Housing applicant denied exemption after years without charitable operations

Plain-English summary

An organization reapplied for section 501(c)(3) status after its earlier exemption was revoked for failing to file Form 990 for three consecutive years. It proposed housing for low-income, elderly, handicapped, veteran, and family-reunification populations, but its land remained vacant and it had conducted no housing activity in more than ten years. Its plans also included market-rate units and did not explain how applicants would qualify, how need would be measured, or how the project would be funded and operated. The organization initially rejected the low-income housing safe harbor in Revenue Procedure 96-32, then adopted a resolution saying it would comply without showing how it would implement the requirements. The IRS concluded that the proposed market-rate activity was a substantial commercial purpose and that the organization had not established an operational charitable program. It denied the renewed exemption application.

Ruling snapshot

• Question: Did the applicant show that its proposed housing program would operate exclusively for charitable purposes?
• Outcome: Denied.
• Key authorities: IRC § 501(c)(3); Treas. Reg. §§ 1.501(c)(3)-1(a), 1.501(c)(3)-1(c)(1), and 1.501-1(d)(2); Rev. Rul. 67-138; Rev. Rul. 70-585; Rev. Proc. 96-32; Rev. Proc. 2012-9.

Full text (IRS public release)

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

Release Number: 201517008
Release Date: 4/24/2015

Date: 1/27/2015

Employer ID number:

UIL code: 501.00-00
501.36-01
503.00-00

Contact person/ID number:
Contact telephone number:

Form you must file:

Tax years:

Dear

This letter is our final determination that you don’t qualify for tax-exempt status under Section
501(c)(3) of the Internal Revenue Code (the Code). Recently, we sent you a proposed adverse
determination in response to your application. The proposed adverse determination explained the
facts, law, and basis for our conclusion, and it gave you 30 days to file a protest. Because we didn’t
receive a protest within the required 30 days, the proposed determination is now final.

Because you don’t qualify as a tax-exempt organization under Section 501(c)(3) of the Code, donors
can't deduct contributions to you under Section 170 of the Code. You must file federal income tax
returns for the tax years listed at the top of this letter using the required form (also listed at the top of
this letter) within 30 days of this letter unless you request an extension of time to file.

We'll make this final adverse determination letter and the proposed adverse determination letter
available for public inspection (as required under Section 6110 of the Code) after deleting certain
identifying information. Please read the enclosed Notice 437, Notice of Intention to Disclose, and
review the two attached letters that show our proposed deletions. If you disagree with our proposed
deletions, follow the instructions in the Notice 437 on how to notify us. If you agree with our
deletions, you don’t need to take any further action.

We'll also notify the appropriate state officials of our determination by sending them a copy of this
final letter and the proposed determination letter (under Section 6104(c) of the Code). You should
contact your state officials if you have questions about how this determination will affect your state
responsibilities and requirements.

Letter 4038 (Rev. 7-2014)
Catalog Number 47632S

If you have questions about this letter, you can contact the person listed at the top of this letter. If
you have questions about your federal income tax status and responsibilities, call our customer
service number at 1-800-829-1040 (TTY 1-800-829-4933 for deaf or hard of hearing) or customer
service for businesses at 1-800-829-4933.

Sincerely,

Director, Exempt Organizations

Enclosure:

Notice 437

Redacted Letter 4036, Proposed Adverse Determination Under IRC Section 501(c)(3)
Redacted Letter 4038, Final Adverse Determination Under IRC Section 501(c)(3) - No Protest

Letter 4038 (Rev. 7-2014)
Catalog Number 47632S

DEPARTMENT OF THE TREASURY
INTERNAL REVENUE SERVICE
WASHINGTON, D.C. 20224

TAX EXEMPT AND
GOVERNMENT ENTITIES

DIVISION
Date: 11/25/2014 Contact Person:
Identification Number:
Contact Number:
FAX Number:
Employer Identification Number:
LEGEND: VIL:
B = individual 501.00-00
C = state 501-36-01
D = bank 503.00-00
E = city
F = date

g = dollar amount
Dear

We have considered your application for recognition of exemption from federal income
tax under Internal Revenue Code section 501(a). Based on the information provided, we
have concluded that you do not qualify for exemption under Code section 501(c)(3). The
basis for our conclusion is set forth below.

This supersedes our previous letter dated April 6, 2012.

Issues

1. Do your operations fail to further a charitable purpose, precluding you from
   exemption under section 501(c)(3) of the Code? Yes, for the reasons described below.

Facts

You were previously granted exemption under Section 501(c)(3) of the Code. Your
exemption was revoked due to non-filing of Form 990 for three consecutive years.

Accordingly, you submitted another Form 1023, reapplying for exemption. Despite

having been in existence for over ten years you have raised little income and have
conducted none of the housing activities as described below.

You incorporated on date F in the state of C. Your Articles of Incorporation state you
were formed to develop “...low income housing for charitable purposes.” B is your
founder and president, as well as your only board member. You indicated you have not
adopted Bylaws.

You will provide low-income housing or housing for the elderly or handicapped. Housing
will be affordable to a significant segment of the elderly or handicapped persons in the
community, as well as low-income residents. You will impose restrictions to make sure
that your housing remains affordable to low-income residents.

Candidates selected for your housing program will show a real need for affordable
housing. Admissions will not be limited to persons of a particular age or handicap. You
will select those clients first that have exhausted all housing options. You do not have
any copies of admission paperwork because the project has not been developed on
your vacant land. You did not indicate or define how need was being determined for
candidates, methods or criteria you would use to evaluate candidates, or information
that would be asked of candidates to validate exhausting their personal options.

You submitted a copy of a proposal to the Children’s Court in your locality dated almost
four years prior to the submission of your current Form1023. In this proposal, you stated
your priority is to assist parents who are trying to reunite with their children but have
limited resources to meet the Court's orders. This proposal states you would like to fill
this need by providing parents with housing, employment, individual counseling, day
care and funding to pay for other necessary services that they need to complete the
Court orders for family reunification with their children. Although this document is dated
several years ago, you did not conduct any of the activities described therein in the
interim.

You said you would create other types of housing for rental at market value, as allowed
by the city where the housing will be located. You said once you receive grant funding,
you “could offer 60% of your units for low-income affordable housing.” You believe that
with government support “...we can continue to assist individuals and families to
achieve the American Dream of becoming homeowners.” You also would like to develop
low-income affordable housing for veterans, for individuals and families that need it the
most, as well as individuals and families who have dependency court cases looking to
regain custody of their children.

You believe these programs will decrease the number of renters in your community as
well as provide the stepping-stone to homeownership. You want to conduct a housing
program to assist individuals and families regain custody of their children as well as
obtain their own housing.

When asked to describe all of your activities since your inception, you simply indicated
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that you have worked with the Congressional Office of the State of C “...to develop low-
income afford[able] sic housing as well the public and private sectors to assist those in
need of housing.” You have worked with D bank to develop low-income housing as well
as the city of E. You did not elaborate on what the development included.

You will not charge an entrance fee or monthly fee. Charges will be subject to one’s
ability to pay. You provided an example of an individual that can only afford a monthly
payment of $100. You said the renter could pay it in four installments of $25 per week.
When asked to compare your charges with similar facilities in your area you said you
have “...lower or no rates because it will still [sic] clients into program that can not afford
to pay.”

You do not have any arrangements with government agencies to absorb the cost of
residents who may become unable to pay for your services because you are not a profit
making organization and the agencies have very limited funding available to absorb
your costs should someone not be able to pay. You are committed to helping renters
who may lose their ability to pay by not evicting them. You said you have reserves for
future expenditures, but your balance sheet showed a balance of only g dollars in cash,
which was your only asset listed.

You purchased a piece of vacant land approximately eight years ago for a minimal
amount of money. You intend to build an apartment building on this land. Your proposed
apartment building is a two-story residence consisting of eight bedrooms that can hold
two individuals per room, totaling sixteen renters. Local zoning laws prevent any larger
development. As of now, the land is still vacant.

You will have a social worker at the facility to assist residents with their physical,
emotional, recreational, social, religious and similar needs, as you want your elderly
renters to have a very good quality of life. You will provide these services at a
“reasonable cost.”

You plan to begin your low-income housing project within the next six months. When
asked how you will serve charitable purposes by complying with the safe harbor
provisions of Revenue Procedure 96-32, you indicated you disagree with the Revenue
Procedure. You have not made any provisions for who will occupy these units with
regard to meeting safe harbor guidelines, as certain cities where you would like to
provide housing may not agree to set aside certain percentages for those of low and/or
very low income. You said the “...cities may be incline[d] to setting aside 25% for low-

income affordable housing.”

The financial data you provided includes a minimal amount of revenue received for the
last 4 years. All of your expenditures were fundraising expenses.

Law

Section 1.501(c)(3)-1(a) of the regulations states that 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 an organization does not qualify
for exemption if more than an insubstantial part of its activities is not in furtherance of an
exempt purpose.

Section 1.501-1(d)(2) of the regulations defines the word “charitable” as used in section
501(c)(3) of the Code as including the relief of the poor and distressed.

Rev. Rul. 67-138, 1967-1 C.B. 129, holds that the provision of housing for low-income
persons accomplishes charitable and educational purposes by relieving the poor and
distressed. An organization created to provide instruction and guidance to low-income
families in need of adequate housing and interested in building their own homes may be
exempt under section 501(c)(3. The organization's activities include (1) conducting a
training course relative to various aspects of house building and homeownership, (2)
coordinating and supervising joint construction endeavors, (3) purchasing building sites for
resale at cost, and (4) lending aid in obtaining home construction loans. No charge is
made for any of these services.

Rev. Rul. 70-585, 1970-2 C.B. 115, describes four scenarios for an organization providing
housing — 1. an organization formed to aid low income families, 2. to eliminate prejudice
and discrimination, 3. to combat community deterioration and to 4. to provide moderate
income families with housing in a particular community. All but scenario four were held to
be exempt. Where an organization is formed for charitable purposes and accomplishes its
charitable purposes through a program of providing housing for low and it is entitled to
exemption under section 501(c)(3) of the Code.

Rev. Proc. 96-32, 1996-1 C.B. 717, sets forth a safe harbor under which organizations
that provide low-income housing are considered charitable as relieving the poor and
distressed, and a facts and circumstances test that applies in determining whether
organizations that fall outside the safe harbor relieve the poor and distressed. The safe
harbor requires that certain percentages of the units be occupied by residents that meet
certain low-income standards, and that the housing is affordable to the charitable
beneficiaries. In the case of rental housing, this requirement is ordinarily satisfied by the
adoption of a rental policy that complies with government-imposed rental restrictions or
otherwise provides for the limitation of the tenant's portion of the rent charged to ensure
that the housing is affordable to low-income and very low-income residents. Relevant
facts and circumstances under the facts and circumstances test may include, but are
not limited to, the following:

(1) A substantially greater percentage of residents than required by the safe
harbor with incomes up to 120 percent of the area's very low-income limit.

(2) Limited degree of deviation from the safe harbor percentages.

(3) Limitation of a resident's portion of rent or mortgage payment to ensure that
the housing is affordable to low-income and very low-income residents.

(4) Participation in a government housing program designed to provide affordable
housing.

(5) Operation through a community-based board of directors, particularly if the
selection process demonstrates that community groups have input into the
organization's operations.

(6) The provision of additional social services affordable to the poor residents.

(7) Relationship with an existing 501(c)(3) organization active in low-income
housing for at least five years if the existing organization demonstrates control.

(8) Acceptance of residents who, when considered individually, have unusual
burdens such as extremely high medical costs which cause them to be in a
condition similar to persons within the qualifying income limits in spite of their
higher incomes.

(9) Participation in a homeownership program designed to provide
homeownership opportunities for families that cannot otherwise afford to
purchase safe and decent housing.

(10) Existence of affordability covenants or restrictions running with the property.

Rev. Proc. 2012-9, superseding Rev. Proc. 90-27, 1990-1 C.B. 514, Section 4.01,
provides that the Internal Revenue Service will recognize the tax-exempt status of an
organization only if its application and supporting documents establish that it meets the
particular requirements of the section under which exemption from federal income tax is
claimed. Section 4.02 states that a determination letter or ruling on exempt status is
issued based solely upon the facts and representations contained in the administrative
record. It further states:

(1) The applicant is responsible for the accuracy of any factual representations
contained in the application.

(2) Any oral representation of additional facts or modification of facts as
represented or alleged in the application must be reduced to writing over the
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signature of an officer or director of the taxpayer under a penalties of perjury
statement.

(3) The failure to disclose a material fact or misrepresentation of a material fact on
the application may adversely affect the reliance that would otherwise be obtained
through issuance by the Service of a favorable determination letter or ruling.

Section 4.03 states that the organization must fully describe all of the activities in which
it expects to engage, including the standards, criteria, procedures or other means
adopted or planned for carrying out the activities, the anticipated sources of receipts,
and the nature of contemplated expenditures.

In Better Business Bureau of Washington, D.C. v. U. S., 326 U.S. 279 (1945), the court
held that an organization was not organized and operated exclusively for charitable
purposes. The court reasoned that the presence of a single nonexempt purpose, if
substantial in nature, would destroy the exemption regardless of the number or
importance of truly exempt purposes.

In B.S.W. Group, Inc. v. Commissioner, 70 T.C. 352 (1978), the court found that a
corporation formed to provide consulting services did not satisfy the operational test
under section 501(c)(3) of the Code because its activities constituted the conduct of a
trade or business that is ordinarily carried on by commercial ventures organized for
profit. Its primary purpose was not charitable, educational, or scientific, but rather
commercial.

In Easter House v. United States, 12 Cl. Ct. 476 (1987), affd, 846 F. 2d 78 (Fed. Cir.
1988) cert. denied, 488 U.S. 907, 109 S. Ct. 257, 102 L. Ed. 2d 246 (1988), the court
found an organization that operated an adoption agency was not exempt under section
501(c)(3) of the Code because a substantial purpose of the agency was a nonexempt
commercial purpose. The court concluded that its primary activity was placing children
for adoption in a manner indistinguishable from that of a commercial adoption agency.
The court found that the health-related services were merely incidental to the
organization's operation of an adoption service, which, in and of itself, did not serve an
exempt purpose. The organization's sole source of support was the fees it charged
adoptive parents, rather than contributions from the public. The court also found that the
organization competed with for-profit adoption agencies, engaged in substantial
advertising, and accumulated substantial profits. Accordingly, the court found that the
“business purpose, and not the advancement of educational and charitable activities
purpose, of plaintiff's adoption service is its primary goal” and held that the organization
was not operated exclusively for purposes described in section 501(c)(3).

Application of Law
You are not operated exclusively for one or more of the purposes specified in Section
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1.501(c)(3)-1(a) of the regulations as your purposes are not exclusively charitable. You
are planning a housing program that will provide housing at fair market rates and that
will not provide services to a charitable class.

By charging market rents for a large percentage of your housing, more than an
insubstantial part of your activities are in furtherance of a nonexempt commercial
purpose, in contravention of section 1.501(c)(3)-1(c)(1) of the regulations. Therefore,
you are not operated for an exempt purpose.

Furthermore, your activities are not charitable as defined in Section 1.501-1(d)(2) of the
regulations as only an incidental amount of your activities are directed towards relieving
the poor and distressed.

Your low-income housing program will not accomplish an educational purpose as
described in Rev. Rul. 67-138, as you are not conducting any types of home buyer or
builder training or directly assisting low-income individuals in obtaining outside housing.
Instead, you will be building and then renting more than an insubstantial amount of your
units at market value. Further, you have described no activities that will meet the
situations described in Rev. Rul. 70-585. You intend on operating a housing program
that, while serving some low-income and needy individuals, will also provide housing to
individuals at market rates. Your program will not exclusively serve the poor or
distressed.

You do not meet the safe harbor provisions provided by Rev. Proc. 96-32, which allow
exempt organizations to provide a certain amount of housing for income groups other
than low income. In order to meet the safe harbor provisions, low and very low-income
tenants must occupy certain percentages of units. You indicated you do not agree with
the Rev. Proc and will not adhere to any of the requirements therein.

As required by Rev. Proc. 2012-9, you have not established that you are organized and
operated exclusively for exempt purposes and not for the private benefit of your
creators. You have one individual controlling your organization. You have also
continued to provide very few details regarding how your housing program will be
operated. As required by Section 4.03 of this Rev. Proc., you must fully describe all of
the activities in which you expect to engage, including the standards, criteria,
procedures or other means adopted or planned for carrying out the activities. You have
failed to provide adequate details to allow us to determine that any portion of your
housing activities would qualify for exemption; however, the information you did provide
indicates you do not qualify for exemption under Section 501(c)(3) of the Code.

Your housing program is operated for a nonexempt purpose, which precludes
exemption as seen in Better Business Bureau of Washington, D.C. v. U. S. Other than
the small percentage of low-income housing units, you plan on renting units out for
market value. You are similar to the organization described above in B.S.W. Group,

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Inc., which did not satisfy the operational test under IRC section 501(c)(3) because its
activities constituted the conduct of a trade or business that is ordinarily carried on by
commercial ventures organized for profit.

As in Easter House v. United States, you are operated for a business purpose, and not
the advancement of educational and charitable purposes, precluding you from
exemption under Section 501(c)(3) of the Code. Any amount of charitable activity you
have planned is incidental to the non-exempt function of providing housing at market
rates.

Applicant’s Position

You said you further 501(c)(3) purposes because you will partner with the city for block
grant programs and other home investment programs. You believe with this kind of
grant funding, you “...could offer 60% of our units at low-income affordable housing.”
You believe with this kind of government support that you can assist individuals and
families to achieve the American dream of becoming a homeowner.

Service Response to Applicant’s Position

Providing individuals or families with housing is not in and of itself a 501(c)(3) activity.
Although you assert that if you receive some government assistance you may be able to
offer 60% of your units to low-income individuals, this still does not allow you to qualify
for exemption as an organization described in Section 501(c)(3) as you do not meet the
safe harbor provisions of Rev. Proc. 96-32.

Protest from Applicant

In response to our statement regarding your lack of activities since your incorporation
almost 15 years ago, you simply reiterated your relationship with a congressman and
your attempt to secure funding. You were not able to obtain a building or grant funding
because neither was available. You also contacted a Councilmember in your region.
You did not receive any assistance from the Councilmember's office in obtaining
housing funding. You again stated you were able to obtain a small grant from a D, but
because you are a new non-profit organization to them, they would like to slowly fund
you over the next five to ten years. You said these are the reasons you have raised
little money. You provided no other detail regarding your proposed housing activities.

Your proposed activities involving the Children’s Court was not implemented because
funding from the Congressman’s office was rescinded five years ago. You were not
able to secure funding at the Federal, State or County levels of government or through
any foundations.

You now say you have a full board. It is composed of six individuals, including B. Four
of the five additional board members are B’s family members and one is a
friend/business associate.

You say you meet 70-585 because you only intend on operating a housing program that
will serve low-income and needy individuals. You will only exclusively serve the poor
and distressed individuals and family. You say you incorporated under this mission
statement.

You asserted that you agree with Rev. Proc. 96-32. You submitted a Low Income
Housing Resolution that stated you agree that (a) at least 75% of the units will be
occupied by residents that qualify as low-income; and (b) either at least 20% of the units
will be occupied by residents that also meet the very low-income limit for the area or
40% of the units will be occupied by residents that also do not exceed 120% of the
area’s very low-income limit. Up to 25% of the units may be provided at market rates to
persons who have income in excess of the low-income limit. Poor and distressed
residents will occupy each housing project and the housing will be affordable to
charitable beneficiaries.

Response to Applicant’s Protest

You continue to fail to provide any evidence that you have done anything but attempt to
fundraise and contact government officials since your inception. As required by Section
4.03 of Rev. Proc. 2012-9, you must fully describe all of the activities in which you
expect to engage, including the standards, criteria, procedures or other means adopted
or planned for carrying out the activities. You have failed to provide any new
information or details regarding your activities.

You also assert that you meet 70-585 because you only intend on operating a housing
program that will serve low-income and needy individuals and that you incorporated
under this mission statement. Although you make this statement, you have not
provided any documentation to describe what you consider needy or how you define
low-income.

Although you previously stated you disagree with Rev. Proc. 96-32, you now have
signed the resolution stating you will comply with it. You provided nothing to
substantiate this change or how you will implement it. You still have provided no
admission criteria or similar documentation. You still have not conducted any activity
over the decade since you were formed.

Conclusion

Based on the facts presented above, we hold that you are not exclusively charitable
within the meaning of section 501(c)(3) of the Code. Providing housing at market rates
for an undefined class of individuals is a nonexempt purpose. Further, you were
revoked for failure to file Form 990, and despite proposed operations, you have
conducted no charitable or educational activities in over ten years. Accordingly, we
conclude you fail the operational tests and do not qualify for exemption under IRC
section 501(c)(3).

You have the right to file a protest if you believe this determination is incorrect. To
protest, you must submit a statement of why you disagree. Your protest statement must
be filed within 30 days of the date of this letter and should include:

a. Your organization’s name, address, EIN number and a daytime phone
number.

b. A statement that the organization wants to protest the proposed
determination.

c. A copy of this letter showing the findings that you disagree with (or the
date and IRS office symbols from the letter.

d. An explanation of your reasons for disagreeing including any supporting
documents.

e. The law or authority if any, on which you are relying.

The protest statement may be signed by one of your officers or your representative. We
will consider your statement and decide if the information affects our determination. If
your statement does not provide a basis to reconsider our determination, we will forward
your case to our Appeals Office. You can find more information about the role of the
Appeals Office in Publication 892, How to Appeal an IRS Decision on Tax-Exempt
Status.

The protest statement should also include the following declaration.

“Under penalties of perjury, I declare that I have examined this protest including
accompanying documents and, to the best of my knowledge and belief, the statement
contains all relevant facts, and such facts are true, correct, and complete.”

The declaration must be signed by an officer or trustee of the organization who has
personal knowledge of the facts.

Your protest will be considered incomplete without this statement.

If an organization’s representative signs and submits the protest, a substitute
declaration must be included stating that the representative prepared the protest and
any accompanying documents; and whether the representative personally knows (or
does not know) that the statement of facts in the protest and any accompanying
documents are true, correct.

An attorney, certified public accountant, or an individual enrolled to practice before the

Internal Revenue Service may represent you. In that case you must file a Form 2848,

Power of Attorney and Declaration of Representative, if you have not already done so.

You can find more information about representation in Publication 947, Practice Before
the IRS and Power of Attorney. All forms and publications mentioned in this letter can

be found at www.irs.gov, Forms and Publications.

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If you do not file a protest within 30 days, you will not be able to file a suit for declaratory
judgment in court because the Internal Revenue Service (IRS) will consider the failure
to appeal as a failure to exhaust available administrative remedies. Code section
7428(b)(2) provides, in part, that a declaratory judgment or decree shall not be issued in
any proceeding unless the Tax Court, the United States Court of Federal Claims, or the
District Court of the United States for the District of Columbia determines that the
organization involved has exhausted all of the administrative remedies available to it
within the IRS.

If you do not intend to protest this determination, you do not need to take any further
action. If we do not hear from you within 30 days, we will issue a final adverse
determination letter. That letter will provide information about filing tax returns and other
matters.

Please send your protest statement, Form 2848, and any supporting documents to the
applicable address:

Mail to: Deliver to:
Internal Revenue Service Internal Revenue Service
EO Determinations Quality Assurance EO Determinations Quality Assurance
Room 7-008 550 Main Street, Room 7-008
P.O. Box 2508 Cincinnati, OH 45202

Cincinnati, OH 45201
You may fax your statement using the fax number shown in the heading of this letter. If
you fax your statement, please call the person identified in the heading of this letter to
confirm that he or she received your fax.

If you have any questions, please contact the person whose name and telephone
number are shown in the heading of this letter.

Sincerely,

Director, Exempt Organizations

Enclosure, Publication 892

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