In a private letter ruling (PLR 2020005020), the IRS ruled that a nonprofit healthcare system (Taxpayer) will be participating in or intervening in a political campaign if (1) the Taxpayer's wholly owned for-profit subsidiary (Subsidiary) operates a political action committee (PAC) and (2) the Taxpayer provides services and other resources to Subsidiary and PAC under a contractual agreement. Further, the IRS ruled that, if the Taxpayer contractually agrees to provide services and other resources to Subsidiary in return for Subsidiary's reimbursement of costs, Taxpayer will be operated for the benefit of private interests and not furthering its exempt purposes, within the meaning of IRC Section 501(c)(3).

Facts

As the parent of a healthcare system, exempt from tax under IRC Section 501(a) and described in IRC Section 501(c)(3), Taxpayer provides management, consulting and other services to its related healthcare facilities and educational institutions. Taxpayer is the sole or partial direct or indirect member of numerous IRC Section 501(c)(3) organizations that own and operate hospitals, nursing homes, and other healthcare entities.

Subsidiary holds limited liability company interests in two joint ventures and is the single member of an LLC that manages real estate rentals, primarily for Taxpayer's affiliated IRC Section 501(c)(3) hospital organizations. As Subsidiary's sole shareholder, Taxpayer elects all of Subsidiary's directors and may remove its directors without cause. Taxpayer may appoint Subsidiary's officers and assistant officers or allow Subsidiary's directors to do so. All of Subsidiary's employees are Taxpayer's employees. Enumerated powers in Taxpayer's bylaws allow Taxpayer to approve or disapprove Subsidiary's executive and administrative leadership, establish its general guiding policies, approve or disapprove its annual budgets, direct the placement of its funds and capital, and establish salary rates for its administrative and department head personnel.

Subsidiary plans to establish and operate a PAC within the meaning of IRC Section 527, which will make expenditures to support or oppose candidates for public office. PAC will not have any of its own employees. Subsidiary will select the PAC's board of directors and they will in turn select the PAC's officers, all of whom may serve concurrently as directors or officers of Subsidiary and/or as directors, officers or employees of Taxpayer.

Subsidiary and PAC will solicit contributions to PAC from the employees of Subsidiary, Taxpayer and Taxpayer's IRC Section 501(c)(3) subsidiaries. Acting as service providers to Subsidiary under a resource-sharing agreement, Taxpayer's employees will engage in fundraising activities on PAC's behalf. Taxpayer asserts that it will not coordinate with Subsidiary or PAC on fundraising efforts, distribution of informational materials, or other activities. Taxpayer will also charge Subsidiary and PAC fair market value for the use of mailing lists of its employees and the employees of its IRC Section 501(c)(3) subsidiaries.

As required by federal campaign finance laws, PAC will be connected to a separate segregated fund of Subsidiary, and Subsidiary and PAC may only solicit voluntary contributions from a restricted class that includes Subsidiary's stockholders and executive or administrative personnel and their families, Taxpayer's executive or administrative personnel and their families, and its subsidiaries, branches, divisions and departments (the restricted class). Federal campaign finance law permits Subsidiary to solicit PAC contributions in writing two times per calendar year from Taxpayer's employees and its affiliates outside the restricted class.

Taxpayer represents that:

• Taxpayer will provide Subsidiary with information about Taxpayer's management and personnel and its affiliates solely to enable Subsidiary and PAC to comply with federal campaign finance law on soliciting contributions from the restricted class
• PAC and Subsidiary will maintain separate bank accounts, books and records, prepare separate financial statements, reports and tax returns, and have separate letterhead and Internet addresses
• Taxpayer's board of directors will adopt a resolution prohibiting the board from any involvement in PAC and prohibiting any Taxpayer director, officer or employee from being involved in PAC on Taxpayer's behalf or in an official Taxpayer capacity

A resource-sharing agreement between Taxpayer and Subsidiary provides that:

• Taxpayer will provide to Subsidiary and its subsidiaries, including PAC, management, administrative and corporate services, along with facilities and equipment
• Subsidiary will reimburse Taxpayer for the resulting "net costs," defined as the sum of all direct and indirect costs

Subsidiary also plans to contract with a third-party administrator to help fundraise for PAC by: sending solicitations as permitted under federal and state election law, maintaining accounting and other records of contributions and expenditures, and preparing federal and state regulatory filings. Taxpayer contends that hiring a third-party administrator will limit the extent of Taxpayer's employees' provision of services to PAC.

Taxpayer asked the IRS to rule that:

1. Subsidiary's operation of PAC will not constitute Taxpayer's participation or intervention in a political campaign under IRC Section 501(c)(3)
2. Taxpayer's provision of services and other resources to Subsidiary and PAC under their agreement will not constitute Taxpayer's participation or intervention in a political campaign under IRC Section 501(c)(3)
3. The resource-sharing agreement will not cause Taxpayer to be operated for private benefit or result in private inurement under IRC Section 501(c)(3)

Law

Describing organizations that are organized and operated exclusively for religious, charitable or educational purposes, IRC Section 501(c)(3) also provides that no substantial part of the organization's activities may be carrying on propaganda or otherwise attempting to influence legislation, or participating in or intervening in any political campaign on behalf of, or in opposition to, a candidate for public office.

Treas. Reg. Section 1.501(C)(3)-1(c)(3)(i) states an organization cannot be an "action" organization while exclusively operating for one or more exempt purposes. An "action" organization is defined in Reg. Section 1.501(C)(3)-1(C)(3)(iii) as an organization that participates or intervenes, directly or indirectly, in any political campaign for public office. Participation includes making any written or oral statements on behalf of, or in opposition to, a political candidate.

Under Treas. Reg. Section 1.501(c)(3)-1(d)(1)(ii), an organization is not organized or operated exclusively for an exempt purpose unless it serves a public rather than a private interest. Being operated for the benefit of private interests means benefiting individuals such as the founder of the organization or his/her family, shareholders of the organization, or persons controlled, directly or indirectly, by these private interests.

Revenue Ruling 2007-41 uses 21 examples to illustrate the facts and circumstances to be considered in determining whether an IRC Section 501(c)(3) organization has participated or intervened in a political campaign. Three of the examples are pertinent to this PLR request.

• Situation 4: An IRC Section 501(c)(3) organization is deemed to have intervened in a political campaign because its president endorsed a candidate for public office using the organization's newsletter and the endorsement appeared in the organization's official publication; the president had personally reimbursed the organization for the cost of the newsletter attributable to his endorsement.
• Situation 17: An IRC Section 501(c)(3) museum is considered not to have intervened in a political campaign when it rents its reception hall to the general public, charging a standard fee based on the number of people attending; among the organizations that have rented the hall is a political campaign using the hall for a fundraising dinner.
• Situation 18: An IRC Section 501(c)(3) theater organization that maintains, but has not previously rented, a mailing list of all of its subscribers and contributors is deemed to have intervened indirectly in a political campaign when it agrees to rent the list to a candidate for public office who supports increased funding for the arts but declines to rent the list to other candidates.

In American Campaign Academy v. Commissioner, 92 T.C. 1053 (1989), the Tax Court sustained the Service's denial of an IRC Section 501(c)(3) exemption application depicting an organization that operated a school to train people for careers as political campaign professionals, primarily to work for one political party. The Tax Court held the IRS had properly denied exemption, holding that the entity was not operated for exempt purposes within the meaning of IRC Section 501(c)(3) because more than an insubstantial part of its activities furthered a nonexempt purpose, furthering private interests that were not members of a charitable class.

Rulings

Rulings 1 and 2. The IRS concluded that Taxpayer's provision of its employee mailing list to Subsidiary and PAC to enable them to solicit funds for PAC constituted political campaign intervention. Analogizing the facts to Situation 18 of Revenue Procedure 2007-41, the IRS noted that one determinative factor in whether an organization has engaged in political campaign intervention in the context of a business activity is whether the activity is an ongoing activity of the organization or is conducted for a particular political candidate. The IRS distinguished the facts from the rental of a banquet hall in Situation 17, noting that "Taxpayer's assembly and provision of a mailing list for the Subsidiary and the PAC has as its sole purpose to assist Subsidiary and PAC in soliciting political campaign contributions from Taxpayer's employees so that PAC may then make expenditures to support or oppose candidates for public office." The instant facts are more akin to Situation 18, the IRS found.

The IRS stated that the resource-sharing agreement under which Taxpayer agrees to provide services and equipment to Subsidiary "provides no guardrails or limitations with respect to services that might be inconsistent with Taxpayer's exempt purpose" and does not adequately demonstrate how Taxpayer's employees will provide services "as employees of Subsidiary under the direction and control of Subsidiary, when the majority of Subsidiary's board of directors and all the employees of Subsidiary are employees of Taxpayer and there is no identified separation of roles in connection with directing and controlling their performance of services." Therefore, the IRS concluded that the services provided under the agreement to carry out the activities of the PAC are services provided by the Taxpayer's employees under an agreement for the Taxpayer to provide such services.

Further, even if Taxpayer is fully reimbursed for its costs in preparing the mailing list and performing services for Subsidiary and PAC, "Taxpayer still would be engaging in an activity that does not further an exempt purpose," the IRS concluded. The IRS noted that, in Situation 4 of Revenue Ruling 2007-41, the organization violated the prohibition against political campaign intervention despite being fully reimbursed for the cost of publishing the endorsement.

Subsidiary's contracting with a third-party administrator to assist in fundraising does not remove Taxpayer's participation in furthering Subsidiary's and PAC's political campaign purposes, the IRS added. Taking all of these factors into consideration, the IRS concluded that the operation of PAC with Taxpayer's providing services and other resources to Subsidiary and PAC and providing a specialized mailing list would constitute participation in or intervention in a political campaign under IRC Section 501(c)(3).

Ruling 3. Noting that the only reason Taxpayer would compile the list of its employees' addresses was to help Subsidiary and PAC solicit funds for PAC, the IRS ruled that Taxpayer's soliciting PAC contributions and complying with federal election laws would not further Taxpayer's exempt purpose. Taxpayer's mailing list activities "provide a direct benefit to Subsidiary and PAC, a benefit that is not incidental to the performance of any exempt purpose," and instead serves a private interest, the IRS concluded.

Implications

This private letter ruling is of special significance for tax-exempt organizations that own or control, either wholly or in part, a related for-profit enterprise that is engaged in activities unrelated to the tax- exempt purpose of the organization.

Historically, the IRS has recognized the distinct status and legal identity of wholly owned corporations when looking at the actions of the single shareholder. (See Moline Properties, Inc. v. Commissioner, 319 U.S. 436 (1943), holding that the corporation was not a mere agent of the stockholder, despite being wholly owned by the single stockholder). In this private letter ruling, however, the IRS has indicated that the facts presented showed the for-profit subsidiary was so intertwined with the exempt organization parent as to make the former a mere extension of the latter. Hence, the Taxpayer's control over the Subsidiary, through the overlap of boards and the sharing of resources, results in all employees and actions of the Subsidiary being attributed to the benefit of the Taxpayer. This attribution results in the PAC's activities being imputed to the Taxpayer, which places its tax exemption under IRC Section 501(c)(3) at risk.

Taxpayers with similar organizational and employment structures should consider enacting formal mechanisms to separate and attenuate the amount of control the tax-exempt organization has over the activities of employees who are providing services to any subsidiaries and/or joint ventures.

Although the IRS's heightened scrutiny in this ruling is due in large part to the political activities in which the related for-profit organization and/or the PAC engage, it is possible that the IRS could apply the same arguments and reach similar conclusions when the activities are not political in nature. Thus, tax-exempt organizations should continue to do their due diligence when entering into shared service agreements with entities that have substantial activities unrelated to the organization's tax-exempt purpose.

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