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The IRS has revoked (202238018) the tax-exempt status of an IRC Section 501(c)(3) entity previously recognized as an IRC Section 509(a)(3) supporting organization.

Facts

According to the IRS's revocation notice, the purpose of the organization was to operate exclusively for the benefit of and in connection with its supported organization — a public charity recognized under IRC Section 501(c)(3) — by organizing local interviews for applicants to the supported organization and hosting receptions for accepted applicants. The organization's articles of incorporation also stated that the organization would raise funds for the supported organization to establish and award scholarships.

The organization's bylaws did not require the organization's trustees or board members to be comprised of members of the supported organization or that the supported organization control or supervise the organization.

The organization's activities included holding a certain number of meetings each calendar year. Meetings were held (1) to welcome those who are admitted to the supported organization, (2) for group dinners, travel and sporting events, and (3) for a year-end picnic. Dues paid to the organization did not provide any specific benefits but to help pay for these activities to benefit the supported organization.

On a recent information return, the organization indicated that none of its officers, directors, or trustees were appointed or elected by the supported organization or served on the supported organization's governing board. In response to a question on an IRS form asking how the organization maintained a close relationship with the supported organization, the organization simply wrote "Facts and Circumstances Test" without explaining those facts or circumstances. The supporting organization also stated on the return that the supported organization did not "have a significant voice" in the supporting organization's investment policies or in directing the use of its income or assets. The IRS revocation letter states that the organization's treasurer acknowledged that the organization did not qualify as a supporting organization under IRC Section 509(a)(3), but "does qualify as a not-for-profit charitable organization, fully supported by contributions and investment earnings, benefitting [redacted] with its activities, and spending only to further its goals in promoting education."

Law

Under Treas. Reg. Section 1.509(a)-4(b)(1), an IRC Section 509(a)(3) organization must be both organized and operated "exclusively for the benefit of, to perform the functions of, or carry out the purposes of … one or more specified publicly supported organizations" to qualify as a supporting organization.

Further, a Type III supporting organization that is operated in connection with (as opposed to a Type I or II supporting organization that is supervised or controlled by or in connection with) one or more supported organizations must satisfy the requirements of the "responsiveness test" under Treas. Reg. Section 1.509(a)-4(i)(3) by being responsive to the needs or demands of its supported organization(s). A supporting organization can only satisfy this requirement if (1) at least one of its officers, directors or trustees was elected or appointed by the supported organization's officers, directors, trustees or membership; (2) at least one member of the supported organization's governing body is an officer, director, trustee, or other important individual in the supporting organization; or (3) its officers, directors or trustees maintain a close, continuous working relationship with the supported organization's officers, directors, or trustees. (Treas. Reg. Section 1.509(a)-4(i)(3)(ii).)

Finally, for a Type III supporting organization to meet the responsiveness test, the officers, directors or trustees of the supported organization must "have a significant voice in the investment policies of the supporting organization, the timing of grants, the manner of making grants, and the selection of grant recipients by [the] supporting organization, and in otherwise directing the use of the income or assets of the supporting organization." (Treas. Reg. Section 1.509(a)-4(i)(3)(iii).)

IRS conclusion

The IRS revoked the supporting organization's IRC Section 501(c)(3) and 509(a)(3) tax-exempt supporting organization status because the organization did not satisfy the Type III supporting organization responsiveness test and did not operate exclusively for charitable purposes. The organization failed the responsiveness test because none of its officers, directors or trustees were elected or appointed by the supported organization; the two organizations had no officers, directors or trustees in common; the supporting organization's officers, directors and trustees did not maintain a close, continuous working relationship with their counterparts in the supported organization; and the supported organization did not have a significant voice in the entity's investment policies or grantmaking activities. The IRS explained that the organization was not operated exclusively for charitable purposes because its activities were more social than charitable in nature. In fact, the IRS suggested that the organization should consider applying for IRS recognition of exemption as an IRC Section 501(c)(7) social club.

Implications

It is uncommon for the IRS to revoke the tax-exempt status of a supporting organization, despite the complexity and relatively unforgiving nature of the supporting organization requirements in the IRC and regulations. This revocation notice sheds some light on the IRS's review process for determining qualification as a supporting organization under IRC Section 509(a)(3). For instance, the IRS analyzed whether this organization met the Type III responsiveness test but did not include an analysis in the letter regarding whether or how it met the Type III integral part test or other supporting organization requirements. Rather, the IRS suggested in the revocation letter that this organization would be more likely to qualify under IRC Section 501(c)(7) as a social club — that is, a club organized and operated exclusively "for pleasure, recreation, and other nonprofitable purposes." This revocation underscores the need for careful planning to ensure that an organization is both organized and operated exclusively for tax-exempt charitable purposes before applying for IRS recognition of IRC Section 501(c)(3) tax-exempt status or otherwise claiming that status.

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