IRS revokes a section 501(c)(3) organization's exemption for private spending

Plain-English summary

The IRS revoked a section 501(c)(3) organization's exemption after finding that its president used the organization's bank account for personal expenses and controlled its funds without adequate safeguards. The organization had no meaningful activities, incomplete records, and expenditures that were not documented as serving an exempt purpose. The IRS concluded that the organization's assets and income inured to the benefit of its founder and president, and that it failed to operate exclusively for exempt purposes. The organization was required to file Form 1120 for the affected and later tax years.

Ruling snapshot

• Question: Did the organization continue to operate exclusively for exempt purposes without private inurement?
• Outcome: Revocation
• Key authorities: IRC §§ 170, 501(a), 501(c)(3), 509(a)(1), 4958, 6001, 6033, 6104(c), 6110, and 7428; Treas. Reg. §§ 1.501(c)(3)-1, 1.501(a)-1(c), 1.6001-1, and 1.6033-1

Full text (IRS public release)

DEPARTMENT OF THE TREASURY
INTERNAL REVENUE SERVICE

TE/GE EO EXAMINATIONS

TAX EXEMPT AND 1100 COMMERCE ST. MAIL STOP 4920 DAL
GOVERNMENT ENTITIES DALLAS, TEXAS 75242

501.03-00

DIVISION

January 27, 2012

Release Number: 201219027
Release Date: 5/11/2012
Taxpayer Identification Number:

LEGEND Person to Contact:
ORG - Organization name Employee Identification Number:
XX - Date Address - address Employee Telephone Number:
(Phone)
(Fax)

CERTIFIED MAIL
Dear

This is a final adverse determination regarding your exempt status under section 501(c)(3) of
the Internal Revenue Code (the Code). Our favorable determination letter to you dated October
6, 20XX is hereby revoked and you are no longer exempt under section 501(a) of the Code
effective January 1, 20XX.

Our adverse determination was made for the following reasons:

As a result of our examination of your activities and financial records, we have determined that
your organization was not operated for tax exempt purposes under Code section 501(c)(3). Per
Treasury Regulation 1.501(c)(3)-1(c)(1), your organization was required to establish that no
more than an insubstantial part of your activities was not in furtherance of an exempt purpose.

You were found to also have violated the prohibition against inurement that is a requirement of
exemption under Code section 501(c)(3). You expended funds to pay for the personal
expenses of your president, who used your bank account as their own checking account.

Contributions to your organization are no longer deductible.

You are required to file income tax returns on Form 1120. If you have not already filed these
returns and the examiner has not provided you instructions for converting your previously filed
Form(s) 990-EZ to Form(s) 1120, you should file these income tax returns with the appropriate
Service Center for the tax year ending December 31, 20XX, and for all tax years thereafter in
accordance with the instructions of the return.

Processing of income tax returns and assessments of any taxes due will not be delayed should
a petition for declaratory judgment be filed under section 7428 of the Internal Revenue Code.

If you decide to contest this determination, you may file an action for declaratory judgment
under the provisions of section 7428 of the Code in one of the following three venues: United

States Tax Court, the United States Court of Federal Claims, or the United States District Court
for the District of Columbia. A petition or complaint in one of these three courts must be filed
before the 91st day after the date this determination was mailed to you if you wish to seek
review of our determination. Please contact the clerk of the respective court for rules and the
appropriate forms regarding filing petitions for declaratory judgment by referring to the enclosed
Publication 892. Please note that the United States Tax Court is the only one of these courts
where a declaratory judgment action can be pursued without the services of a lawyer. You may
write to the courts at the following addresses:

You also 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 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 contact the person whose name and telephone number are
shown in the heading of this letter.

Sincerely yours,

Nanette M. Downing
Director, EO Examinations

Enclosures:

Publication 892, Exempt Organization Appeal Procedures for Unagreed Issues
Form 6018, Consent to Proposed Action - Section 7428

Return envelope

DEPARTMENT OF THE TREASURY
INTERNAL REVENUE SERVICE
TE/GE EO Examinations
3251 N Evergreen Dr NE
Grand Rapids, MI 49525

August 29, 2012

ORG Taxpayer ID Number:
ADDRESS Form:
Tax Year(s) Ended
December 31, 20xx
Person to Contact/ID Number:
Contact Numbers:
Telephone:
Fax:

CERTIFIED MAIL — RETURN RECEIPT REQUESTED
Dear

We propose to revoke our recognition of your exempt status as an organization
described in section 501(c)(3) of the Internal Revenue Code (Code). We enclose
our report of examination explaining why we are proposing this action.

If you accept our proposal, please sign and return the enclosed Form 6018,
Consent to Proposed Action - Section 7428, unless you have already provided us
a signed Form 6018. We will issue a final revocation letter determining you are
not an organization described in section 501(c)(3). After the issuance of the final
revocation letter we will publish an announcement that you have been deleted
from the cumulative list of organizations contributions to which are deductible
under section 170 of the Code. If you do not respond to this proposal, we will
similarly issue a final revocation letter. Failing to respond to this proposal may
adversely impact your legal standing to seek a declaratory judgment because
you may be deemed to have failed to exhaust administrative remedies.

If you do not agree with our proposed revocation and wish to protest our
proposed revocation to the Appeals Office of the Internal Revenue Service, then
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. This written request is
called a protest. For your protest to be valid it needs to contain certain specific
information which generally includes a statement of the facts, the applicable law,
and arguments in support of your position. For the specific information needed
for a valid protest, please refer to page 6 of the enclosed Publication 3498, The

Examination Process, and page 2 of the enclosed Publication 892, Exempt
Organizations Appeal Procedures for Unagreed Issues. These documents also
explain how to appeal an IRS proposed action.

If you do submit a valid protest, then 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 and Publication 892 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. Please note that Fast Tract
Mediation Services referred to in Publication 3498, generally do not apply after
issuance of this letter.

You may also request that we refer this matter for Technical Advice as explained
in Publication 892 and an annual revenue procedure. Please contact the
individual identified on the first page of this letter if you are considering
requesting Technical Advice. If we issue a determination letter to you based on a
Technical Advice Memorandum issued by the EO Rulings and Agreements
function, then no further administrative appeal will be available to you within the
IRS on the matter.

If you agreed with the proposed revocation or if you receive a final revocation
letter, you will be required to file Federal income tax returns for the tax period(s)
shown above. File these returns with the Ogden Service Center within 30 days
of the date you agreed with the revocation or the date of your final revocation
letter, whichever is sooner, unless a request for extension of time is granted. File
returns for later tax years with the appropriate service center indicated in the
instructions for those returns.

We will notify the appropriate state officials of the revocation in accordance with
section 6104(c) of the Code. Currently, only certain states are eligible to receive
notification of proposed revocation actions. You can call the person at the
heading of this letter to find out if your State is eligible to receive a notice of
revocation of your tax-exempt status.

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 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,

Nanette M Downing
Director EO Examinations

Enclosures:
Publication 892
Publication 3498
Form 6018

Report of Examination

In lieu of Letter 3618

Form 886A Department of the Treasury - Internal Revenue Service Schedule No. or
Explanation of Items Exhibit
Name of Taxpayer Year/Period Ended
ORG December 31, 20XX
LEGEND
ORG - Organization name XX - Date Address - address City - city
State - state President - president CO-1 through CO-46 - 1ST THROUGH

46TH COMPANIES

ISSUE

Whether ORG’s tax exempt status under IRC Section 501(c)(3) should be revoked because it is
not operated exclusively for tax exempt purposes and its net earnings inure to the benefit of its
founder and president, President.

FACTS

ORG, was recognized as exempt from Federal income tax under Section 501(c)(3) of the
Internal Revenue Code and issued an advance ruling letter in October 20XX. ORG was
recognized as a public charity under Section 509(a)(1) by letter dated April 7, 20XX.
President is the President and founder of ORG.

President started ORG in 20XX by renting office space inside of a building in City, State. The
lease agreement for the office space is in the name of President, not ORG. President also runs
her for-profit business, CO-1, from the same location.

Based on a review of the determination application and the records provided, it is not clear
what the organization intended its main activities to be. There was mention of “bridging the
gap for the disabled”, but no actual activities were mentioned that described how that would
be done, what it meant, or how it would be an exempt function.

During the year under examination the organization did not have any activities, and has not
had any activities to present.

President decided to cease operations at the end of 20XX. She did not notify the state of State
Charitable Trust division or the Internal Revenue Service that the organization would be
closing. A final Form 990 was never filed.

ORG maintains one bank account at CO-2 in City, State.

The only records that President could produce for the year under examination were the bank
statement for December 20XX and the carbon copies of checks written for the year. Bank
statements, copies of cancelled checks, and deposit transaction records had to be summonsed

from the bank.

INCOME

Form 886-A (Rev. 4-68) Department of the Treasury - Internal Revenue Service
Page: -1-

Form 886A Department of the Treasury - Internal Revenue Service Schedule No. or
Explanation of Items Exhibit

Name of Taxpayer Year/Period Ended

ORG December 31, 20XX

During the initial interview President claimed that the organization did not have any money
during the year under examination. Further, she said that she had made a loan to the
organization at the end of the year, and repaid herself shortly thereafter when she decided to
close the organization.

The bank statements for the year were summonsed and examined; it was discovered that there
were $ in deposits made for the year. All copies of deposit records summonsed from the bank
had notations that labeled the deposits as “contributions”, not a loan as President previously
claimed.

EXPENSES
Unsubstantiated expenses

All of the bank statements along with copies of cancelled checks written were reviewed for the
calendar year 20XX. No documentation, such as receipts, was provided as to the business
purpose of the expenditures.

ORG’s expenses were analyzed as a part of the determination as to whether ORG was operating
exclusively for a tax-exempt purpose. The following expenditures do not appear to have been
made in furtherance of ORG’s exempt purposes.

Check dated August 5, 20XX was written to the order of CO-3 (apparently a company that
accepts deposits for CO-4 retirement savings accounts) with “investment” entered into memo of
the check. (the debit was done electronically by the company, and the check number was not used
when the transaction cleared) Check was written to the order of President in the amount of $ with
“counseling services” written in the memo of the check.

A wire transfer out of the account in the amount of $ was made with no record of what the
transfer was for, or how it relates to the exempt function of the organization.

Numerous debit card transactions to gas stations, beauty supply stores, restaurants, clothing
stores, and other locations were made from the account of the organization with no
documentation to show the relation of the expense to the exempt function to the organization.

The checks, cash withdrawals, wire transfer, and debit card transactions (listed below) did not
have documentation to show their business purpose, and were not included as wages on a Form
W-2. The Form filed with the Service Center, Part V-A Current Officers, Directors,
Trustees, and Key Employee reported compensation for President of $. None of the expenditures
match with the $ of wages listed on the Form . There were no records that authorized any
additional salary to President. President was not issued a Form W-2 or 1099.

Form 886-A (Rev. 4-68) Department of the Treasury - Internal Revenue Service
Page: -2-

Form 886A Department of the Treasury - Internal Revenue Service Schedule No. or
Explanation of Items Exhibit
Name of Taxpayer Year/Period Ended
ORG December 31, 20XX
DATE CK# NAME AMOUNT REMARKS
24-Jul ATM ATM Withdrawal
24-Jul ATM ATM Withdrawal
31-Jul ATM CO-5
July Total
1-Aug ATM CO-5
4-Aug AT CO-6
Direct debit (Check # not
5-Aug 1126 CO-3 used)
5-Aug ATM CO-7
7-Aug ATM CO-8
11-Aug ATM CO-9
11-Aug ATM CO-10
11-Aug AT CO-11
12-Aug ATM CO-12
13-Aug ATM CO-13
13-Aug ATM CO-14
13-Aug AT CO-11
13-Aug ATM CO-15
13-Aug ATM CO-16
14-Aug ATM CO-17
14-Aug ATM CO-18
14-Aug ATM CO-17
18-Aug ATM CO-6
19-Aug ATM CO-16
21-Aug ATM CO-19
21-Aug ATM CO-20
26-Aug ATM ATM Withdrawal
26-Aug ATM ATM Withdrawal
29-Aug ATM CO-21
August Total
2-Sep ATM CO-22
2-Sep ATM CO-23
2-Sep ATM CO-6
2-Sep ATM CO-8
2-Sep ATM CO-24
2-Sep ATM CO-6
10-Sep ATM CO-25
11-Sep Wire Wire Transfer
11-Sep ATM CO-26
11-Sep ATM CO-11

Form 886-A (Rev. 4-68)

Department of the Treasury - Internal Revenue Service

Page: -3-

Form 886A Department of the Treasury - Internal Revenue Service Schedule No. or
Explanation of Items Exhibit
Name of Taxpayer Year/Period Ended
ORG December 31, 20XX
12-Sep AT CO-8
15-Sep ATM CO-27
15-Sep ATM CO-8
15-Sep ATM CO-27
17-Sep ATM CO-9
17-Sep ATM CO-8
18-Sep ATM CO-6
19-Sep ATM CO-28s
22-Sep Withdrawal Counter Withdrawal
22-Sep ATM CO-29
25-Sep 1128 President
29-Sep ATM CO-30
29-Sep ATM CO-16
29-Sep ATM CO-16
30-Sep ATM CO-31
September Total
1-Oct ATM CO-32
1-Oct ATM CO-33
1-Oct ATM CO-34
6-Oct ATM ATM Withdrawal
6-Oct ATM CO-35
9-Oct ATM ATM Withdrawal
12-Oct ATM CO-36
14-Oct ATM CO-25
14-Oct ATM CO-8
15-Oct ATM Foreign ATM fee
20-Oct ATM ATM Withdrawal
20-Oct ATM CO-8
21-Oct ATM ATM Withdrawal
21-Oct ATM CO-7
22-Oct ATM CO-37
23-Oct ATM CO-10
23-Oct ATM CO-10
27-Oct ATM CO-32
27-Oct ATM CO-38
27-Oct ATM CO-38
28-Oct ATM CO-39
31-Oct Withdrawal Counter Withdrawal
October Total
4-Nov ATM CO-40
5-Nov ATM CO-41
6-Nov ATM CO-8
7-Nov ATM CO-10
10-Nov ATM CO-42

Form 886-A;Rrev.468)

Department of the Treasury - Internal Revenue Service

Page: -4-

Form 886A Department of the Treasury~- Internal Revenue Service Schedule No. or
Explanation of Items Exhibit
Name of Taxpayer Year/Period Ended
ORG December 31, 20XX
10-Nov ATM CO-24
13-Nov ATM Address, (CO-8)
14-Nov ATM CO-40
14-Nov ATM Address, (CO-8)
14-Nov ATM CO-43
17-Nov Withdrawal Counter Withdrawal
17-Nov ATM CO-32
17-Nov ATM CO-44
17-Nov ATM CO-9
20-Nov Withdrawal Counter Withdrawal
24-Nov ATM CO-45
November Total
2-Dec ATM CO-17
15-Dec ATM CO-42
18-Dec 1131 President
24-Dec ATM CO-46
31-Dec 1132 CO-l
December Total
Total of funds used

APPLICABLE LAW AND ANALYSIS

Internal Revenue Code section 501(c)(3) exempts from Federal income tax: corporations, and
any community chest, fund, or foundation, organized and operated exclusively for religious,
charitable, scientific, testing for public safety, literary, or educational purposes, or to foster
national or international amateur sports competition (but only if no part of its activities involve
the provision of athletic facilities or equipment), or for the prevention of cruelty to children or
animals, no part of the net earnings of which inures to the benefit of any private shareholder or
individual, no substantial part of the activities of which is carrying on propaganda, or otherwise
attempting to influence legislation (except as otherwise provided in subsection (h)), and which
does not participate in, or intervene in (including the publishing or distributing of statements),
any political campaign on behalf of (or in opposition to) any candidate for public office.

Treasury Regulation section 1.501(a)-1(c) defines a private shareholder or individual for section
501 purposes as those persons having a personal and private interest in the activities of the
organization.

Treasury Regulation section 1.501(c)(3)-1(a)(1) 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.

Form 886-A (Rev. 4-68) Department of the Treasury - Internal Revenue Service
Page: -5-

Form 886A Department of the Treasury - Internal Revenue Service Schedule No. or
Explanation of Items Exhibit

Name of Taxpayer Year/Period Ended

ORG December 31, 20XX

Treasury Regulation section 1.501(c)(3)-1(b)(1) states that an organization is organized
exclusively for one or more exempt purposes only if its articles of organization (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.

Treasury Regulation section 1.501(c)(3)-1(c)(1) states that 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.

Treasury Regulation section 1.501(c)(3)-1(c)(2) states, in part, that an organization is not
operated exclusively for one or more exempt purposes if its net earnings inure in whole or in part
to the benefit of private shareholders or individuals.

Treasury Regulation section 1.501(c)(3)-1(d)(1)(i) provides that an organization may be
exempt as an organization described in section 501(c)(3) if it is organized and operated
exclusively for one or more of the following purposes:

(a) Religious,

(b) Charitable,

(c) Scientific,

(d) Testing for public safety,

(e) Literary,

(f) Educational, or

(g) Prevention of cruelty to children or animals.

Treasury Regulation section 1.501(c)(3)-1(d)(1)(ii) provides that an organization is not organized
or operated exclusively for one or more of the purposes specified in subdivision (i) of this
subparagraph unless it serves a public rather than a private interest. Thus, to meet the
requirement of this subdivision, it is necessary for an organization to establish that it is not
organized or operated for the benefit of private interests such as designated individuals, the
creator or his family, shareholders of the organization, or persons controlled, directly or
indirectly, by such private interests.

Fact patterns suggesting inurement also frequently suggest excess benefit transactions between an
exempt organization and a disqualified person under § 4958. The recent regulations issued under §
501(c)(3), at Treas. Reg. § 1.501(c)(3)-1(f)(ii)), instruct the Service to consider a variety of factors to
determine whether revocation is appropriate when section 4958 excise taxes also apply:

Form 886-A (Rev. 4-68) Department of the Treasury - Internal Revenue Service
Page: -6-

Form 886-A Department of the Treasury - Internal Revenue Service Schedule No. or
Explanation of Items Exhibit

Name of Taxpayer Year/Period Ended

ORG December 31, 20XX

(A) The size and scope of the organization's regular and ongoing activities that further exempt
purposes before and after the excess benefit transaction or transactions occurred;

(B) The size and scope of the excess benefit transaction or transactions (collectively, if more than
one) in relation to the size and scope of the organization's regular and ongoing activities that
further exempt purposes;

(C) Whether the organization has been involved in multiple excess benefit transactions with one
or more persons;

(D) Whether the organization has implemented safeguards that are reasonably calculated to
prevent excess benefit transactions; and

(E) Whether the excess benefit transaction has been corrected (within the meaning of section
4958(f)(6) and § 53.4958-7), or the organization has made good faith efforts to seek
correction from the disqualified person(s) who benefited from the excess benefit transaction

The Commissioner has discretion to weigh the factors depending on the particular situation, but the
latter two factors are weighted heavier only when the Organization has taken preemptive steps to
correct the excess benefit transaction before they were brought to the Commissioner’s attention.
Treas. Reg. § 1.501(c)(3)-1(f)(iii).

Treas. Reg. § 1.501(c)(3)-1(f)(iv) Example 3 supposes that an organization’s founder diverts
significant portions of the organization’s to pay personal expenses, which reduces the funds
available to conduct exempt activity, over the course of multiple years. The board of trustees
never authorized the organization to pay the founder’s personal expenses and takes no action to
seek repayment or terminate the founder’s involvement with the organization. The founder
claims that the payments represent loans, but no contemporaneous documentation exists and no
payments of principal or interest were ever made to the organization. Based on the factors above,
the regulations contemplate that not only does the diversion of funds constitute an excess benefit
transaction under § 4958, but the prohibition against inurement has been violated and the
organization no longer qualified as an organization described in § 501(c)(3).

Section 6001 of the Code provides that every person liable for any tax imposed by the Code, or
for the collection thereof, shall keep adequate records as the Secretary of the Treasury or his
delegate may from time to time prescribe.

Section 6033(a)(1) of the Code provides, except as provided in section 6033(a)(2), every
organization exempt from tax under section 501(a) shall file an annual return, stating specifically
the items of gross income, receipts and disbursements, and such other information for the
purposes of carrying out the Internal Revenue laws as the Secretary may by forms or regulations
prescribe, and keep such records, render under oath such statements, make such other returns,
and comply with such rules and regulations as the Secretary may from time to time prescribe.

Section 1.6001-1(a) of the regulations in conjunction with section 1.6001-1(c) provides that
every organization exempt from tax under section 501(a) of the Code and subject to the tax

Form 886-A (Rev. 4-68) Department of the Treasury - Internal Revenue Service
Page: -7-

Form, 8 86 A Department of the Treasury- Internal Revenue Service Schedule No. or
Explanation of Items Exhibit

Name of Taxpayer Year/Period Ended

ORG December 31, 20XX

imposed by section 511 on its unrelated business income must keep such permanent books or
accounts or records, including inventories, as are sufficient to establish the amount of gross
income, deduction, credits, or other matters required to be shown by such person in any return of
such tax. Such organization shall also keep such books and records as are required to substantiate
the information required by section 6033.

Section 1.6001-1(e) of the regulations states that the books or records required by this section
shall be kept at all times available for inspection by authorized internal revenue officers or
employees, and shall be retained as long as the contents thereof may be material in the
administration of any internal revenue law.

In accordance with the above cited provisions of the Internal Revenue Code and Treasury
Regulations under sections 6001 and 6033, organizations recognized as exempt from federal
income tax must meet certain reporting requirements. These requirements relate to the filing
of a complete and accurate annual information (and other required federal tax forms) and the
retention of records sufficient to determine whether such entity is operated for the purposes
for which it was granted tax-exempt status and to determine its liability for any unrelated
business income tax.

Rev. Rul. 59-95, 1959-1 C.B. 627, concerns an exempt organization that was requested to
produce a financial statement and statement of its operations for a certain year. However, its
records were so incomplete that the organization was unable to furnish such statements. The
Service held that the failure or inability to file the required information return or otherwise to
comply with the provisions of section 6033 of the Code and the regulations which implement it,
may result in the termination of the exempt status of an organization previously held exempt, on
the grounds that the organization has not established that it is observing the conditions required
for the continuation of exempt status.

In Better Bus. Bureau v. United States, 326 U.S. 279 (1945), the United States Supreme Court
held that for an organization to qualify for tax exempt status, the organization must be
exclusively devoted to an exempt purpose and the presence of a single nonexempt purpose, if
substantial in nature, will destroy the exemption regardless of the number or importance of truly
exempt purposes.

Where an individual or small group has exclusive control over the management of the
organization’s funds and is the principal recipient of the distributions of the organization,
prohibited inurement is strongly suggested. See Church of Eternal Life & Liberty v.
Commissioner, 86 T.C. 916, 927 (1986);

In Founding Church of Scientology v. United States, 412 F.2d 1197 (Ct. Cl. 1969), cert.
denied, 397 U.S. 1009 (1970), an organization argued that the Court should not find that
the organization’s earnings inured to its founders since it had made some payments to

Form 886-A (Rev. 4-68) Department of the Treasury - Internal Revenue Service
Page: -8-

Form 886A Department of the Treasury- Internal Revenue Service Schedule No. or
Explanation of Items Exhibit

Name of Taxpayer Year/Period Ended

ORG December 31, 20XX

him as repayments on a loan. The organization could not, however, produce any
documents evidencing the indebtedness. The Court concluded that the church had failed
to meet its burden of proof that a part of the corporate earnings was not a source of
benefit to private individuals.

In John Marshall Law School v. United States, 228 Ct. Cl. 902 (1981), the law school and the
college paid for the founding family's automobiles, education, travel, expenses, insurance
policies, and personal equipment. The court determined that the expenditures for the founding
family were not ordinary and necessary expenses in the course of the law school's and the
college's operations. The court also held that the payment of such personal expenses for the
founder's children by the law school provided direct and substantial benefit to the founder of the
law school and his brother. The court held that these payments constituted prohibited inurement
of the law school's earnings to the founder and his brother, parents of the children receiving the
benefits.

In Greg R. Vinikoor vy. Commissioner, T.C. Memo. 1998-152, the Tax Court held that
whether a financial transaction constitutes a loan depends on all the facts and
circumstances, including whether (1) there was a promissory note or other evidence of
indebtedness; (2) interest was charged; (3) there was security or collateral; (4) there was a
fixed maturity date; (5) a demand for repayment was made; (6) any actual repayment was
made; (7) the transferee had the ability to repay; (8) any records maintained by the
transferor and/or the transferee reflected the transaction as a loan; and (9) the manner in
which the transaction was reported for Federal tax purposes.

In Rameses School of San Antonio, Texas v. Commissioner, T.C. Memo 20XX-85, the
Tax Court held that a private school failed to qualify for exemption under section
501(c)(3) because it operated for the private benefit of its founder. The Tax Court stated:
Factors highlighted of a prohibited relationship have included control by the founder over
the entity’s funds, assets, and disbursements; use of entity moneys for personal expenses;
payments of salary or rent to the founder without any accompanying evidence or analysis
of the reasonableness of the amounts; and purported loans to the founder showing a ready
private source of credit. Nearly all of these factors are present here.

TAXPAYER’S POSITION

The taxpayers position is unknown at this time.

GOVERNMENT’S POSITION

The IRC 501(c)(3) tax exempt status of ORG (the “Organization’’) should be revoked because it
is not operated exclusively for tax exempt purposes. An organization described in section

Form 886-A (Rev. 4-68) Department of the Treasury - Internal Revenue Service
Page: -9-

Fon 8 86 A Department of the Treasury - Internal Revenue Service Schedule No. or
Explanation of Items Exhibit

Name of Taxpayer Year/Period Ended

ORG December 31, 20XX

501(c)(3) must establish that no more than an insubstantial part of its activities is not in
furtherance of an exempt purpose. Treas. Regs.1.501(c)(3)-1(c)(1).

President is an officer, director, and a “private shareholder or individual” because she is a
“person having a personal and private interest in the activities of the organization." as defined in
§1.501(a)-1(c) cited above. She is the founder and president of ORG. President has sole control
over the income, disbursements and assets of the Organization.

President diverted ORG’s funds for her personal benefit as illustrated by the transactions
described above.

President frequently withdrew cash for expenses for which there is no documentation to show
they were ORG related expenditures. The withdrawals are always in even multiples of $ which
does not give the impression that the reimbursements corresponded to genuine expenses of ORG.

President also expended the Organization funds for non exempt purposes, including paying her
personal expenses. She wrote a check for $ to CO-3. The check was deposited to an account in
her name. Research indicates that CO-3 is a company that receives funds for CO-4 Retirement
accounts. The amount was not recorded as salary in the, and not included as wages in a Form W-
2 or 1099.

There is no internal control to ensure that funds were used for exempt purposes. President had
free reign over the following:

to deposit the income or not deposit the income;

use ORG’s debit card; write checks for salary then not report on a Form W-2;
make cash withdrawals at any time;

write checks to herself with no documentation required;

Analysis under the factors laid out in Treas. Reg § 1.501(c)(3)-1(f) supports the conclusion that
revocation of the Organization’s exempt status is appropriate in this case.

There were no internal controls in place, the board did not question President’s management of
ORG’s funds, and no safeguards were put in place to prevent the occurrence of excess benefit
transactions. No correction is known to have been sought by or made to ORG.

In summary, President operated ORG more like a personal business than an exempt organization.
President had control over ORG’s funds, assets and disbursements; made use of the funds for
personal use. The income and assets of ORG inured to the benefit of President the founder and
President of the Organization, thus ORG was not operating exclusively for exempt purposes as

Form 886-A (Rev. 4-68) Department of the Treasury - Internal Revenue Service
Page: -10-

Form 886A Department of the Treasury - Internal Revenue Service Schedule No. or
Explanation of Items Exhibit

Name of Taxpayer Year/ Period Ended

ORG December 31, 20XX

required by section 501(c)(3). See Rameses School of San Antonio, Texas v. Commissioner,
T.C. Memo 20XX-85.

CONCLUSION

Accordingly, the Organization’s status as an organization described under section 501(c)(3)
should be revoked , effective January 1, 20XX, because it did not operate exclusively for exempt
purposes. Instead, ORG’s assets inured to and served the private interests of its founder
President. Further, the Organization failed to comply with IRC 6001 and 6033 and has not
established that it is observing the conditions required for the continuation of exempt status.
Form 1120 U.S. Corporate Income Tax Return should be filed for tax year ending December 31,
20XX.

Form 886-A (Rev. 4-68) Department of the Treasury - Internal Revenue Service
Page: -11-