Supporting Organizations Could Be Putting Their Charity Designation at Risk
From the Pension Protection Act in 2006, to Treasury Regulations in 2012 and 2015, to new disclosure requirements to Form 990 Schedule A introduced in 2014, supporting organizations have been subject to scrutiny over the last few years.
Supporting organizations are left wondering if their current activities will fall within these published rules. Consequences of falling outside these guidelines include treatment as a private foundation instead of a public charity. If their designation changes, these organizations would be subject to excise taxes on investment income and would need to abide by stricter operational requirements.
Supporting organizations achieve public charity status by passing four tests—an organizational test, operational test, relationship test and control test. For the organizational test, an organization must be organized and operated exclusively for the benefit of, to perform the function of, or to carry out the purposes of one or more specified organizations described in IRC section 509(a)(1) or (2). The organization must also be operated, supervised or controlled by or in connection with at least one organization by one of those specified groups. Supporting organizations cannot be controlled directly or indirectly by anyone classified as disqualified (although there are exceptions for IRC sections 509(a)(1) or (2) controlling organizations).
Additionally, a supporting organization must fall into one of three relationship categories:
- Operated, supervised or controlled by a supported organization (Type I parent-subsidiary);
- Supervised or controlled in connection with a supported organization (Type II, brother-sister); or
- Operated in connection with one or more publicly supported organizations (Type III).
The relationship must ensure that the supporting organization is responsive to the needs or demands of the supported organization, and the supporting organization maintains significant involvement in the operations of the supported organization.
Many Type I and II supporting organizations do not make grants to the controlling organization, but make grants to other organizations that address the charitable purpose of the controlling organization. However, this commonplace industry practice could put supporting organizations at risk of failing the operational test. A supporting organization can only support or grant funds to an organization that is specified within its organizing documents. The rules on how to determine what is a “specified organization” are very complex. Specified organizations may be identified by designating an organization by name or by a charitable class that aligns with the mission of the controlling organization. The strict requirements for designating a supported organization by class are also found in the Treasury Regulations. This type of designation requires additional disclosures on the supporting organization’s Form 990 Schedule A
, which may be scrutinized by the IRS.
Now is a good time to look at a supporting organization’s operations and confirm they are aligned with the governing documents, and that grants are made properly. If the organizational documents and operations are not aligned, the supporting organization may need to act quickly to prevent private foundation status.
For more information, contact Rebekuh Eley, nonprofit tax managing director, Central Region Nonprofit & Education Practice Leader, at email@example.com