Determination 1047025: IRS approved a private foundation's set-aside for an overseas education project

Plain-English summary

The IRS approved a private operating foundation's set-aside of funds for a project providing educational materials and teacher training to indigenous communities in a foreign country. The foundation had been delayed by that country's registration requirements for foreign charitable organizations and could not lawfully begin the project. The IRS determined that the project would be better accomplished through a set-aside than by immediately paying the funds, and that the amount would be spent within the required period. The set-aside therefore qualified as a qualifying distribution under section 4942(g)(2).

Ruling snapshot

• Question: Could the foundation treat funds reserved for a delayed overseas charitable project as a qualifying distribution under the suitability test?
• Outcome: approved
• Key authorities: IRC §§ 170, 4942(g)(2), 501(c)(3), 509(a), and 6110(k)(3); Treas. Reg. § 53.4942(a)-3.

Full text (IRS public release)

Department of the Treasury
P.O. Box 2508 - Room 4122
Cincinnati, Ohio 45201

Internal Revenue Service
Director, Exempt Organizations

Release Number: 201047025
Release Date: 11/26/10

Date: 9/1/2010
Employer Identification Number:

Person to Contact - ID#:

Contact Telephone Numbers:
Phone
Fax

UIL 4942.03-07

LEGEND

B= State

C= Date of Incorporation

D= Country

E= Date of exemption letter

G= Agency of foreign government

H= Agency of foreign government

I= Official register of entities
J= Name of branch

c= Amount of requested set-aside

Dear

You have requested advance approval of a set-aside under the suitability
test of section 4942(g) (2) of the Internal Revenue Code. You are exempt
from Federal income tax under section 501(c) (3) of the Code and are
classified as a private operating foundation described in sections 509(a)

and 4942(j)(3)of the Code.

FACTS

You have submitted a timely request for a set-aside in the amount of $c for
the tax period ending December 31, 20 . You were incorporated in the state
of B on date C, for the primary purpose of providing free medical and
educational services to indigenous peoples living in a remote district in the
country of D. You were determined to be exempt under section 501(c) (3)

by our letter dated E.

From your formation date through December 31, 20 , you have been prevented
from conducting operations of any kind in the country of D, including a
project, described below, which you had approved and would otherwise have
carried out in 20 . By the laws of D every foreign entity, including every
charitable organization, is required to conduct its business through a
branch formed under the laws of D. In addition, a foreign foundation must
have its branch establish its exemption from income tax by being entered on
the Register of Exempted Entities that is the charge of the G, an agency of
the government of D. The application for registration must include a copy of
a Certificate of Registration issued by H, the administrative entity
that oversees the activities of domestic and foreign foundations and

to

maintains the I. If the foundation commences operations before completing
all of these steps, it will be subject to a fine, and the gross revenue of the
branch, including all transfers from the parent foundation, will be treated as
taxable income, and program related expenses of the branch will not be
deductible under the tax law of D. Furthermore, commencement of operations
prior to the branch's entry on the Register may jeopardize its chances for
obtaining tax exemption. For these reasons you have had to suspend the
commencement of your operations pending the successful outcome of the
registration process.

This process has proven unexpectedly prolonged and arduous. The government
of D scrutinizes all foundations very closely due to past abuses of tax-
exempt status by individuals or entities for purposes of tax evasion. You
have taken timely steps to begin the process and to keep it going forward;
the agencies of the government of D, however, control the timeframes in the
process. You initiated the process of establishing the branch during 20 j;
this was finally achieved only in July of 20 . The branch was assigned a
tax identification number in August 2009. In September 20 you initiated the
second step, of obtaining a Certificate of Registration from H. H has
modified the information it requires on three occasions, and H has still
not made its determination. The third step, registration with G as a tax
exempt entity will commence immediately upon the completion of the second
step.

But for the unforeseeable delay in the qualification of your branch as an
Exempt Entity, you would have conducted the following program in the tax
period ending December 31, 20 , with program expenditures of
$c. The project entails distributing basic educational materials
(including basic educational kits for school and students, A/V equipment
and instructional videos) to indigenous communities and training for the
local teachers. The program will target fifteen grade schools and four high
schools, with approximately students. If the branch obtains the
Tax Exempt status in D in the first quarter of 20 , the entire set-aside
will be expended before December 31, 20

LAW

Section 509(a) of the Code describes organizations exempt from federal
income tax under section 501(c) (3) of the Code that are private
foundations, including those subject to the private operating foundation
provisions of IRC 4942(j) (3).

Section 4942(g) (1) of the Code defines “qualifying distribution” as (a) any
amount paid to accomplish one or more purposes described in section
170(c) (2) (B), other than any contribution to (i) an organization controlled
by the foundation or one or more disqualified persons, or (ii) a private
foundation which is not an operating foundation, except as otherwise
provided; (b) any amount paid to acquire an asset used directly in carrying
out one or more purposes described in section 170(c) (2) (B).

Section 4942(g) (2) (A) of the Code provides that, for all taxable years
beginning on or after January 1, 1975, an amount set aside for a specific

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project within one or more purposes of section 170(c) (2) (B) may be treated
as a qualifying distribution if the amount meets the requirements of
section 4942(q) (2) (B).

Section 4942(g) (2) (B) (i) of the Code provides that an amount set aside for
a specific project may be treated as a qualifying distribution if, at the
time of the set-aside, the foundation establishes to the satisfaction of the
Secretary the amount set aside will be paid for the specific project within
five years, and the specific project is one that can better be accomplished
by the set-aside of income rather than by the immediate payment of funds
(the “suitability test”).

Section 4942(4) (3) of the Code requires that private operating foundations
must spend at least 85% of its adjusted net income or its minimum
investment return, whichever is less, directly for the active conduct of
its exempt activities (the income test) in order to remain a private
operating foundation.

Section 53.4942(a)-3(a) (2) (iii) defines as a qualifying distribution any
amount set aside within the meaning of paragraph (b) of section 3.

Section 53.4942(a)-3(b) (1) of the Foundation and Similar Excise Tax
Regulations provides that the amounts of income set aside for a specific
project for one or more of the purposes in section 170(c) (1) or
170(c) (2) (B) of the Code may be treated as qualifying distributions for the
tax year(s) in which such amounts are set aside (but not in the tax year in
which actually paid) if the requirements of section 4942(g) (2) and
paragraph (b) are satisfied. The requirements of paragraph (b) are
satisfied if the foundation establishes to the satisfaction of the
Commissioner the amount set aside will be paid for the specific project
within 60 months after it is set aside, and (i) the set-aside otherwise
meets the suitability test of section 53.4942(a)-3(b) (2) or (ii) the
foundation satisfies the cash distribution test.

Section 53.4942(a)-3(b) (2) of the regulations provides that the suitability
test is satisfied if the private foundation establishes to the satisfaction
of the Commissioner that the specific project for which the amount is set
aside is one that can be better accomplished by the set-aside than by the
immediate payment of funds.

Section 53.4942(a)-3(b) (7) (i) provides that a private foundation must
obtain Internal Revenue Service approval of its set-aside of income under
the suitability test by applying before the end of the tax year in which
the amount is set aside.

Rev. Rul. 68-117, 1968-1 C.B. 251, and Rev. Rul. 68-165, 1968-1 C.B. 253,
hold domestic organizations providing technical and material assistance to
foreign self-help programs to be exempt under IRC 501(c) (3).

ANALYSIS

You have sought timely approval of your set-aside of income in accordance
with Section 53.4942(a)-3(b) (7) (i).

As required by Section 4942(g) (2) (A) of the Code and Section 53.4942 (a) -
3(b) (1) of the Regulations, your project will accomplish purposes described
in section 170(c) (2) (B) of the Code, namely, the relief of the poor and
distressed. See Rev. Rul. 68-117 and Rev. Rul. 68-165.

You have credibly represented that the amount set-aside for this specific
project will be paid out within 60 months from the set-aside, as required by
section 4942(g) (2) (B) (1) of the Code and section 53.4942(a)-3(b) (1) of
the regulations.

Your project is such as can better be accomplished by the set-aside of
income rather than by the immediate payment of funds. Domestic charitable
organizations wishing to operate in foreign countries must satisfy the
legal and regulatory requirements of the host countries as well as the
requirements of U.S. law. The process of obtaining all the necessary
permissions may, as in the present case, prove to be prolonged,
frustrating, and hampered by unpredictable problems and delays. Although
you had intended to complete the project in question in 20 , you have been
compelled to suspend all your charitable activities pending the
registration by G of your branch as an Exempt Entity. The project has not
been abandoned, but merely postponed, until you are able to carry it on
lawfully in the country of D.

Your project therefore satisfies the suitability test as set forth in
Section 4942(g) (2) (B) (i)of the Code and Section 53.4942(a)-3(b) (2)of the
Regulations.

RULING

Based on the foregoing, the set-aside of $c for the taxable year ending
December 31, 20 , meets the requirements of Section 4942(g) (2) (B) (1) and
accordingly constitutes a qualifying distribution under section 4942(g) (2).

Section 53.4942(a)-3(b) (8) of the regulations provides any set-aside
approved by the Internal Revenue Service must be evidenced by the entry of
a dollar amount in the books and records of a private foundation as a
pledge or obligation to be paid at a future date or dates. Further, the
amount of the set-aside must be taken into account in determining the
foundation’s minimum investment return (see section 53.4942(a)- 2(c) (1) of
the regulations), and any income attributable to a set-aside must be taken
into account in computing adjusted net income (see section 53.4942 (a) -2(d)
of the regulations).

This ruling is based on the understanding there will be no material changes
in the facts upon which it is based. Any changes that may have a bearing
on your tax status should be reported to the Internal Revenue Service.

This ruling does not address the applicability of any section of Code or

regulations to the facts submitted other than with respect to the sections
described.

This ruling letter is directed only to the organizations that requested it.
Section 6110(k) (3) of the Code provides that it may not be used or cited as
precedent.

Pursuant to a Power of Attorney on file in this office, a copy of this
letter is being sent to the authorized representative. This ruling letter
does not address the applicability of any section of the Code or
regulations to the facts submitted other than with respect to the sections
described.

Please keep a copy of this ruling letter in your permanent records.
If you have any questions about this ruling, please contact the persons

whose name and telephone number are shown above in the heading of this
letter.

Sincerely yours,

Robert S. Choi
Director, Exempt Organizations
Rulings & Agreements

Enclosures: Notice 437, Redacted Copy of Letter