Employee-relative scholarship procedures receive approval

Plain-English summary

A private foundation proposed to fund college scholarships for children and other relatives of employees through a public charity's established national scholarship program. Applicants had to achieve finalist status through standardized testing, academic performance, an essay, activities, and a school recommendation. Independent committees selected recipients, the public charity paid schools directly and supervised use of the funds, and awards were not used to recruit or retain employees. The IRS found only an insignificant probability that any particular employee's relative would receive a grant, so the program's primary purpose was education rather than extra compensation or an employment incentive. It approved the procedures under section 4945(g)(1), making grants awarded under them nontaxable expenditures for the private foundation.

Ruling snapshot

• Question: Do the employer-related scholarship procedures satisfy the advance-approval rules for grants to individuals?
• Outcome: Approved, grants made under the procedures will not be taxable expenditures.
• Key authorities: IRC §§ 117, 170(b)(1)(A)(ii), and 4945(d)(3) and (g)(1); Rev. Proc. 76-47; Rev. Rul. 81-217

Full text (IRS public release)

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

Release Number: 201519039
Release Date: 5/8/2015 Contact Person:

Date: 2/13/2015
Identification Number:

Telephone Number:
Employer Identification Number:

Uniform Issue List Number:
4945.04-04

Legend:

F= Public Charity that Administers Scholarship Program
B= Name of Scholarship Program

C= Option of Scholarship Program

D= Option of Scholarship Program

E= Employer

P= Private Foundation

X= Qualifying Test

Y= Standardized Test

Dear

This is in reference to your representative’s letter of July 2, 2014, requesting advance approval
of your scholarship grant procedures under section 4945(g) of the Internal Revenue Code.

The information submitted shows that the grants funded by you, private foundation P, will be
administered and paid out by F, a publicly supported organization, under its B program.
Organizations operating under the B program may elect the C option and/or the D option.

In the C option, P enters into an agreement with F to sponsor a specified number of college
scholarships for children and/or other relatives of employees of E. Students enter the nationwide
scholarship competition by taking a test called the X. Those students scoring within the top one-
half of one percent on a state-by-state basis are designated as Semifinalists; they may advance
to the Finalist level by confirming their scores on a second test, the Y, and by submitting an
application form that includes a high school record (provided by their high school officials)
showing strong academic performance, a personal essay, extra-curricular accomplishments and
the recommendation of their high school principal or school official designated by the principal.

F selects students from among those children and/or other relatives of employees who attained
the Finalist level in the B program to receive P-sponsored scholarships. The D option
procedures generally parallel those of the C option procedures, except that eligibility in the D
program is limited to top-scoring black high school students.

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The selection of individual grant recipients is made by selection committees designated by F.
The members of the selection committee are totally independent and separate from you. F
confirms the individual scholarship recipient's enrollment at the educational institution, makes
payment of the award through the appropriate financial aid office of the educational institution,
and supervises and investigates the use of the grant funds by the recipients in their educational
program.

The scholarships will not be used as a means of inducement to recruit employees nor will a
grant be terminated if an employee parent or relative leaves the company. Scholarships will only
be awarded to students who plan to enroll in an institution that meets the requirements of
section 170(b)(1)(A)(ii) of the Code and which may further be limited by F. After the scholarship
is awarded, the recipient will not be restricted in his/her course of study. In rare cases, sponsors
may ask F to give preference in selection to individuals who propose to study in certain broad
fields.

Section 4945 of the Code provides for the imposition of taxes on each taxable expenditure of a
private foundation.

Section 4945(d)(3) of the Code provides that the term "taxable expenditure" means any amount
paid or incurred by a private foundation as a grant to an individual for travel, study, or other
similar purposes by such individual, unless such grant satisfies the requirements of section
4945(g).

Section 4945(g)(1) of the Code provides that section 4945(d)(3) shall not apply to an individual
grant awarded on an objective and nondiscriminatory basis pursuant to a procedure approved in
advance by the Secretary, if it is demonstrated to the satisfaction of the Secretary that the grant
constitutes a scholarship or fellowship grant which is subject to the provisions of section 117(a)
and is to be used for study at an educational organization described in section 170(b)(1)(A)(ii).

Revenue Ruling 81-217, 1981-2 C.B. 217, describes a situation involving a private foundation
making grants to an organization that is not a private foundation to provide scholarships only to
children of a particular employer. The organization that is not a private foundation evaluates the
students according to its own criteria, including student performance on a qualifying
examination. Since grant funds are distributed only to children of employees of a particular
company, students who receive scholarships are not selected “completely independently” of the
grantor. Accordingly, any such scholarships awarded and paid after March 8, 1982, are
considered to be individual grants under section 4945(d)(3), for which advance approval of grant
procedures are required under section 4945(g).

Revenue Procedure 76-47, 1976-2 C.B. 670, sets forth guidelines to be used in determining
whether a grant made by a private foundation under an employer-related program to a child of
an employee of the particular employer to which the program relates is a scholarship grant
subject to the provisions of section 117(a). If a private foundation's program satisfies the seven
conditions set forth in sections 4.01 through 4.07 of Rev. Proc. 76-47 and meets the percentage
test described in section 4.08, the Service will assume the grant will be subject to the provisions
of section 117(a).

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Section 4.08 of Rev. Proc. 76-47 provides a percentage test guideline. It states that in the case
of a program that awards grants to children of employees of a particular employer, the program
meets the percentage test if the number of grants awarded under that program in any year to
such children does not exceed 25 percent of the number of employees' children who (i) were
eligible, (ii) were applicants for such grants, and (iii) were considered by the selection committee
in selecting the recipients of grants in that year, or 10 percent of the number of employees’
children who can be shown to be eligible for grants (whether or not they submitted an
application) in that year.

As stated in section 4 of Rev. Proc. 76-47, if a sponsor's program satisfies the seven conditions
set forth in sections 4.01 through 4.07, but does not meet the percentage test of section 4.08
applicable to grants to employees' children, the question whether the grants are scholarship or
fellowship grants subject to the provisions of section 117(a) of the Code will be resolved on the
basis of all the facts and circumstances. In making this determination the Service will consider
as a substitute for the percentage test of section 4.08 all the relevant facts and circumstances to
determine whether the primary purpose of the program is to provide extra compensation or
other employment incentive, or whether the primary purpose is to educate recipients in their
individual capacities. These facts and circumstances will be considered in the context of the
probability that a grant will be available to any eligible applicant.

Such relevant facts and circumstances could include the history of the program (such as the
source of the program's funding), the courses of study for which the grants are available, any
eligibility requirements imposed by the program (other than employment of the applicants or
their parents and the age and grade level prerequisites for the studies for which the grants are
available), the publicity given the grant program, the degree of independence of the selection
committee, the particular standards used for selection, the specific means used to determine
whether those standards have been met, the precise nature of the employee limitation or
preference, the number of grants available, the number of employees or their children who
would be eligible for them, the percentage of eligible employees or their children applying for
grants who normally (e.g., on an average basis) receive grants under the program, and whether
and how many grants are awarded to individuals who do not qualify as employees or children of
employees.

In your case, the following facts and circumstances are considered relevant. Aside from the
employment preference, F, a public charity, operates its private foundation sponsored B
program in a substantially similar manner to its nationwide college scholarship program for
academically talented high school students. No application is required. Individuals must achieve
Finalist status in their respective competitions. Recipients are chosen by selection committees
totally independent of the private foundation or the employer involved. No limitations are placed
on the recipients' choice of course of study after the grant is awarded.

Under the facts and circumstances as stated above, there is only an insignificant probability that
any particular employee's child and/or other relative will be selected and, thus, the grant's
primary purpose is not one of providing extra compensation or other employment incentive, and
the facts and circumstances test of Rev. Proc. 76-47, section 4, is met.

Accordingly, based upon the information presented, and assuming your scholarship program
will be conducted as proposed, with a view to providing objectivity and non-discrimination in the

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awarding of scholarship grants, we rule that your grants to F for the awarding of scholarship
grants to children and/or other relatives of employees of E comply with the requirements of
section 4945(g)(1) of the Code. Thus, such expenditures made in accordance with those
procedures will not constitute "taxable expenditures" within the meaning of section 4945(d)(3) of
the Code.

The recipient of the scholarship is responsible for determining whether all or part of the
scholarship is includible in gross income under section 117 of the Code. We understand that F
will advise the recipient that amounts granted are taxable income, if the aggregate scholarship
amounts received by the recipient exceed tuition and fees (not including room and board)
required for enrollment or attendance at the educational institution and fees, books, supplies,
and equipment required for courses of instruction.

This ruling is based on the understanding that there will be no material change in the facts upon
which it is based and that no grants will be awarded to relatives of members of selection
committees, or for a purpose inconsistent with the purposes described in section 170(c)(2)(B) of
the Code.

This ruling will remain in effect as long as the procedures in awarding grants under your
program remain in compliance with sections 4.01 through 4.07 of Rev. Proc. 76-47.

Please note that this ruling is only applicable to grants awarded under the B program. Before
you enter into any other scholarship or educational loan program you should submit a request
for advance approval of that program.

Your procedures for awarding grants under the B program are considered to satisfy the facts
and circumstances test of Rev. Proc. 76-47 and, therefore, will not be counted in determining
whether the percentage test of Rev. Proc. 76-47 is met with respect to any other such program
for which prior approval has been granted.

This ruling will be made available for public inspection under section 6110 of the Code after
certain deletions of identifying information are made. For details, see enclosed Notice 437,
Notice of Intention to Disclose. A copy of this ruling with deletions, that we intend to make
available for public inspection, is attached to Notice 437. If you disagree with our proposed
deletions, you should follow the instructions in Notice 437.

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

Because this ruling letter could help to resolve any questions, please keep it in your permanent
records.

We've sent a copy of this letter to your representative as indicated in your power of attorney.

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

Sincerely,

Director, Exempt Organizations

Enclosures:
Notice 437
Copy of redacted letter