Foundation may set aside construction funds for educational facility

Plain-English summary

A private foundation requested approval to set aside funds for the initial construction phase of an educational and cultural facility. Its wholly owned disregarded entity would construct the facility, which another tax-exempt organization would own and operate for three schools and for community activities outside school hours. The foundation showed that construction and fundraising required more time than an immediate payment would allow and represented that the set-aside would be paid within 60 months. The IRS approved the set-aside under IRC § 4942(g)(2), applying the suitability test for a long-term specific project. The approved amount had to be documented as a pledge or obligation and taken into account in the foundation's minimum investment return and adjusted net income calculations.

Ruling snapshot

• Question: Did the proposed construction funding qualify as an approved set-aside under IRC § 4942(g)(2)?
• Outcome: Approved, subject to payment within 60 months after the first set-aside
• Key authorities: IRC §§ 170(c)(2)(B) and 4942(g)(2); Treas. Reg. § 53.4942(a)-3(b); Rev. Rul. 74-450

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
P.O. Box 2508
Cincinnati, OH 45201

Employer Identification Number:
Release Number: 201503023

Release Date: 1/16/2015 Contact Person - ID Number:
Date: October 23, 2014

Contact Telephone Number:

LEGEND: UIL:

x = dollar amount 4942.03-07
M = organizations

N=

Dear

Why you are receiving this letter

This is our response to your December 26, 2013 letter requesting approval of a set-aside
under Internal Revenue Code section 4942(g)(2). You have been recognized as tax-exempt
under section 501(c)(3) of the Code and have been determined to be a private foundation
under section 509(a).

Our determination
Based on the information furnished, your set-aside program is approved under Internal

Revenue Code section 4942(g)(2). As required under section 4942(g)(2), the set aside
amount must be paid within the 60-month period after the date of the first set-aside.

Description of set-aside request

M, a 501(c)(3) entity, will own and operate a facility that will be constructed by N, your wholly-
owned, disregarded limited liability company. The facility will be used for educational and
cultural purposes for three schools currently operating in separate locations. It will be open to
the community and serve as a hub for community activities during and after school, and in the
evening and weekend hours.

M will retain ownership of said facility once construction is complete through a gift of 100% of
its membership interest in N. You will finance the initial construction phase of this project
through a set-aside amount of x dollars.

You provided specific information that describes the project and estimated amounts required
to complete the project. You also estimate that the gift will be made in 2015. You have
provided a representation that the amount set aside will actually be paid within 60 months
after the date of the first set-aside. You also provided information that shows that you need
adequate time to not only construct the facility, but also to raise enough funds needed to pay
for the project.

Basis for our determination

Internal Revenue Code section 4942(g)(2)(A) states that an amount set aside for a specific
project, which includes one or more purposes described in section 170(c)(2)(B), may be
treated as a qualifying distribution if it meets the requirements of section 4942(g)(2)(B).

Section 4942(g)(2)(B) of the Code states that an amount set aside for a specific project will
meet the requirements of this subparagraph if, at the time of the set-aside, the foundation
establishes that the amount will be paid within five years and either clause (i) or (ii) are
satisfied.

Section 4942(g)(2)(B)(i) of the Code is satisfied if, at the time of the set-aside, the private
foundation establishes that the project can better be accomplished using the set-aside than by
making an immediate payment.

Section 53.4942(a)-3(b)(1) of the Foundations and Similar Excise Taxes Regulations provides
that a private foundation may establish a project as better accomplished by a set-aside than
by immediate payment if the set-aside satisfies the suitability test described in section
53.4942(a)-3(b)(2).

Section 53.4942(a)-3(b)(2) of the Foundations and Similar Excise Taxes Regulations provides
that specific projects better accomplished using a set-aside include, but are not limited to,
projects where relatively long-term expenditures must be made requiring more than one
year’s income to assure their continuity.

In Revenue Ruling 74-450, 1974-2 C.B. 388, an operating foundation converted a portion of
newly acquired land into a public park under a four-year construction contract. The
construction contract payments were to be made mainly during the final two years. This
constituted a “specific project.” The foundation’s set-aside of all its excess earnings for four
years was treated as a qualifying distribution under Internal Revenue Code section
4942(g)(2).

What you must do

Your approved set-aside(s) will be documented on your records as pledges or obligations to
be paid by the date specified. The amounts set aside will be taken into account to determine
your minimum investment return under Internal Revenue Code section 4942(e)(1)(A), and the
income attributable to your set aside(s) will also be taken into account in computing your
adjusted net income under section 4942(f) of the Code.

Additional information

This determination is directed only to the organization that requested it. Internal Revenue
Code section 6110(k)(3) provides that it may not be used or cited as a precedent.

Please keep a copy of this letter in your records. We have sent a copy of this letter to your
representative as indicated in your power of attorney.

If you have any questions, please contact the person listed in the heading of this letter.

Sincerely,

Director, Exempt Organizations

Enclosure
Notice 437