable Trustee vs. Director of Corporation wants to lease property to the organization, will be different.
- Directors are held to lower standard of care than charitable trustees.
- Charitable trustees generally treated by analogy to private trustees; charitable directors by analogy to corporate directors.
- Courts tend not to second guess boards of directors as business is inherently risky and entrepeneural as long as they act in good faith--often a lot of money is made by doing something that many think won't work at all.
- Woman is told she will have high income taxes; suggest that she give money to charitable organization. Wants to set up organization to take care of llamas.
- Charitable trust: can be set up quickly, fewer requirements, she could be trustee. Would need to be careful to keep funds separate from her own.
- Person wants to set up literary group, eventually receive donations from funds.
- Unincorporated association would make sense at first. If they want to receive funds later, they would need some sort of articles to qualify for 501(c)3. Could incorporate later if needed.
- Parents want to establish nonprofit child care center.
- Person wants to start cricket association, someone donates $10,000.
- Mutual benefit society. Would want understanding about what happens to money if organize disbands.
- Sections B and C on syllabus for Wednesday.
Wednesday, December 4, 2002 (Class 3)
State ex rel. Grant v. Brown
- Secretary of State denies application for gay-rights organization; Court finds Secretary has discretionary power to accept or reject applications.
- Today Secretary of State would no longer have this discretionary power; controversy appears more in tax law than in incorporation.
- Judicial attempt to define charitable purpose quite difficult.
De Costa v. De Paz
[2 Swans 487] 1754 Chancery (cb93)
- Organization for "Jesiba"--assembly for daily reading of Jewish law--against official religion of England.
- Funds eventually were given to teach children Christianity.
Re Shaw (deceased). Public Trustee v. Day and Others
[1 All E.R. 745] 1957 Chancery Division (cb96)
- Shaw, famous playwright, wills money to trust to determine how much time could be saved if we had a better alphabet.
- Why isn't this just educational trust? No element of teaching. Advancement of knowledge by itself is not charitable purpose.
- Trust giving $100 per week to "oldest" respectable inhabitant of Biloxi.
- Only benefits one person, not a valid charitable trust. But could be modified. Courts are likely to modify charitable trusts to be valid--e.g., "oldest poor person." Unlike private trusts, charitable trusts are exempt from rule against perpetuities.
- Legacy to study whether Shakespeare's plays were written by Bacon; the Flat Earth Society.
- Professor who wants to set up trust to publish books he wrote.
- Would be easier if you could find University that would accept grant rather than set up independent trust.
- Used to be that changing law could not be charitable purpose, although today it would be accepted.
- Wendell Phillips: left charitable trust for abolition of slavery; but after civil war, court changed purpose to something "close"--aid for freed men. Called power of cy pres--"so near".
- Need to determine whether trust was for general purpose or specific one.
- For next time: dissolution of a nonprofit organization.
Monday, December 9, 2002 (Class 4)
In Re Los Angeles County Pioneer Society
[257 P.2d 1] 1953 California Supreme Court (cb106)
- Question: is Pioneer Society a "social club" or a "charity"?
- Social club could distribute assets to members, while charitable organization must give assets to another charitable organization.
- Woman who wants to change purpose of organization from caring for llamas to caring for birds.
- May want narrow definition but not too narrow in order to allow these sorts of changes.
- Group forms Trollope Society as unincorporated association, when it breaks up just divide assets among members.
- Charitable corporation, wants to go out of business and dissolve. Need to make sure funds are used by other charitable organization; question is how close purposes need to be.
- Corporation formed to operate a hospitable and do acts of charity for the sick. Wants to change to operate outpatient clinic.
- Question of whether testator had "general" charitable intent or specific intent to form this charitable purpose and no other.
- E.g.: person left money in his will to create segregated city park, but specified that gift would fail if segregation were no longer possible.
- Money left for scholarship to white female; modified to go to females.
- Deviation: instruction to operate trust in a way other than originally specified.
Distribution of Assets to Public Benefit Corporations
- Does charitable corporation hold property as trustee or outright?
- I.e., can use of donations be changed if given for a particular purpose?
- Issue arises frequently in conversion of non-profit health industry to for-profit
- Typically, nonprofit organization buys stock of for-profit, has to give away profits (non-profit hospital/HCA example).
Multiple Sclerosis Service Organization of New York
- MSSO is dissolving, found distributees engaged in substantially similar activities; National Multiple Sclerosis Society intervenes claiming its purposes are more akin to those of MSSO.
- New York Statute interpreted to mean that nonprofit organization has some flexibility, recipient doesn't need to be "as close as possible".
- For next time: duties of officers and board (read all of assignment).
Wednesday, December 11, 2002 (Class 5)
- Duties of Nonprofit Directors
- Fiduciary duty not exactly equivalent to for-profit corporation since there are no shareholders to be accountable to
- Duty of care: need to be informed, and insist on being informed.
- Duty of loyalty: need to put institution's interest above your own.
George Pepperdine Foundation v. Pepperdine
[271 P.2d 600] 1954 2d Circuit California Court of Appeals (cb155)
- Court is unwilling to punish Pepperdine, who ran foundation poorly that he had started with his money.
- Question is generally what standard of care to hold directors to.
Stern v. Lucy Webb Hayes National Training School for Deaconesses
[381 F.Supp. 1003] 1974 District of Columbia District Court (cb167)
- Typical formulation of standard of behavior
- Judges tend not to second guess business decisions of corporate directors.
- Since nonprofit directors aren't compensated, aren't held to as high a duty of care.
- Well-known interior designer, philanthropist, and socialite, is asked to join board. She agrees but does not want to attend board meetings.
- Will not be fulfilling duties if she doesn't know what's going on with organization; instead could appoint her to be an honorary director.
- Hospital with deficit, hires CEO to reduce deficit by $200,000 per year. Trustees don't receive annual audits, CEO reports "Things are going okay." In two years, deficit grows from $4M to $10M.
- Public radio station decides to publish magazine, loses lots of money, never found out that 9 out of 10 magazines fail.
- Should have gotten expert advise, but weren't necessarily liable.
- Issue is not whether the right decision was made, but whether the right procedure was followed to make it.
- Radio station hires consultants who turn out to be crooks.
- Should have gotten references, etc., about consultants.
- Conflict of Interest--Section 8.31 of Revised Model Nonprofit Corporation Act
- Transaction is not voidable if transaction was fair at time it was entired into
The Committee to Save Adelphi v. Diamandopoulos
http://www.nysed.gov/regents/docum.html 1997 Board of Regents of the University of the State of New York (cb206)
- Another way in which corporation can be harmed: lost opportunity
- Start with problems on page 226-230 for Monday.
Monday, December 16, 2002 (Class 6)
Wednesday, December 18, 2002 (Class 7)
- Problems (cb226)
- No breach of duty of loyalty if fair price was paid, even if material facts were not disclosed as to self-dealing.
Monday, January 6, 2003 (Class 8)
- Issue of how much of money raised goes to "program expenditure" vs. "cost of solicitation"
- States want to regulate nonprofits to force them to disclose to public breakdown of expenses
- Law never imposes requirement of competency on nonprofits; usually just concerned with accounting.
Riley v. National Federation of the Blind
[487 U.S. 781] 1988 United States Supreme Court (cb290)
- What if Court had decided the opposite result, that the State could require solicitors to disclose proportion of donations going to fundraising?
- Likely that nonprofit would go back to in-house fundraising, where it's much harder to account for separate fundraising expenditures.
- Result is opposite from that which is often employed: forced full disclosure.
Young v. New York City Transit Authority
[903 F.2d 146] 1990 2d Circuit Court of Appeals (cb306)
- For Wednesday, Part V Section A (procedure for determining exempt status) and B.
Monday, January 13, 2003 (Class 10)
- Federal tax law is primary battleground for determination of charities.
Bob Jones University v. United States
[461 U.S. 574] 1983 United States Supreme Court (cb356)
- Bob Jones University is religiously based racially discriminatory school, IRS challenges its tax exempt status.
- Strange procedural history: Government had announced they would grant tax exempt status to Bob Jones University.
- Court looks to history of definition of history; looking at entire statute in context suggest that there is a common law definition of charity which does not violate public policy which is incorporated into statute.
- But 501(c)4 does not include "charitable" language, yet it is hard to imagine racially discriminatory HMO could be tax-exempt.
- Constitutional issue (not discussed): does granting exemption constitute state action sufficient to support 5th amendment claim?
- Court practices doctrine of Constitutional avoidance--doesn't answer Constitutional question.
Calhoun Academy v. Commissioner
[94 T.C. 284] 1990 Tax Court (cb379)
- Health industry is very large in United States, question of obligations of hospitals under 501(c)3.
- Requirements under Revenue Ruling 69-545
- Must give emergency room treatment to indigent
- Must treat those with health insurance or medicare (why not medicaid??)
- Should hospitals have to treat everyone to be charitable? IRS has held they do not.
- Chapter 5 Part D and Part E for Wednesday.
Wednesday, January 15, 2003 (Class 11)
- When hospital only treats 5% of patients for free, why give it complete tax exempt status?
- Even if HMO's are ultimately determined not to be within 501(c)3, they could always become 501(c)4 organizations.
- Educational organizations (cb414)
- Issue is organizations "at the periphery"
Big Mama Rag v. United States
[631 F.2d 1030] 1980 District of Columbia Circuit Court of Appeals (cb418)
- Big Mama Rag was feminist newspaper. IRS hold that it did not qualify as educational organization under §501(c)3.
- IRS held that Big Mama Rag did not present other points of view, i.e., mere presentation of unsupported opinion.
- Court finds regulations is overly vague, thus has chilling effect on speech.
- Methodology test: question of whether organization's methodology qualifies as educational. See cb427 for examples of non-educational.
Church of Scientology of California v. Commissioner
[823 F.2d 1310] 1987 9th Circuit Court of Appeals (cb495)
- IRS won several cases against Scientologists, but then gave up.
United Cancer Council, Inc. v. Commissioner
[165 F.3d 1173] 1999 7th Circuit Court of Appeals (cb503)
- Claim that United Cancer Council funds were inuring to private person.
- 7th Circuit reversed tax court.
- UCC is small organization, essentially without any funds, signs contract with W&H, professional solicitors.
- Court holds that inurement provision only applies to insiders, thus outside fundraiser is not violating inurement prohibition. W&H doesn't control UCC.
- IRS and Court don't look into how much profit W&H made.
- Court of Appeals remands to tax court for deciding whether board has violated duty of care.
- Revoking exemption is "atomic bomb" and often harms the wrong people; IRS eventually got alternative remedies: intermediate sanctions (cb359).
- Next class look at 511 foward for alternative remedies.
Wednesday, January 22, 2003 (Class 12)
Monday, January 27, 2003 (Class 13)
- Questions cb520
- Question of fact: what are people paid for this kind of work? Outside of field of lawyer's expertise.
- Usually lumped together with political campaign, but actually very different.
- 501(c)3 only forbids substantial amount of organization's activities from lobbying.
- Because it is very difficult to determine whether substantial amount of activities are lobbying, 501(h) has set up safe harbour agreement.
- If lobbying activities are exceeded for four consecutive years, organization will lose its exempt status.
- Safe harbour does not apply to churches, because of religious freedom issues.
- If called to account for lobbying activities, church might claim opinion was being expressed by minister rather than church.
- Volunteer political action can pass under § 4911, since it's only the amount that you spend on lobbying that matters.
- Lobbying non-taxable amount.
- More concern with tax exempt organizations contacting constituents than with contacting elected representatives directly.
Regan v. Taxation with Representation of Washinton
[461 U.S. 540] 1983 United States Supreme Court (cb536)
- IRS denied TWR tax-exempt status on basis that substantial part of activities would be lobbying; TWR seeks declaratory judgment that they are under 501(c)3.
- Supreme Court follows IRS suggestion that organization can be two organizations, one 501(c)3 and one 501(c)4.
- NAACP and NAACP Legal Defense Fund--another example of split organization.
- Blackmun concurrence: concerned about protecting 501(c)3 exemption when 501(c)4 organization is split off. Same problem as Rust v. Sullivan (conditioning fundamental rights).
- Supreme Court has been quite tolerant of arbitrary distinctions in tax law.
- Could be viewed as tax case or 1st amendment case.
Wednesday, January 29, 2003 (Class 14)
- Lobbying non-taxable amount--can't be exceeded for four years in a row, in 501(h).
- Purpose of § 4911 is not to tax away tax exempt status but to penalize nonprofits for exceeding lobbying limit
- Lingering question: should Revenue Service be regulating nonprofits at all?
- Problems cb578
- (1) is urging members to contact legislators to encourage them to vote in a certain way lobbying/grassroots lobbying?
- § 4911: influencing legislation: lobbying expenditures are expenditures for the purpose of influencing legislation. Appears to be grassroots lobbying. (b)(2).
- Communications with members vs. Communications with general public
- 4911(d): definition of lobbying.
- 4911(e)(2): definition of legislation.
- 4911-2(d)(1)(ii) (sp611)
- Private foundations: no lobbying at all
- (3) $50,000 grassroots lobbying
- (4) Not lobbying
- (5) Direct lobbying, not grassroots lobbying
- (6) $10K grassroots lobbying
- (7) Unclear whether there is a "call to action". If there were call to action (contact your legislators), then this would count as grassroots lobbying.
- $50,000 of lobbying expenses would be taxable--$250,000 plus $2000 (NTA). Tax at 25%, thus $12,500.
Wednesday, February 5, 2003 (Class 16)
- Can deduct fair market value of donations to 501(c)3 of property rather than cost--not consistent with other tax law.
- 170 (b) percentage limitations
- Only certain percentage of annual income can be given and deducted; does not apply to gift or estate tax
- Different limitations on deductible donations to charitable organizations vs. private foundations.
- "Little gifts" (cb900) -- e.g., get mug for donation
- More substantial gifts, need to deduct difference between donation and what you got.
- Exam: two questions, hard. Spot issues.
- Does a nonprofit corporation hold its assets in trust? Unknown.
- Lawyers and judges tend to be more familiar with nonprofit corporations than trusts.