Determination 1021030: IRS revoked an inactive organization’s tax exemption for a nonexempt commercial purpose

Plain-English summary

The IRS revoked an organization’s exemption under IRC § 501(c)(3), effective January 1, 20XX. The organization did not operate primarily for exempt purposes and its activities furthered a substantial nonexempt commercial purpose that served private rather than public interests. The examination also found that the organization was inactive during the relevant years and had not carried on its stated counseling activities. Contributions were no longer deductible, and the organization was required to file Form 1120.

Ruling snapshot

• Question: Did the organization operate exclusively for exempt purposes under IRC § 501(c)(3)?
• Outcome: Revocation
• Key authorities: IRC §§ 501(a), 501(c)(3), 170, and 7428; Treas. Reg. § 1.501(c)(3)-1

Full text (IRS public release)

DEPARTMENT OF THE TREASURY
INTERNAL REVENUE SERVICE

= ; 1100 Commerce Street 501.03-00

Dallas, TX 75242

Date: February 23, 2010

Release Number: 201021030

Release Date: 5/28/10 Person to Contact:

LEGEND Badge Number:

ORG = Organization name XX = Date Contact Telephone Number:
Contact Address:

ORG Employer Identification Number:

ADDRESS Deadline to Petition Tax Court:

CERTIFIED MAIL
Dear

This is a final notice of adverse determination that your exempt status under section
501(c)(3) of the Internal Revenue Code is revoked. Recognition of your exemption under
Internal Revenue Code section 501(c)(3) is revoked effective January 1, 20XX the following
reason(s):

You are not organized and operated exclusively for an exempt purpose as required by Internal
Revenue Code section 501(c)(3). You are not and have not been engaged primarily in activities
which accomplish one or more exempt purposes. You are not a charitable organization within
the meaning of Treasury Regulation 1.501(c)(3)-1(d); rather, your activities further a substantial
nonexempt commercial purpose and serve private rather than public interests.

Contributions to your organization are no longer deductible effective January 1, 20XX.

Since your exempt status has been revoked, you are required to file Form 1120, U.S.
Corporation Income Tax Return, for all years beginning on or after January 1, 20XX.

Income tax returns for subsequent years are to be filed with the appropriate Service Center
identified in the instructions for those returns.

It is further determined that your failure to file a written appeal constitutes a failure to exhaust
your available administrative remedies. However, 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 Claims Court, or the district court of the United States for the District of Columbia
before the (ninety-first) 91st day after the date that this determination was mailed to you.
Contact the clerk of the appropriate court for rules for initiating suits for declaratory judgment.
To secure a petition form, write to the following address:

Please understand that filing a petition for a declaratory judgment under IRC section 7428 will
not delay the processing of subsequent income tax returns and assessment of any taxes due.

The last day for filing a petition for declaratory judgment is May 3, 20XX.

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 and ask for the
Taxpayer Advocate assistance or you can contact the Advocate from the site where this issue
was determined by writing to:

Taxpayer Advocate assistance cannot be used as substitute for established IRS procedures,
formal appeals processes, etc. The Taxpayer Advocate is not able to reverse legal or technically
correct tax determination, nor extend the time fixed by law that you have to file a petition in
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.

This letter should be kept within your permanent records.

If you have any questions, please contact the person whose name and telephone number are
shown above.

Sincerely,

Nanette M. Downing
Acting Director, EO Examinations

Enclosures:
Publication 892

Internal Revenue Service Department of the Treasury
Tax Exempt and Government Entities Division

100 West Capitol St.

STOP 29

Jackson, MS 39269

Date: November 20, 2009

LEGEND Taxpayer Identification Number:
ORG = Organization name XX = D Form:
Add g nd ate Tax Year(s) Ended:
FESS BOOEESS Person to Contact/ID Number:
Contact Telephone Number:
ORG Contact Fax Number:
ADDRESS

CERTIFIED MAIL - RETURN RECEIPT

REQUESTED

Dear

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 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

Letter 3618 (Rev 11/2003)
Catalog Number 34809F

2

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:

If you have any questions, please call the contact person at the telephone number shown in the heading of this
letter. If you write, please provide a telephone number and the most convenient time to call if we need to
contact you.

Thank you for your cooperation.
Sincerely,

Cecil R. Weems
Exempt Organizations
EO Revenue Agent

Enclosures:
Publication 892
Publication 3498
Report of Examination

Letter 3618 (Rev 11/2003)
Catalog Number 34809F

| Schedule number or exhibit

Form 886-A
(Rev. January 1994) EXPLANATIONS OF ITEMS

Name of taxpayer | Tax Identification Number Year/Period ended
ORG 12/31/20XX
12/31/20XX
LEGEND
ORG = Organization name XX = Date Address = address City = city State =

state DIR-1, DIR-2, DIR-3, DIR-4 & DIR-5 = 197, 28°, 3R0, 4TH g¢ 5°! DIRECTORS
Issue:

1. Whether ORG (hereinafter referred to as “ORG’”) is operated exclusively for exempt purposes
   described within Internal Revenue Code section 501(c)(3):

a. Whether ORG is engaged primarily in activities that accomplish an exempt purpose?

b. Whether more than an insubstantial part of the activities of ORG are in furtherance of a non-
exempt purpose?

Facts:

ORG was incorporated on June 19, 20XX, as a non-profit corporation in the State of State. The
stated purpose of the organization is exclusively for charitable endeavors and other lawful activity as
allowed under the State Nonprofit Corporation Law. It was organized and was to be operated exclusively
as an exempt organization under Section 501(c)(3) of the Internal Revenue Code of 19XX.

On January 9, 20XX, ORG received from the Internal Revenue Service a determination letter
advising the organization of recognition of exempt status under Section 501(c)(3) of the Internal Revenue
Code, and an advance ruling on the foundation status under Sections 509(a)(1) and 170(b)(1)(A)(vi) of the
Internal Revenue Code.

ORG received its final determination letter from the Internal Revenue Service. This letter
determined that ORG’s exempt status under Section 501(c)(3) of the Code was still in effect, but that the
organization failed the public support test and was classified as a private foundation.

ORG was notified by the Internal Revenue Service on of a pending examination of its books and
records to be conducted on of the Form 990PF for year ended December 31, 20XX. The examination was
subsequently expanded to include the Form 990PF for the year ended December 31, 20XX.

Tax Return History:
To date, ORG has filed a total of three Forms 990PF, Return of Private Foundation or Section

4947(a)(1) Nonexempt Charitable Trust Treated as a Private Foundation. The table below shows the filing
history of this tax form.

Tax Year Ended Filing Date Due Date

December 31, 20XX May 29, 20XX May 15, 20XX
December 31, 20XX January 12, 20XX May 15, 20XX
December 31, 20XX July 29, 20XX May 15, 20XX

Tax Return Information:

Form 886-A (1-1994) Catalog Number 20810W Page 1 publish.no.irs.gov Department of the Treasury-Internal Revenue Service

Form 886-A
(Rev. January 1994)

EXPLANATIONS OF ITEMS

Schedule number or exhibit

Name of taxpayer

ORG

Tax Identification Number

Year/Period ended

12/31/20XX
12/31/20XX

The address of the organization as shown on the Forms 990PF is Address City, State. The physical
address of the organization is Address, City, State. Per the returns filed for 20XX and 20XX, Line 14 lists
the books and records as being in the care of DIR-1, at the mailing address of the organization.

The summary of direct charitable activities on the Form 990PF for 20XX states, “Foundation
provided direct professional counseling to more than 275 individuals in the areas of debt relief, housing and
legal services.” The Form 990PF for 20XX makes a similar statement, but does not list the number of

individuals helped.

The organization has a board of directors, whose number changed each year. In 20XX, there were
three directors, in 20XX there was only one director listed. The list of directors of the organization, as
compiled from the Forms 990PF for the years ended December 31, 20XX and December 31, 20XX, from
the Articles of Incorporation, and from the current listing from the state regulatory agency is shown below:

Individual

DIR-1
DIR-2
DIR-3
DIR-4

DIR-4
DIR-3
DIR-1

DIR-1

DIR-1
DIR-4
DIR-3
DIR-5

Source/Year

Articles of Incorporation
Articles of t!ncorporation
Articles of Incorporation
Articles of Incorporation

Form 990PF 20XX
Form 990PF 20XX
Form 990PF 20XX

Form 990PF 20XX

Secretary of State
Secretary of State
Secretary of State
Secretary of State

Position
Director
Director
Director, Treasurer
Director

Sec/Treasurer
Director
Director

Director

Director, President
Director

Director, Secretary
Treasurer

None of the board members are related and none appear to have business, professional, or family
relationships with any of the other board members.

In 20XX & 20XX ORG had no employees. The president, DIR-1, was solely in charge of the
operations of ORG.

Activities:

It was indicated in the statement of program service accomplishments on the Forms 990PF that the
main activity of the organization was that the foundation provided direct professional counseling to
individuals in the areas of debt relief, housing and legal services and the use of the debt management

program”.

After the examiner interviewed the director and the books and records provided by ORG it has been
determined that the organization was inactive during the years of 20XX forward and that the organization
probably will not be operational again and that the director was considering terminating the exempt status

Form 886-A (1-1994)

Catalog Number 20810W Page 2

publish.no.irs.gov

Department of the Treasury-Internal Revenue Service

Schedule number or exhibit

Form 886-A |
Ronee ET EXPLANATIONS OF ITEMS |

Name of taxpayer Tax Identification Number | Year/Period ended
ORG 12/31/20XX
12/31/20XX

and discontinuing operations. ORG had no income or contributions during the years of 20XX & 20XX, no
employees, did no advertising, had no operational expenses and no longer had a website.

There has been no documentation of information provided to verify that ORG was conducting any of
the typical credit counseling activities. There was no documented telephone calls or in-person interviews
or interactions between ORG and any consumers or clients.

Advertising:

During the years of the examination it has not been shown that ORG did any advertising of its
services through referrals, TV, radio, or newspaper ads. There was a yellow pages ad in the telephone
book, but the number when called was not ORG.

Training Materials:

There were no manuals, telephone scripts or any information or documentation provided that
indicated that there were any counselor certifications or any ongoing training of counselors. There were no
paid counselors during 20XX or 20XX.

Minutes:
There were no written minutes presented for the years of 20XX or 20XX.
Financial Information:

There was no income reported for the organization during 20XX or 20XX. The Forms 990PF
showed contributions, but these were in error. The director paid some expenses for ORG, but they
appeared to have been reimbursed. The large contribution in 20XX was not verified as a bona fide
contribution to ORG. There was no client income or fees received in 20XX or 20XX.

A review of the bank statements for ORG indicated that there were transactions between the
president and ORG, but these were determined to be in error, deposits of personal funds by DIR-1 and
withdrawals of those funds by her. The statements for this account were requested and then summons
from the bank.

Law:

Section 501(a) of the Internal Revenue Code provides that an organization described in section
501(c)(3) is exempt from income tax. Section 501(c)(3) of the Code exempts from federal income tax
corporations organized and operated exclusively for charitable, educational, and other purposes, provided
that no part of the net earnings inure to the benefit of any private shareholder or individual. The term
charitable includes relief of the poor and distressed. Section 1.501(c)(3)-1(d) (2), Income Tax Regulations.

The term educational includes (a) instruction or training of the individual for the purpose of
improving or developing his/her capabilities and (b) instruction of the public on subjects useful to the
individual and beneficial to the community. Treas. Reg. § 1.501(c)(3)-1(d)(3). In other words, the two
components of education are public education and individual training.

Form 886-A (1-1994) Catalog Number 20810W = Page 3 publish.no.irs.gov Department of the Treasury-Internal Revenue Service

Schedule number or exhibit

Form 886-A
et eee SELLE EXPLANATIONS OF ITEMS

Name of taxpayer Tax Identification Number Year/Period ended
ORG |" 12/31/20XX
12/31/20XX

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), an organization must be both organized and operated
exclusively for one or more of the purposes specified in such section. If an organization fails to meet either
the organizational test or the operational test, it is not exempt.

Section 1.501(c)(3)-1(c)(1) of the regulations provides that an organization will be regarded as
“operated exclusively” for one or more exempt purposes only if it engages primarily in activities that
accomplish one or more of such exempt purposes specified in section 501(c)(3). An organization will not
be so regarded if more than an insubstantial part of its activities is not in furtherance of an exempt purpose.
The existence of a substantial nonexempt purpose, regardless of the number or importance of exempt
purposes, will cause failure of the operational test. Better Business Bureau of Washington, D.C. v. U.S.,
326 U.S. 279 (1945).

Educational purposes include instruction or training of the individual for the purpose of improving or
developing his/her capabilities and instruction of the public on useful and beneficial subjects. Treas. Reg.
§ 1.501(c)(3)-1(d)(3). In Better Business Bureau of Washington D.C., Inc. v. United States, 326 U.S. 279
(1945), the Supreme Court held that the presence of a single non-exempt purposes, if substantial in nature,
will destroy the exemption regardless of the number or importance of truly exempt purposes. The Court
found that the trade association had an “underlying commercial motive” that distinguished its educational
program from that carried out by a university.

Treas. Regs. § 1.501(c)(3)-1 - Organizations organized and operated for religious, charitable,
scientific, testing for public safety, literary, or educational purposes, or for the prevention of cruelty to
children or animals.

a) Organizational and operational tests. (1) In order to be exempt as an organization described in section
501(c)(3), an organization must be both organized and operated exclusively for one or more of the
purposes specified in such section. If an organization fails to meet either the organizational test or the
operational test, it is not exempt.

(2) The term exempt purpose or purposes, as used in this section, means any purpose or purposes
specified in section 501(c)(3), as defined and elaborated in paragraph (d) of this section.

(b) Organizational test--(1) in general. (i) An organization is organized exclusively for one or more exempt
purposes only if its articles of organization (referred to in this section as its articles) as defined in
subparagraph (2) of this paragraph:

(a) Limit the purposes of such organization to one or more exempt purposes; and

(b) Do not expressly empower the organization to engage, otherwise than as an insubstantial part of its
activities, in activities which in themselves are not in furtherance of one or more exempt purposes.

(ii) In meeting the organizational test, the organization's purposes, as stated in its articles, may be as broad
as, or more specific than, the purposes stated in section 501(c)(3). Therefore, an organization which, by the
terms of its articles, is formed for literary and scientific purposes within the meaning of section 501(c)(3) of
the Code shall, if it otherwise meets the requirements in this paragraph, be considered to have met the
organizational test. Similarly, articles stating that the organization is created solely to receive contributions
and pay them over to organizations which are described in section 501(c)(3) and exempt from taxation

Form 886-A (1-1994) Catalog Number 20810W Page 4 __—publish.no.irs.gov Department of the Treasury-Internal Revenue Service

| Schedule number or exhibit

Form 886-A
(Rev. January 1994) EXPLANATIONS OF ITEMS |

Name of taxpayer 7 Tax Identification Number | Year/Period ended
ORG 12/31/20XX
| 12/31/20XX

under section 501(a) are sufficient for purposes of the organizational test. Moreover, it is sufficient if the
articles set for the purpose of the organization to be the operation of a school for adult education and
describe in detail the manner of the operation of such school. In addition, if the articles state that the
organization is formed for charitable purposes, such articles ordinarily shall be sufficient for purposes of the
organizational test (see subparagraph (5) of this paragraph for rules relating to construction of terms).

(iii) An organization is not organized exclusively for one or more exempt purposes if its articles expressly
empower it to carry on, otherwise than as an insubstantial part of its activities, activities which are not in
furtherance of one or more exempt purposes, even though such organization is, by the terms of such
articles, created for a purpose that is no broader than the purposes specified in section 501(c)(3). Thus, an
organization that is empowered by its articles to engage in a manufacturing business, or to engage in the
operation of a social club does not meet the organizational test regardless of the fact that its articles may
state that such organization is created for charitable purposes within the meaning of section 501(c)(3) of
the Code.

(c) Operational test--(1) Primary activities. An organization will be regarded as operated exclusively
for one or more exempt purposes only if it engages primarily in activities which accomplish one or more of
such exempt purposes specified in section 501(c)(3). An organization will not be so regarded if more than
an insubstantial part of its activities is not in furtherance of an exempt purpose

In the case of Consumer Credit Counseling Service of Alabama, Inc. v. U.S., 44 A.F.T.R.2d 78-
5052 (D.D.C. 1978), the District Court for the District of Columbia held that a credit counseling organization
qualified as charitable and educational under section 501(c)(3). It fulfilled charitable purposes by educating
the public on subjects useful to the individual and beneficial to the community. Treas. Reg. § 1.501(c)(3)-
1(d)(3)(i)(b). For this, it charged no fee. The court found that the counseling programs were also
educational and charitable; the debt management and creditor intercession activities were “an integral part”
of the agencies’ counseling function and thus were charitable and educational. Even if this were not the
case, the court viewed the debt management and creditor intercession activities as incidental to the
agencies’ principal functions, as only approximately 12 percent of the counselors’ time was applied to debt
management programs and the charge for the service was “nominal.” The court also considered the facts
that the agency was publicly supported and that it had a board dominated by members of the general
public as factors indicating a charitable operation. See also, Credit Counseling Centers of Oklahoma, Inc.
v. United States, 79-2 U.S.T.C. 9468 (D.D.C. 1979), in which the facts and legal analysis were virtually
identical to those in Consumer Credit Counseling Centers of Alabama, Inc. v. United States, discussed
immediately above.

“Section 1.501(c)(3)-1(d)(2) of the Income Tax Regulations provides that the term “charitable” used
in section 501(c)(3) of the Code in its generally accepted legal sense. The regulation further states
that the term “charity” includes lessening the burdens of government and the promotion of social
welfare by organizations designed (i) to lessen neighborhood tensions; (ii) to eliminate prejudice
and discrimination; (iii) to defend human and civil rights secured by law; or (iv) to combat community
deterioration and juvenile delinquency.

Government’s Position:

It is the government’s position that ORG conducted no educational activity or any other exempt
functions during the years of the examination. There were no credit counseling sessions held and that
since ORG had no clients this lack of any exempt purposes and also the fact that there is no intention at

Form 886-A (1-1994) Catalog Number 20810W Page 5 publish.no.irs.gov Department of the Treasury-Internal Revenue Service

Schedule number or exhibit

Form 886-A
(Rev. January 1994) EXPLANATIONS OF ITEMS

Name of taxpayer Tax Identification Number Year/Period ended
ORG 12/31/20XX
12/31/20XX

this point to begin operations again it is proposed that the exempt status granted to ORG under section
501(c)(3) be revoked.

No indication was found that there were non-exempt activities conducted, but rather that the
organization did not do anything during the years of the examination.

Taxpayer’s Position:

At the time of issuance of the report the taxpayer was in agreement with the revocation of exempt
status of the organization.

Conclusion:

ORG was not operated exclusively for educational or for any other exempt purposes within the
meaning of section 501(c)(3) of the Code. The organization was inactive and did not carry on any exempt
activities during 20XX or 20XX, no educational training or counseling was provided to any individuals on
credit or debt management issues, and ORG did not provide education to the community at large.

Therefore, the organization’s exempt status under section 501(c)(3) of the Code should be revoked
effective January 1, 20XX.

Form 886-A (1-1994) Catalog Number 20810W Page 6 publish.no.irs.gov Department of the Treasury-Internal Revenue Service