Exemption revoked for commercial debt-management operations

Plain-English summary

The IRS revoked a consumer credit-counseling organization’s section 501(c)(3) status. The organization operated an inbound call center whose primary activity was enrolling consumers in fee-based debt-management plans, while its educational activities were incidental and its counselors were trained and paid to drive plan enrollment. The plans were open without regard to financial need, and the organization lacked an established policy to waive or reduce fees for people who could not afford them. The IRS also found that substantial payments and other benefits flowed through related-party transactions to for-profit entities controlled by the organization’s president. It concluded that the organization served substantial commercial and private purposes, provided substantial private benefit, and was not operated exclusively for charitable or educational purposes.

Ruling snapshot

• Question: Whether the consumer credit-counseling organization remained operated exclusively for charitable and educational purposes under section 501(c)(3)
• Outcome: Revocation of tax-exempt status
• Key authorities: I.R.C. §§ 170(c)(2)(B), 501(c)(3); Treas. Reg. § 1.501(c)(3)-1

Full text (IRS public release)

Internal Revenue Service Department of the Treasury

Appeals Office
Employer Identification Number:

Release Number: 201541012

Release Date: 10/9/2015 Person to Contact:

Date: June 12, 2014 ;
Officer Employee ID Number:
Name Tel:

Street Fax:
City, State, Zip
UIL: 501.03-30
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”). It is determined that you do not qualify as exempt from Federal income tax
under section 501(c)(3) of the Code: effective XX/XX/XXXX.

Our revocation was made for the following reasons:

1. You are not operated exclusively for charitable, educational, scientific, or any other exempt
purpose, as is required by IRC section 501(c)(3).

2. You are operated for a substantial commercial purpose, which is not an exempt purpose.

3. You are operated for a substantial private purpose, you serve private rather than public interests,
and your activities result in substantial private benefit, which is not an exempt purpose.

Contributions to your organization are not deductible under section 170 of the Code.

You are required to file Federal income tax returns on Forms 1120. File your return with the appropriate
Internal Revenue Service Center per the instructions of the return. For further instructions, forms, and

information please visit www.irs.gov.

If you were a private foundation as of the effective date of the adverse determination, you are considered
to be taxable private foundation until you terminate your private foundation status under section 507 of
the Code. In addition to your income tax return, you must also continue to file Form 990-PF by the 15th

Day of the fifth month after the end of your annual accounting period.

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 Code.

We will make this letter and the proposed adverse determination letter available for public inspection
under Code section 6110 after deleting certain identifying information. We have provided to you, in a
separate mailing, Notice 437, Notice of Intention to Disclose. Please review the Notice 437 and the
documents attached that show our proposed deletions. If you disagree with our proposed deletions, follow

the instructions in Notice 437.

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: 1) United States Tax Court,
2) the United States Court of Federal Claims, or 3) the United States District Court for the District of
Columbia. A petition or complaint in one of these three courts must be filed within 90 days from the date
this determination letter was mailed to you. Please contact the clerk of the appropriate court for rules for
filing petitions for declaratory judgment. To secure a petition form from the United States Tax Court, write

to the United States Tax Court, 400 Second Street, N.W., Washington, D.C. 20217. See also Publication
892.

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 matters
that may not have been resolved through normal channels get prompt and proper handling. If you want
Taxpayer Advocate assistance, please contact the Taxpayer Advocate for the IRS office that issued this
letter. You may call toll-free, 1-877-777-4778, for the Taxpayer Advocate or visit www.irs.gov/advocate
for more information.

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

Sincerely Yours,

Acting Appeals Team Manager

cc:

Enclosure: Publication 892 and/or 556


DEPARTMENT OF THE TREASURY
Internal Revenue Service
WASHINGTON, DC 20224

TAX EXEMPT AND

GOVERNMENT ENTITIES

DIVISION

Date: September 30, 2005
Taxpayer Identification Number:

Form:

ORG Tax Year(s) Ended:

ADDRESS
Person to Contact: / ID Number:

Contact Number:

Certified Mail — Return Receipt Requested

Dear °

We have enclosed a copy of our report of examination explaining why we believe revocation of
your exempt status under section 501 (c)(3) of the Internal Revenue Code (Code) is necessary.

If you accept our findings, take no further action. We will issue a final revocation letter.

If you do not agree with our proposed revocation, 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.
Your protest should include a statement of the facts, the applicable law, and arguments in support
of your position.

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, The Examination Process, and Publication 892, Exempt Organizations Appeal
Procedures for Unagreed Issues, 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.

You may also request that we refer this matter for technical advice as explained in Publication 892.
If we issue a determination letter to you based on technical advice, no further administrative appeal
is available to you within the IRS regarding the issue that was the subject of the technical advice.

Letter 3618 (04-2002)
Catalog Number: 34809F

If we do not hear from you within 30 days from the date of this letter, we will process your case
based on the recommendations shown in the report of examination. If you do not protest this
proposed determination within 30 days from the date of this letter, the IRS will consider it to be a
failure to exhaust your available administrative remedies. Section 7428(b)(2) of the Code
provides, in part: "A declaratory judgment or decree under this section shall not be issued in any
proceeding unless the Tax Court, the Claims Court, or the District Court of the United States for
the District of Columbia determines that the organization involved has exhausted its
administrative remedies within the Internal Revenue Service." We will then issue a final
revocation letter. We will also notify the appropriate state officials of the revocation in
accordance with section 6104(c) of the Code.

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,

Director, EO Examinations

ENCLOSURES:

Publication 892
Publication 3498
Report of Examination: Form 4621, Form 886-A, Form 6018

Cc: Power of Attorney
Power of Attorney

Letter 3618 (04-2002)
Catalog Number: 34809F

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

Name of Taxpayer Year/Period Ended

ORG June 30, 20XX
LEGEND
ORG - Organization name XX -— Date Address - address City - city
State - state Country - country BK-1 through 17 - 18* through 17% BK
President - president Vice President - vice president Secretary -
secretary DOF - DOF DOTS ~- DOTS DOBD - DOBD DOES - DOES
NEWS-1 & NEWS-2 - 157 g 2™> NEWS WK-1 through WK~3 - 1%* through 3°? WK
DIR-1 through DIR-9 - 1°* through 9° DIR CO-1 through CO-53 - 1°* through
53°¢ COMPANIES ART-1 through ARTL-4 - ARTL1 - ARTL-~4 Software -
Software
ISSUES

In response to Congressional concern over alleged abuses in the consumer credit counseling
industry, the Internal Revenue Service initiated a compliance project in which certain consumer
credit counseling organizations exempt under Internal Revenue. Code section 501(c)(3) were
selected for a field examination. As a result, ORG was selected for examination.

The year under examination is the year ended June 30, 20XX, and the issue raised herein is as
follows:

Whether ORG remains operated exclusively for exempt purposes within the meaning of Internal
Revenue Code section 501(c)(3), if:

(a) It is engaged primarily in activities that accomplish a nonexempt purpose in
contravention of Internal Revenue Code sections’ 501(c)(3) and 170(c)(2)(B);

(b) More than an insubstantial part of such activities are in furtherance of a non-exempt
purpose in contravention of Internal Revenue Code sections’ 501(c)(3) and 170(c)(2)(B);

(c) Part of its net earnings inured to the benefit of any private shareholder or individual in
contravention of Internal Revenue Code sections’ 501(c)(3) and 170(c)(2)(B); and

(d) It is operated for the purpose of serving private rather than public interests in
contravention of Internal Revenue Code sections’ 501(c)(3) and 170(c)(2)(B).

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


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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX
|. STATEMENT OF FACTS

A. General Background Information

1. Formation of ORG

a. Origins
ORG (“ORG”) began operating as CO-1 on January 4, 19XX. It offered credit restoration services
and debt consolidation to residents of southern State. As business expanded, ORG was created,

specializing in debt consolidation.

b. Entity Type
ORG was formed on April 1, 19XX in the State of State as a non-profit corporation, pursuant to
Chapter 617 of the State statutes.’ The initial articles of incorporation provide that the purpose of
ORG is to conduct financial consulting services as its principal activity.

c. Principal Place of Business
ORG'’s principal place of business where such financial consulting service activities were initially
conducted was Address, City, State. Later, ORG relocated to Address, City, State. ORG’s current

address is Address, City, State.

d. Incorporators
The names and addresses of the incorporators/initial directors are listed below:

Name : Address

PRESIDENT, Co-Chairman and Registered Agent | Address, City, State.
DIR-1, Co-Chairman Address, City, State.
DIR-2, Director Address, City, State.
DIR-3, Esq., Director Address, City, State.

2. The Application Process for Exemption Under IRC 501(c)(3)

kk Ok *
' The original name is ORG but the word “ ” was subsequently corrected on May 13, 19XX.
Form 886-A crev.4-68) Department of the Treasury - Internal Revenue Service

Page: -2-

Form 886A Department of the Treasury - Internal Revenue Service Schedule No. or Exhibit
Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

a. Submission of Exemption Application
ORG submitted Form 1023, “Application for Recognition of Exemption Under Section 501(c)(3) of
the Internal Revenue Code,” to the Internal Revenue Service (“IRS”), Employment Plans/Exempt
Organizations Division (now known as Tax Exempt/Government Entities Division), City Key District
Office in City, State. The application was signed by PRESIDENT as Director of ORG and was
received by the IRS on June 21, 19XX.

b. Proposed Primary Activities

ORG sought exemption from Federal income tax under Internal Revenue Code section 501(c)(3) as

_an organization proposing to provide credit counseling and debt consolidation services to the

general public. ORG submitted a more detailed description of such proposed activities as
Attachment | to its Form 1023 application, which provides:

A) ORG is dedicated to helping individuals who are experiencing financial difficulties.

The corporation’s main service will consist of bill consolidation. This program is
targeted to individuals with unsecured debt that has become unmanageable. Our focus is
to consolidate these bills by lowering monthly payment commitments. Generally,
participants in this program will realize a savings of 20-50% on a monthly basis through
a system of negotiations with their creditors.

Advantages to participants of the Debt Management Program are as follows:

1) Lower — more affordable monthly payments

2) Re-aging of past due accounts to a current status, thus having a positive effect on the
client’s credit rating.

3) Lowering or even waiving in certain situations; all interest and penalty assessments.

In addition, the agency offers other services consisting of investment counseling, courses
on the development of a family budget, a quarterly newsletter with information
consisting of financial information to health tips. The agency also will operate a
financial consulting “hot line” which clients may call and receive expert advice on the
use of income in the course of everyday life. Additionally, the agency will administer a
scholarship program based on need.

B) The above referenced activities will be initiated starting in the Fall of 19XX.
C) Activities will be conducted in City and Counties in the State of State. Initially

operated duties will be conducted by the members of the Board of Directors until a full-
time staff can be put in place.

c. Proposed Secondary Activity

Form 886-Acrev.4-68)

Department of the Treasury - Internal Revenue Service

Page: -3-


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

Explanation of Items
Name of Taxpayer Year/Period Ended
~ ORG June 30, 20XX

Pursuant to Attachment III of its Form 1023 application, ORG also proposed to provide scholarship
grants to students:

The dollar amount of the scholarship will be determined by the Board of Directors. The
amount of the scholarship will directly correlate with the fund raising activities of the
organization. The Board of Directors expect to grant scholarships in the amount of at
least $.

To be considered for a scholarship, the candidate must have maintained a cumulative
grade point average of 3.0 on a scale of 0.0 to 4.0 in their primary education. In
addition, an investigation into the candidates financial affairs will be performed to
coincide with the programs requirements that the scholarship be based on need.

d. Qualifying as a Publicly Supported Organization
With respect to foundation status, ORG provided that it was not a private foundation, because it
qualified as a publicly supported organization under Internal Revenue Code section's 509(a)(1) and
170(b)(1)(A)(vi). To qualify as a publicly supported organization, ORG indicated that its sources of
financial support would consist of corporate contributions and financial grants.

ORG also stated that a third source of revenue would be a service fee assessed to individuals
participating in its Debt Management Program:

A small, flat, up front, one-time fee will be charged to participants in the Debt
Management Program. This fee will cover processing costs that are associated with
activating the client's file in the Debt management Program. An additional fee of $ will
be assessed each month to the participants enrolled in the program. This monthly fee
will cover the cost of the financial consulting “hot line”, investment counseling, courses
on family budgeting, and a quarterly newsletter that will be forwarded to each
participant in the program.

e. IRS Correspondence during the Exemption Application Process
On July 1, 19XX, the IRS returned ORG’s Form 1023 application for the following reasons:

Q ORG did not submit a conformed copy of its articles of incorporation.

Q ORG did not submit a copy of its bylaws.

In a follow-up letter, dated July 29, 19XX, the IRS requested ORG to amend its articles of
incorporation to meet the organizational test of Treasury Regulations section 1.501(c)-(3)1(b). In
response to the July 29 letter, ORG amended its articles of incorporation on August 18, 19XX by
added the following provision as Article VIII:

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

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

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

a. The purposes for which the corporation is organized are exclusively religious,

charitable, scientific, literary and educational within the meaning of section 501(c)(3) of
the Internal Revenue Code of 1986 or the corresponding provision of any future United
States Internal Revenue law.

b. Notwithstanding any other provision of these articles, this organization shall not
carry on any activities not permitted to be carried on by an organization exempt from
Federal income tax under section 501(c)(3) of the Internal Revenue Code of 1986 or the
corresponding provision of any future United States Internal Revenue law.

c. Upon dissolution of the organization, assets shall be distributed for one or more
exempt purposes within the meaning of section 501(c)(3) of the Internal Revenue Code of
1986, or corresponding section of any future Federal tax code, or shall be distributed to
the Federal, state or local government for a public purpose. Any such assets not so
disposed of shall be disposed of by the Court of Common Pleas, of the county in which
the principal office of the organization is then located, exclusively for such purposes.

3. Recognition of Exemption Under 501(c)(3)

a. Advanced Rulin
In exemption ruling Letter 1045, dated September 9, 19XX, the IRS advised ORG that it is exempt
from Federal income tax under Internal Revenue Code section 501(a) as an organization described
in Internal Revenue Code section 509(a)(2) and will be treated as such during the advanced ruling
period.

b. Confirmation of Status as a Publicly Supported Organization
After the end of the advanced ruling period, the IRS issued foundation status Letter 1050, dated May
12, 19XX, stating that based on information received, ORG is not a private foundation within the
meaning of IRC 509(a).

4. Subsequent Changes to the Articles of Incorporation
On January 3, 19XX, ORG amended and restated its Articles of Incorporation. The purposes for
which ORG was organized are as follows:

The purposes of the Corporation are to operate exclusively as a charitable corporation
within the meaning of Section 501(c)(3) of the Internal Revenue Code of 1986, as
amended, or corresponding provisions of any later Federal tax laws (the “Code”), by
providing assistance to individuals who are experiencing financial and -debt-related
difficulties. In furtherance of such purposes, the Corporation may, inter alia, provide (i)
bill consolidation services; (ii) counselling on credit and budget matters; and (iii) a
newsletter on financial related issues. The Corporation may engage in any lawful
activity or transact any lawful business for which corporations may be incorporated
under the State Not-For-Profit Corporation Act, not inconsistent with those exercisable
by a corporation in conformance with Section 501(c)(3) of the Code. Moreover, all

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

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

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

funds of the Corporation and any monies from its operations shall be used in the
furtherance of the purposes set forth above, and no benefits shall inure to any private
parties, except benefits incidental to the purposes and objectives of the Corporation. All
powers exercised herein shall be in furtherance of the purposes set forth above and shall
at times be in conformance with the provisions of Section 501(c)(3) of the Code.

5. Tax Year Under Examination

ORG, a fiscal year taxpayer whose fiscal year ends June 30, files annually a Form 990, Return of an
Organization Exempt From Income Tax Under section 501(c). Their Form 990 is under the
examination jurisdiction of the IRS Tax Exempt/Government Entities Division, Mid-Atlantic Area. The
year under examination and at issue herein is the fiscal year ended June 30, 20XX.

B. Background Information on the Consumer Credit Counseling Industry

1. Exemption Status of Credit Counseling Organizations
The IRS recognized a credit counseling agency open to the general public as exempt under Internal
Revenue Code section 501(c)(4) in Revenue Ruling 65-299, 1965-2 C.B. 165. The agency was
incorporated as a nonprofit corporation to assist families and individuals with financial problems and
to help reduce the incidence of personal bankruptcy. The agency was recognized as exempt under
section 501(c)(4), because it:

Q did not limit its services to those in need of such assistance as proper recipients of charity;

Q employed specialists to interview applicants, analyze the specific problems involved, and
counsel applicants on the payment of their debts;

Q arranged a monthly distribution to creditors based on the debtor's ability to pay;

Q communicated with creditors and, with the creditors’ consent, set up plans which debtors
agreed to follow;

Q made its facilities available for debtors to make their monthly pro rata distributions to
creditors;

Q made no loans to applicants nor negotiated loans on their behaif;
Q charged nominal fees to cover postage and supplies for its monthly prorating services;
Q charged no fees for the counseling service; and

Q relied upon voluntary contributions from local businesses, lending agencies, and labor
unions to cover its costs of operations.

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

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

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

By 1969, the IRS determined that certain credit counseling organizations might meet the
requirements of Internal Revenue Code section 501(c)(3) because of their charitable or educational
work. In Revenue Ruling 69-441, 1969-2 C.B. 115, a credit counseling agency was recognized as
exempt under Internal Revenue Code section 501(c)(3).

This agency limited its services to low-income individuals and families with financial problems. Its
board of directors was comprised of representatives from religious organizations, civic groups, labor
unions, business groups, and educational institutions.

To qualify for exemption under Internal Revenue Code section 501(c)(3), the agency:

Q~ provided educational information to the general public on budgeting, buying practices, and
the sound use of consumer credit through the use of films, speakers, and publications;

Q assisted low-income individuals and families with financial problems by providing them with
individual counseling and, if necessary, by establishing budget plans;

Q_ serviced the budget plan by allowing the debtor to voluntarily make fixed payments through
the agency; holding the funds in a trust account and disbursing the funds on a partial
payment basis to the creditors, whose approval was obtained in advance;

Q made no loans to debtors or negotiated loans on their behalf;

Q charged no fees for counseling services or proration services - the debtor received full credit
against his/her debts for all amounts paid; and

Q relied upon voluntary contributions, primarily from the creditors participating in the
organization's budget plans, for its support.

The IRS distinguished the facts in this ruling from the facts in Revenue Ruling 65-299 that held the
organization was exempt under Internal Revenue Code section 501(c)(4):

Q The agency in Revenue Ruling 65-299 was not engaged in any educational activities.

Q The agency in Revenue Ruling 65-299 did not limit its assistance to a charitable class --
families or individuals in need of such assistance as proper recipients of charity.

in the 1970s, the courts held that a credit counseling organization may be exempt from Federal
income tax even if it does not limit its clientele to low income individuals where the services provided
by the organization are educational in nature. By ruling so, the courts reversed the IRS in its
revocation of the exempt status of two organizations that provided credit counseling, but did not limit
their services to low-income individuals.

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

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

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

The CO-2 and the CO-3 (Agencies) were umbrella organizations made up of numerous individual
CO-3. Both had been recognized as exempt under Internal Revenue Code section 501(c)(3), and
the activities of both organizations were similar as follows:

Q The Agencies provided information to the general public through the use of speakers, films,
and publications on the subjects of budgeting, buying practices, and the sound use of
consumer credit.

Q The Agencies also provided counseling on budgeting and the appropriate use of consumer
credit to debt-distressed individuals and families but did not limit these services to low-
income individuals and families.

Q The Agencies charged a nominal fee of up to $ per month for some of their services, but
waived the fee in instances where payment would work a financial hardship.

Q The Agencies received the bulk of their support from government and private foundation
grants, contributions, and assistance from labor agencies and the CO-4. An incidental
amount of their revenue was from the counseling fees. This was consistent with the fact that
only 12 percent of the professional counselors’ time was spent on debt management
programs as opposed to education. The balance of time was devoted to the educational
programs.

Q The Agencies were controlled by a community board of directors. The boards were required
to have at least a 60 percent representation of the general public.

G The Agencies were not controlled by or the captive of any creditor.

in 1976, relying on Revenue Rulings 65-299 and 69-441, the IRS notified the Agencies that it had
made a mistake and was reclassifying them under Internal Revenue Code section 501(c)(4). What
followed are two pivotal declaratory judgment (IRC 7428) cases: CO-2 of Alabama v. United States,
78-2 U.S.T.C. 9660 (D.D.C. 1978) and CO-3 of Oklahoma, Inc. v. United States, 79-2 U.S.T.C. 9468
(D.D.C. 1979). :

The law does not require that an organization must perform its exempt functions solely for the
benefit of low-income individuals to qualify under Internal Revenue Code section 501(c)(3).

Organizations may be properly designated under Internal Revenue Code section 501(c)(3)

notwithstanding the fact that the general public is served.

Nonetheless, the Agencies do not charge a fee for the programs that constitute their principal
activities. A fee may be charged for a service that is an incidental part of an agency's function, but
even where a fee is so charged it is nominal. Moreover, even this nominal fee is waived where
payment would work a financial hardship.

2. Problems in the Industry

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

Form 886A Department of the Treasury - internal Revenue Service Schedule No. or Exhibit

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

The consumer credit counseling industry arose as a means of assisting individuals to pay their credit
card debt without resorting to bankruptcy and a means of enabling creditors to collect debt that
otherwise would be discharged in bankruptcy. Through the 1980s the industry was financially
supported almost entirely by creditors, which returned to the industry approximately 15% of the
money they received through the efforts of the industry.

Over the last decade, however, the industry has changed significantly. Responding to the dramatic
increase in credit card debt, a new generation of credit counseling agencies arose. These new credit
counseling agencies pioneered more business-like methods of making debt management plans
convenient for consumers, including flexible hours, phone and Internet counseling, and electronic
payments. As the newer agencies have gained market share, a number of serious problems have
surfaced as well. A report of two prominent consumer organizations (CO-5 and the CO-6) has
documented the situation. The problems include

Q provision of only debt management plans;

Q aggressive sometimes deceptive marketing practices and selling techniques concerning the
nature of, the need for, and the cost of debt-management plans;

Q_ lack of face-to-face or individualized contact with consumers;
Q excessive cost to consumers; and
Q undisclosed related party transactions.

These problems are compounded by a drastic reduction in support for the industry by its traditional .

benefactors, the issuers of credit cards. This has led counseling agencies to impose on consumers
an increasing share of the cost of their operations.

3. Involvement of the Federal Trade Commission
In response to the problems in the consumer credit counseling industry, the Federal Trade
Commission interceded through law enforcement and educational efforts to protect consumers from
unfair or deceptive acts or practices that are in or affect commerce.

In Commission testimony” submitted before the Senate Committee on Governmental Affairs, the
Permanent Subcommittee on Investigations, FTC Commissioner Thomas Leary cautioned that
some companies use their non-profit status as a badge of trustworthiness to attract customers, who

_ are then duped into paying large fees. Those fees are sometimes funneled to for-profit companies.

kK kK ke *
? Prepared Statement of the Federal Trade Commission On Consumer Protection Issues in the Credit Counseling
Industry. Presented by Commissioner Thomas B. Leary Before the Permanent Subcommittee on Investigations of the
Committee on Governmental Affairs, United States Senate (March 24, 20XX).

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

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

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

Leary explained that instead of teaching consumers about their finances and how to manage debt
as it promised, some credit counseling organizations indiscriminately enroll their clients in “debt
management plans” without regard to their particular financial situation. This kind of debt
management — under which consumers pay debt managers who then pay their creditors — can be
beneficial for some consumers, but not for all. “Along with these changes in the industry have come
complaints about troubling practices, including possible deception about the services offered, poor
administration of DMPs, and undisclosed fees associated with DMPs,” Leary said.

Leary stated that the FTC’s greatest concern is deception by credit counseling organizations about
the nature and costs of their services, including the following practices:

Q Failure to pay creditors in a timely manner or at all. Some credit counseling agencies that
offer debt management plans may fail to pay creditors in a timely fashion or at all. This can
result in serious consumer harm, such as late fees that the creditors impose.

Q Promises of results that cannot be delivered. Some agencies promise that they will lower
consumers’ interest rates, monthly payments, or overall debt by an unrealistic amount.
Some also make false promises to eliminate accurate negative information from consumers’
credit reports.

a Failure to abide by telemarketing laws. To the extent that these agencies are not bona fide
non-profit organizations, they must comply with the FTC’s Telemarketing Sales Rule,
including the National Do-Not-Call Registry.

4. Internal Revenue Service Compliance Project*
IRS officials also became concerned that some credit counseling organizations that might have
qualified for exemption status in the past may no longer qualify due to changes in the services they
provide. This problem is magnified because the organizations, by reason of their tax exemption, are
exempted from many state and federal consumer protections.

For example, the Credit Repair Organization Act of 1997 sought to further regulate the practice of
for-profit organizations involved in “credit repair,” a series of activities aimed at improving a
customer's credit history. But the Act excluded credit counseling organizations exempt under
Internal Revenue section 501(c)(3) from the provisions of this law. A similar pattern of exceptions for
tax-exempt organizations is replicated in many state consumer laws.

The IRS is concerned that the combination of tax-exempt status and exemption from consumer
protections may leave certain taxpayers vulnerable. To address this concern, the Exempt
Organizations office of the IRS initiated a compliance project to address concerns in this area.

x ke k *

3 IRS Takes Steps to Ensure Credit Counseling Organizations Comply With Requirements for Tax-Exempt Status,
Internal Revenue Service Newswire, FS-20XX-17, October 20XX (website)

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

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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

C. Financial Statements and Data

1. Appointment of Independent Auditor
ORG appointed CO-7, an independent accounting firm based in City, State, to audit ORG's
statements of activities, financial position and cash flows and to prepare its Form 990 information
return and the accompanying schedules and statements for the fiscal years ending June 30, 20XX,

20XX, 20XX and 20XX.

In its report, CO-7 stated that the audits were conducted in accordance with auditing standards
generally accepted in the United States and that the financial statements referred to above
presented fairly, in all material respects, the financial position of ORG as of June 30, 20XX, 20XX,
20XX and 20XX and the results from its operations and its cash flows for the years then ended in
conformity with accounting principles generally accepted in the United States.

2. Significant Accounting Policies

a. Financial Reporting
The financial statements of ORG have been prepared on n the accrual basis of accounting, where
receipts are recognized as revenues when earned and expenses are recorded when incurred.

b. Fiscal Year End
ORG’s fiscal year end is June 30.

3. Summary Results from Operations .
The summary results from operations for the year ended June 20, 20XX are provided in Table 1
below:

Table 1
Form 990 — Summary Statement of Revenue, Expenses & Excess for the Year

Revenue

Expenses

Excess for the year

Net assets or fund balances, July 1, 20XX
Other changes in net assets or fund balances
Net assets or fund balances, June 30, 20XX

4. Analysis of Revenues

a. Two Primary Sources of Income
During the year under examination, ORG received substantially all of its revenues from two sources:
fairshare income and membership dues, as provided in Table 2 below. ORG describes fairshare
income as revenues derived from their provision of debt adjustment services, the cost of which is

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

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

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

supported by contributions from the creditor community and membership dues. In contrast, income
from membership dues are revenues derived from consumers participating in ORG’s debt
management program. ORG states that the fees are based on need but are otherwise mandatory in

order to participate to participate in the program.
Table 2

Form 990 — Sources of Revenues

Revenue Total % of Revenues

Fairshare income

Debt management fees

Interest on savings and temporary cash investments
Dividends and interest from securities

Total Revenue

b. Trends in Revenue from Fair Share and Debt Management Fees
Table 3 shows ORG’s sources of revenues for the five-year period ending in fiscal year June 30,
20XX.

Table 3
Form 990 — Sources of Revenues

30-Jun 30-Jun 30-Jun 30-Jun 30-Jun
Revenue 19XX 20XX 20XX 20XX 20XX
Fair share income
Debt management fees

Interest on savings
Dividends and interest
Total Revenue

In glancing at the data in Table 3, revenues from fair share and debt management fees have both
increased steadfastly and sequentially. A true measure of revenue growth, however, is to express
each source of revenue as a percentage of total revenue using the formulas provided in Table 4

below:

Table 4
Formulas: Revenues from Fair Share and Debt Management Fees as a Percentage of Total Revenue

Fair Share Income/Total Revenue Debt Management Fees/Total Revenue

These formulas indicate how income from fair share and debt management fees are changing
relative to changes in total revenue. As total revenue increases, it might be expected that income
from fair share and debt management fees would increase proportionately; therefore, the level of
income from fair share and debt management fees should at least remain constant in real terms.

Illustration 1
Income from Fair Share and Debt Management Fees
(as a % of Total Revenue)

Form 886-Aev.4-68) Department of the Treasury - Internal Revenue Service
Page: -12-


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

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

TABLE DELETED

As the graph in Illustration 1 above indicates, two distinct trends are evident: First, revenue from fair
share as a percentage of total revenue between 19XX and 20XX has declined from nearly 62
percent in fiscal year 19XX to nearly 43 percent in fiscal year 20XX, as provided in Table 5 below.
This trend reflects the industry-wide creditor reduction of percentages paid to the credit counseling
agencies. The result today is an average fair share contribution of only about six percent, or about a
sixty percent reduction over the past seven years.‘
Table 5
Ratio of Fairshare Income to Total Revenue

For the Years Ended June 30

19XX 20XX 20XX 20XX 20XX

Ratio of Fairshare Income to Total Revenue

The second trend evident during the five year period is the growth of debt management fees as a
percentage of total revenue from approximately 36 percent in 19XX to approximately 57 percent by
20XX, as provided in Table 6 below and depicted in Illustration 1 above. According to the testimony
of DIR-4, the effect of reduced fair share support has been twofold:

To survive, credit counseling agencies have had to reduce traditional services or they
have had to pass more of the costs for providing services on to consumers, or both. More
recently, creditors have increasingly recognized that agencies which emphasize debt
management plans and charge excessive fees are not operating in the best interests of
either consumers or creditors and have terminated fair share contributions for such

agencies.

Table 6
Ratio of Debt Management Fees
For the Years Ended June 30

19XX 20XX 20XX 20XX 20XX

Ratio of Debt Management Fees to Total Revenue

These trends have led ORG to shift its operationally dependency from fair share income to debt
management fees. To maintain existing service levels, ORG raised fees and hired additional credit
counselors to respond to inquiries from the general public regarding debt relief.

5. Breakdown of Expenses

ke kek kek * ~

* Non-Profit Credit Counseling Organizations: Hearing Before the Subcommittee on Oversight of the Committee on
Ways and Means, 108" Congress, 1 Session 27 (20XX) (statement of DIR-4, President, CO-8).

Form 886-Ackev.4-68) Department of the Treasury - Internal Revenue Service
Page: -13-


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

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

Table 7 below sets forth ORG’s statement of functional expenses, as filed with the IRS.

Table 8 below sets forth the changes in expenses from the fiscal year ending June 30, 20XX to the
fiscal year ending June 30, 20XX. For each fiscal year, the table also expresses each expense item
as a percentage of total revenue.

6. Description of Certain Expenses

a. Public Awareness
As shown below, for the fiscal year ending June 30, 20XX, ORG reported $ in public awareness
expense. This expense category represents the advertising (or marketing efforts) of ORG to utilize
various media outlets in: reaching out to consumers that are ‘concerned over their personal finances.
ORG provides that its main goal of its public awareness efforts is to attract the most debtors with
poor credit management habits and attempt to modify their behavior with education and counseling.

b. Education Expense
As shown below, ORG reported $ in education expense of which approximately $ represents

payments to CO-9, a related entity. In exchange for the fees, __
produced publications for ORG, such as ORG’s monthly newsletters and a book on debt

management.

c. Client Support
In January 19XX, ORG outsourced its back office administrative operations to an organization
named CO-10 The founder and sole owner of CO-10 is PRESIDENT, founder, president and
chairman of ORG. For the fiscal year ended June 30, 20XX, ORG paid CO-10 $ for the
administrative services it provided.

7. Statement of Financial Position
Table 9 below sets forth ORG’s statement of financial position as of June 30, 20XX.

8. Description of Certain Assets

a. Other Assets
As of June 30, 20XX, this asset category is comprised of the following items:

Item Description Notes Amount
Cash, Restricted :
Security Deposits
Division Line Acquisition, Net
Life Insurance Plans
Prepaid Expenses
Employee Advances
Total

Form 886-A cev.4-68) Department of the Treasury - Internal Revenue Service
Page: -14-

; Occupani

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

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

(A) Restricted cash represents the funds of clients held in escrow for the payment of unsecured
debt.

b. Land, Building & Equipment
Leasehold improvements represent improvements ORG made to the property it leases. Leasehold
improvements are capitalized and depreciated over its useful life.

Date Cost or Accumulated Book

Description Acquired Other Basis Depreciation Value
Leasehold Improvements 01-01-19XX
Leasehold Improvements 01-01-19XX
Leasehold Improvements 01-01-20XX
Leasehold Improvements 06-15-20XX
Leasehold Improvements 07-01-20XX
Table 7 ©

Form 990 ~ Statement of Functional Expenses
For the Year Ended June 30, 20XX

Program Memt &
Services General

ae Total ae % —_ % — %
Other salaries and a

rm taxes :

Legal fees

eands

a and _—

Depreciation, depletion

Other — _

Amortization a

Form 886-A crev.4-68) Department of the Treasury - Internal Revenue Service
Page: -15-

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

Explanation of items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

— Fees
Client _ Co

Bad Debts

Table 8
Percentage Change in Expenditures

For the Year Ending June 30

Description 20XX %* 20XX % Decrease %**

_ taxes " S|
Soe fees a
Vaan " Cd

Occupan:

Printing and publications

Depreciation, depletion

Charitable Donations

-_ Insurance Ce |

Consulting Fees

Client Support

Bad Debts

Form 886-A Rev.4-68) Department of the Treasury - Internal Revenue Service
Page: -16-

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

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

* Denotes % of Total Revenue.
** Denotes % change from 20XX to 20XX.

Table 9
Statement of Financial Position
As of June 30
Assets 20XX 20XX 20XX

46 Savings and tem cash investments

48 Pledges Receivable

50 Receivables from officers, directors, trustees

and key emplo

52 Inventories for sale or use

54 Investments - securities

56 Investments - other

58 Other assets

Liabilities

61 Grants payable

63 Loans from officers, directors, trustees and key emplo

65 Other liabilities

Net Assets or Fund Balances

Form 886-Aev.4-68) Department of the Treasury - Internal Revenue Service
Page: -17-

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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

68 — restricted

70 Capital stock, trust principal or current funds

72 Retained _ endowment, accumulated income or other

9. Description of Liabilities
As of June 30, 20XX, the liability category is comprised of the following items:

Item Description Notes Amount
Client Funds in Escrow (A)
Reserve for Member Incentive Program (B)

a. Other Liabilities — Client Funds in Escrow
Client Funds in Escrow is reserved cash held in escrow for the payment of unsecured debt.

b. Other Liabilities — Reserve for Membership Incentive Program
Reserve for Member Incentives is comprised of a Membership Fulfillment Program and two
Membership Incentives programs as follows:

(1) Under the Membership Fulfillment Program, ORG will return a portion of the
membership fees paid by any client member who completes the debt management
program. To qualify, a client member must complete the program without making any
late payments. ORG has reserved approximately $ as of June 30, 20XX.

(2) Under the first Membership Incentive Program, any client member is eligible to receive $
for each person who becomes a new client member of ORG. As of June 30, 20XX, ORG
has reserved approximately $ for such program.

(3) Under the second Membership Incentive Program, any client member who successfully
refers eight as new client members is eligible to receive an even greater monetary
reward. ORG has reserved approximately $ as of June 30, 20XX.

D. Officers, Directors and Key Employees

1. Officers and Key Employees of ORG
The names and addresses of the officers and the key employees of ORG are listed below:

Form 886-Acev.4-68) Department of the Treasury - Internal Revenue Service
Page: -18-

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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX
Officers and Key Employees Title
PRESIDENT President, Director
Vice President Vice-President/Director of Marketing
Secretary Secretary/Treasurer
DOF Director of Finance
DOTS Director of Trust Services
DOBD Director of Business Development
DOES Director of Education Services

PRESIDENT is the founder, president and chairman of ORG. PRESIDENT graduated from the CO-
11 with a Masters Degree in Business Administration and received his Bachelor of Science Degree
in Accounting from CO-12. PRESIDENT is a certified public accountant, a certified credit counselor,
and a financial expert on consumer credit, personal financial planning, and tax strategies, as well as
specializing in both private consumer debt law and IRS practices and procedures.

PRESIDENT is currently a board member of the CO-13. He has been the past President and vice-
president of the CO-8 (CO-8), a national trade association representing the consumer credit
industry.

PRESIDENT also controls CO-10, CO-1, CO-9, CO-14, CO-15, and CO-16 — entities that are
engaged in related party transaction with ORG.

Vice President is vice-president of ORG and is director of Marketing. Vice President has been
employed by ORG for over a decade and is responsible for operations, marketing policies, hiring,
and training of credit counselors. Vice President received a dual degree Finance and Marketing

from CO-12.

In 20XX, Vice President was elected as the Vice President for the CO-8 (CO-8). Vice President's
past experience includes working as a financial analyst for CO-17 He also performed tax, business,
and financial planning for the owners of large private corporations. Immediately prior to joining ORG,
he was a territory manager for CO-18.

Secretary is Secretary/Treasurer/Director of Finance. Secretary graduated from State State
University in 19XX with a Bachelors of Science degree in accounting. As Director of Finance,
Secretary was responsible for the preparation and analysis of financial statements, payroll and
benefits, accounts receivable, accounts payable, state and federal tax and license compliance,
systems design, improvement and analysis and all the financial reporting and responsibilities of

several related companies.

Key employees include DOF who is the director of Finance. Prior to joining ORG, DOF was the CFO
for CO-19 and CO-20 where he was responsible for the financial and administrative functions of the
companies, as well as preparation of the business plan and financial projections. DOF has a
Bachelor of Commerce Degree and a postgraduate accounting degree for the CO-21, Country. He
is also a Certified Public Accountant and a Chartered Accountant.

Form 886-Aev.4-68) Department of the Treasury - Internal Revenue Service
Page: -19-


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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

Another key employee is DOTS, the director of Trust Services. As the director of Trust Services,
DOTS is responsible for the security, maintenance and upkeep of Trust Account. His department
assures that all funds received and disbursed through the client's trust account are reconciled and
that all payments made to creditors on the clients' behalf are accurate and timely. He has over 15
years of accounting and finance experience. Prior to joining ORG's team he was the Controller for a
large City based corporation for 11 years. He received his Accounting Degree from the CO-22.

A third key employee is DOBD. As the director of Business Development, DOBD’s responsibilities
include developing strategic partnership alliances and orchestrating community outreach projects.
DOBD serves as chairman of the local advisory committee of the Fannie Mae Mortgage Finance
Program, which develops pilot programs aimed at increasing the minority participation in the
mortgage finance industry. He also is the former chairman of the Southeast State Chapter of the
State Bankers Association and is vice-president and treasurer of the CO-23. DOBD has a Masters
in Business Administration and Bachelors of Arts degree in Psychology, CO-24, City, State.

A fourth key employee is DOES who is the director of Educational Services. DOES develops
surveys and polls to collect data concerning consumers’ financial needs and uses the survey results
to develop promotional material and community outreach programs. Topics developed have
included: Budgeting 101, Getting Out of Debt for Good, Credit Management - What You Need To
Know, and Acquiring Smart Spending Habits. DOES promotional efforts have been published in the
CO-25, CQ-26, CO-27, CO-28, the CO-29, CO-30, CO-31, CO-32, CO-33 and other publications.

In addition, DOES writes and edits the ORG quarterly client newsletter, “NEWS-1.” DOES’ prior
employment includes working as the promotions and public relations manager for a travel and event
firm and counseling employees on 401K and IRA accounts at CO-35. DOES received her Bachelors
of Science degree in Mass Communication from CO-34.

1. ORG’s Board of Directors
The names and addresses of the individuals that comprised the board of directors of ORG for the
year ended June 30, 20XX are as follows:

Board of Directors Address
PRESIDENT, Chair Address, City, State
DIR-5, Director Address, City, State
DIR-7, Director Address, City, State
DIR-8, Director Address, City, State

DIR-5 is an alumna of CO-12 where she received her Bachelors of Arts degree in Politics and a
Juris Doctor degree in Law. As a law student, DIR-5 participated in the Appellate Advocacy Program

Form 886-A ev.4-68) Department of the Treasury - Internal Revenue Service
Page: -20-

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

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

at CO-12, where she interviewed appellants, prepared briefs and represented clients throughout the
Appeals process, including oral arguments before the State and the District of Country courts. Since
then, DIR-5 has practiced law, specializing in general commercial litigation, real estate and
corporate law.

DIR-7 is a graduate of the University of State, City, where he earned a Bachelors of Arts degree in
Government & Politics and a Masters of Science degree in Technology Management and
Entrepreneurship. DIR-7 is president and co-founder of CO-36 and has over 16 years experience
providing. strategic business consulting and technical project management services to technology-
based businesses and the federal government. Recently, ORG selected CO-36 to manage the
expansion of its national call center. ,

DIR-8 has a BBA and an MBA degree, both from the CO-11. Since 19XX, DIR-8 has been vice-
president of CO-37, a company that runs nursing homes as well as chief executive officer of CO-38,
a healthcare facility organization.

2. Duties and Responsibilities of the Board of Directors of ORG
Article lil of the Bylaws stipulates that all corporate powers shall be exercised by or under the
authority of the board of directors. In addition, the business and affairs of ORG shall be managed by
the board of directors.

In performing his or her duties, a director shall be entitled to rely on information, opinions, reports or
statements, including financial statements and other financial data, in each case prepared by or
presented by:

Q one or more officers or employees of ORG whom the director reasonably believes to be
reliable and competent in the matters presented;

Q counsel, public accountants or other persons as to matters which a director reasonably
believes to be within such persons professional or expert competence; or

Q acommittee of the Board of Directors upon which he or she does not serve, duly designated
in accordance with a provision of the Articles of Incorporation or these Bylaws as to matters
within its designated authority, which committee the director reasonable believes to merit
confidence.

3. Minutes of the Board of Director Meetings
ORG provided the examining Revenue Agent general minutes of the board of director meetings for
the period January 1, 20XX to December 31, 20XX. The matters discussed before the board of
directors consisted primarily of the election of directors and officers.

4. Compensation of Officers, Directors and Key Employees

a. Compensation per Form 990

Form 886-A rev.4-68) Department of the Treasury - Internal Revenue Service
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Form 886A Department of the Treasury - Internal Revenue Service Schedule No. or Exhibit

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

The compensation paid to officers and key employees for the fiscal year ended June 30, 20XX is set

forth below.

Employee Title Category Compensation
PRESIDENT President, Director Officer

. Vice President Vice-president Officer
Secretary Secretary/Treasurer Officer
DOBD Director of Business Development Key Employee
DOTS Director of Trust Services Key Employee
DOES Director of Education Services Key Employee
DIR-9 Credit Counselor Supervisor Key Employee

All officers and key employees are full-time employees of ORG. All outside directors provide their
services on a voluntary basis and as such are not compensated for acting as a director. During
fiscal year 20XX, each director received a $ expense reimbursement to cover any expenses
incurred in acting as a director.

b. Bonuses
Compensation is divided into a salary portion and a bonus portion. ORG provides that the bonus
portion is set at a significant level so as to be a continual incentive to the employee to work hard and
add value to ORG. The bonus portion is split into four quarterly amounts. Each quarter (January,
April, July and October) the employee’s performance for the prior quarter is reviewed. For the year
ended December 31, 20XX, the salary and bonus paid to officers and key employees are as follows:

Employee Title Salary Bonus
PRESIDENT President, Director
Vice President. {Vice-president
Secretary Secretary/Treasurer
DOBD Director of Business Development
DOTS Director of Trust Services
DOF Director of Accounting

c. Automobile Allowance

ORG gives the officers and key employees named below an automobile allowance (called “auto
expense reimbursement allowance’) to cover all use of private vehicles for company vehicles during

calendar year 20XX.

Form 886-A mev.4-68) Department of the Treasury - Internal Revenue Service
Page: -22-

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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

Auto
Employee Allowance

PRESIDENT
Vice President
Secretary
DOBD

DOTS

DOF

In response to IDR #ORG-017, ORG provides that senior employees receive a standard auto
reimbursement amount each pay period. The amount was set at a limit estimated to equate to the
employees average estimated bi-weekly business mileage incurred on behalf of ORG, multiplied by
the standard mileage rate approved by the IRS. Employees were not required to provide
substantiation for the actual business mileage incurred on behalf of the ORG.

E. The Activities of ORG

1. Operating as an Inbound Telemarketing Call Center

a. Inbound Telemarketing Call Center Described
During the fiscal year ended June 30, 20XX, ORG operated an inbound telemarketing call center
staffed with credit counselors. An inbound telemarketing call originates with the respondents
(callers). Such calls are made in response to a marketing offer directed via print, radio or other
media sources. The respondents generally contact the call center by phone to ask for help.

b. Purpose for Which the Call Center is Operated
In furtherance of its exempt purpose, ORG operated the call center staffed with credit counselors to:
(1) enroll callers in its debt management program; (2) provide financial counseling to individuals that
are experiencing financial and debt-related difficulties; and (3) to disseminate self-help booklets to
any caller interested in topics related to financial and debt management.

c. Call Center Team
In response to IDR ORG-002, ORG provided that, during calendar year 20XX, the number and title
of call center employees were as follows:

Number of Employees Number of Employees
Job Classification Jan. 1, 20XX ; Dec. 31, 20XX
Credit Counseling Manager
Credit Counseling Supervisor
Form 886-A rev.4-68) Department of the Treasury - Internal Revenue Service

Page: -23-


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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

Credit Counselors es See

Internet Specialists =

d. Accreditation of Counselors _
During the year ended June 30, 20XX, ORG employed _ counselors, of which approximately,
percent were certified by a third party organization, as shown below.

Total Number Percentage

Certified Counselors _
Counselors Not Yet Required to be Certified

Counselors in Certification Training a

Counselors Who Resigned Prior to Training _ i =

Total =

e. Protocols for Providing Education, Counseling and Debt Management Services
Prior to the start of the examination, the examining Revenue Agent issued IDR ORG-002 which
asked for, among other items, all versions of scripts and/or job aids utilized by or available to your
staff for any client contact during FYE 20XX. ;

(1) FYE 20XX Scripts/Job Aids Materials Unavailable

In response to the IRS request, ORG stated that it no longer maintained the scripts/job aids
employed by its credit counselors during the year under examination, because it believes such
materials to be outdated. Instead, ORG provided the IRS with the most recent version (May 20XX)
of protocol and training materials employed by its credit counselors in. compliance with the IRS

request.

(2) FYE 20XX Standard Protocol for Telephone Counseling and Qualifying

Session
ORG’s standard protocol for telephone counseling is broken down into the following components:

(1) Greeting;

(2) Qualify

(3) Presentation;

(4) Application Process; and
(6) Approval

(i) Greeting Phase
During the Greeting phase, credit counselors are instructed to establish rapport with the caller and

take the following actions:

Form 886-Acev.4-68) Department of the Treasury - Internal Revenue Service
Page: -24-

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

Explanation of Items

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX
Q Give the caller your name; _
a Give the caller ORG’s name and a brief description of its background and activities;
a Provide personal financial education;
Q Use the term “credit counseling or debt management,” not just “debt consolidation.”
Tell the caller ORG handles only unsecured debt;
Q Tell the caller the service is for persons having difficulty with bills as opposed to only
reducing interest rates;
Q NO PRESSURE

ORG provides that this phase is used to determine whether the caller is interested in the debt
management program or education.

(ii) Qualify Phase

During the Qualify phase, credit counselors direct their efforts towards determining whether the
caller would benefit from the debt management program and what type of education is required.
Listening to the caller is emphasized during this phase. The actions to be undertaken by the credit
counselor include:

Oodododo oOo

Determining whether the caller has a financial need for the debt management program;
Determining the type of education required;

Computing the approximate amount of unsecured debt;

Discussing the type of debts and the creditors involved;

Determining the status of the debt payments;

Determine if the debt management program is appropriate;

LISTEN!

(iii) Presentation Phase (Preparation of Debt to Income Analysis)

During the Presentation phase, credit counselors determine whether the caller qualified for the debt
management program. In furtherance of such goal, the counselor performs the following functions:

QO
Q
Q

Obtains the approximate amount of unsecured debt the caller owes;

Obtains a description of the types of unsecured debt the calls owes;

Determines the estimated payment and the total number of payments required to complete
the debt management program;

Reminds the caller that the payment amount is only an estimate, based on the information
the caller provided;

Describes the benefits of the debt management program;

Form 886-Acrev.4-68) Department of the Treasury - Internal Revenue Service

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Form 886A Department of the Treasury - Internal Revenue Service Schedule No. or Exhibit
Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

a Ensures that the caller understands the difference between the debt management program
and a loan;

Q Presents all options to liquidate the debt, including self assistance through education;

a €xplain the disadvantages of the debt management program:
» Inform the caller that all cards placed on the program will be closed;
» — Inform the caller that he or she cannot obtain new credit cards while on the program;

« Explain the fees
Q Asks the caller if he or she has any more questions;
Q Remind them that education is important and remind them to visit our website; and

Q NOPRESSURE! NO SELLING!

The estimated payment is determined by applying the specific percentage required by a creditor to
the current debt balance. Although creditor requirements vary, ORG instructs its counselors to apply
the following percentages to approximate the payment:

Creditor Percentage
Most sits a _

Most store and gas charge cards

Most Unsecured Loans

Medical bills and other “old” accounts —_

At this point, ORG directs its credit counselors to ask if the caller has any questions. If the counselor
feels the caller is satisfied with the information, comfortable with the program and program payment,
and will truly benefit from the program, we can discuss the application process. As in the
presentation, we will put NO PRESSURE on the caller to complete the application at this time, and
give the caller every opportunity to hang-up, think about the information, and call back. If they are
truly interested, they will stay on the line, or at worst, call back at a more convenient time.

(iv) Application Phase
During the Application phase, ORG provides the objective of counselors is to complete ail the
required fields (in the Software program) with information that is accurate as possible. In addition,
counselors are expected to gauge the comfort level of the caller. If the caller is hesitant or
uncomfortable, counselors are instructed to try to determine the nature of the discomfort and provide
the information that the caller may need to move forward. If the caller remains hesitant, instruct him
or her to call you back when ready to join the program. Do nor sell.

(v) Approval Phase
During the Approval phase, the credit counselor performs the following functions:

Form 886-Aev.4-68) Department of the Treasury - Internal Revenue Service
Page: -26-


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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

a Reviews the applicant's budget and list of creditors to insure that the caller has sufficient
income to qualify for the program;

O Tells the caller that he or she qualifies for the program and will be receiving the
Agreement and related information for their review and signature.

Q Assure the caller that no action will be taken until the signed Agreement in receipt;

Directs the applicant to the ORG web-site for additional information budgeting and
related topics regarding the handling of financial situations. Applicants also are told that
additional resources are made available only to members at no additional charge;

Discloses creditor donations;

Discloses program fees;

Reviews enrollment procedures; and

Instruct caller to keep up with payments to creditors until payments start with program.

ooo o Oo

N

Providing Educational Programs to the General Public

a. Educational Activities

Pursuant to its Form 990, ORG provides that it created numerous educational programs for
individuals, community groups and students, ranging from the elementary to the collegiate level.
ORG claims that these programs were designed to allow participants to achieve economic
rehabilitation and to educate the young about the proper use of credit.

b. Dissemination of Educational Publications to the General Public
In furtherance of such goals, ORG distributed self-help booklets. ORG claims that such publications
were designed to educate the general public in topics such as budgeting techniques and how credit
works.

(1) Dissemination of Self-Help Booklets
During the examination, the IRS obtained a sample of booklets, educational in nature, from ORG.
These booklets also are available at no cost to the walk-in public in the office lobby. The booklet

titles are as follows:

BK-1
BK-2
BK-3
BK-4
BK-5
BK-6
BK-7
BK-8

Form 886-A cev.4-68) Department of the Treasury - Internal Revenue Service
Page: -27-

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

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

BK-9

BK-10
BK-11
BK-12
BK-13
BK-14
BK-15
BK-16
BK-17

ORG further provides that its self-help booklets were distributed to colleges and universities
throughout the United States.

(2) Dissemination of Newsletters to Client Members

Pursuant to its educational program, ORG disseminated newsletters, educational in nature, to those
callers who became client-members by participating in its debt management program. The ORG
newsletter titled, “NEWS-1” is issued quarterly, and “NEWS-2” is mailed out monthly. NEWS-2
newsletter is published by a third party in City, State.

(3) Dissemination of Educational Matter via Web Site
The general public also can access the self-help booklets on ORG’s web site free of charge.

(4) Dissemination of Educational Pamphlets to Organizations
ORG provides that it disseminated its educational materials to organization such hospitals,
associations and credit unions. Examples of ORG’s pamphlets are provided in Illustration’s 3 — 6
below.

(5) Dissemination of Media Releases

ORG gives information regarding its services (or debt in general) to the North American Precis
Syndicate (NAPS) who then distributes the information to over 10,000 newspapers, 1,000 TV
stations and 6,500 radio stations throughout the United States. Then NAPS tracks the story to see
how well it did and gives you the results.

Illustration 7 below sets forth below a January 20XX ORG media release. By April 5, 20XX, NAPS
claimed that the release generated 608 newspapers articles in 24 different states with a readership
of 35,656,560, based on the fact that when placements are reported 75 percent of the write-ins
come from places from which there are no clippings in hand.

illustration 8 graphs placements to date and circulation to date.

NAPS further provides that the release appeared in 17 of the top 50 markets, 23 of the top

Form 886-A rev.4-68) Department of the Treasury - Internal Revenue Service
Page: -28-


Form 886A Department of the Treasury - Internal Revenue Service Schedule No. or Exhibit
Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX
Market Appearance of “Don’t Frown in Debt” Release Markets Placements

Top 50 Markets ;

Top 100 Markets —_ —_
Top 300 Markets _ ___

(6) Dissemination of Consumer Awareness Articles
ORG provides that it developed numerous consumer awareness articles that were published in
national magazines. The published articles have titles such as ARTL-1, ARTL-2, ARTL-3 and ARTL-
4.

c. Carrying On of Educational Workshops/Seminars
ORG contends that it conducted educational seminars for the general public at its place of business
during fiscal year 20XX. For instance, ORG gave the examining Revenue Agent pamphiets listing
the workshops that were conducted as follows:

Workshop Title Date of Workshop Place of Workshop
WS-1 September 19, 20XX Place of Business
WS-2 October 17, 20XX Place of Business
WS-3 November 14, 20XX Place of Business
WS-1 December 12, 20XX Place of Business
WS-2 January 10, 20XX Place of Business
WS-3 February 13, 20XX Place of Business
WS-1 March 13, 20XX Place of Business
WS-2 April 10, 20XX Place of Business
WSs-1 May 15, 20XX Place of Business
WS-3 June 19, 20XX Place of Business

ORG claims that such workshops occurred monthly during fiscal year 20XX, however,
documentation of the completed workshops (e.g., list of attendees, advertisement, etc.) was not

maintained by ORG.
ORG states that it also created and participated in joint educational programs with CO-39, CO-12,
CO-40, CO-41 and CO-42.
Illustration 3
ILLUSTRATION 3 DELETED

illustration 4

Department of the Treasury - Internal Revenue Service

Form 886-ARev.4-68)
Page: -29-

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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

ILLUSTRATION 4 DELETED
Illustration 5

ILLUSTRATION 5 DELETED
Illustration 6

ILLUSTRATION 6 DELETED
Illustration 7
ILLUSTRATION 7 DELETED
Illustration 8

ILLUSTRATION 8 DELETED

F. Call Center Activities: Enrollment of Consumers in the Debt Management Program

One of the purposes for which the call center was operated is to enroll consumers in the debt
management program of ORG.

1. Debt Management Program Described
Organizations that advertise credit counseling often arrange for consumers to pay debts through a
debt management plan (DMP). In a DMP, you deposit money each month with a credit counseling
organization. The organization uses these deposits to pay your credit card bills, student loans,
medical bills, or other unsecured debts according to a payment schedule they've worked out with
you and your creditors. Creditors may agree to lower interest rates or waive certain fees if you are

repaying through a DMP.

2. How the Debt Management Program Works
Pursuant to the ORG Training Manual, the debt management program works as follows:

The debt management program is designed for individuals with unsecured debts that
have become unmanageable. Secured debt such as mortgages and car loans will not be
accepted on the program. The focus of the program is to consolidate these bills into one
monthly payment, lower monthly payment requirements jrom the creditors, and negotiate
lower interest rates. Generally, members will realize savings of %-% on a monthly basis
through our system of negotiation with their creditors.

Form 886-A crev.4-68) Department of the Treasury - Internal Revenue Service
Page: -30-


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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

Once in the program, a monthly payment is made to ORG. This payment includes a
monthly membership fee that varies from $-$ (based on client’s financial needs and
amount of outstanding debt) and the specific payment amounts to each creditor. The
client’s payment should arrive by their assigned due date and will be disbursed to their
creditors on the corresponding disbursal date. The client will continue to receive
statements from their creditors reflecting our payments and are requested to send them
in quarterly for review. It is the client’s responsibility to open their bills and to notify us
if there are any discrepancies at which time we will contact the creditor(s) for

resolution. When the client is prepared to pay-off any or all of their accounts on the
program, our staff will assist them in obtaining the correct amounts and disbursing the

funds to their creditors by means of our office. Upon proper completion of the program
the client will receive completion materials that include a letter of recommendation and

a handbook about regaining credit written by PRESIDENT.

Illustration 2 below diagrams the flow of one ORG debt payment (including the monthly fee
to ORG) from Client-Member to ORG before the specified payment date. After it takes out its
monthly fee, ORG disburses the balance to each creditor (Creditor's #1, #2 & #3), in
accordance with the program agreement. After the payment is received, each creditor issues
a new billing statement, representing the subsequent billing period, to Client-Member. Each
creditor also pays ORG a fee (e.g., percent of the debt payment) for collecting the debt on
its behalf.

Creditor 4, on the other hand, has chosen not to agree to terms of the debt consolidation
arrangement. Therefore, Client-Member must continue to pay his or her debt to Creditor #4,
independent of the arrangement with Creditors #1, #2 and #3. And Creditor 4 will continue
to issue its monthly billing statement to Client-Member until the debt is extinguished.

Under the Membership Fulfillment Program, ORG will return a portion of the membership
fees (represented by the dashed line) paid by Client-Member if he or she completes the debt
management program. To qualify, Client-Member must complete the program without
making any late debt consolidation payments.

Illustration 2

ILLUSTRATION 2 DELETED

3. Advantages of the Debt Management Program

According to ORG, the advantages of the program are as follows:

Q Lower, more affordable monthly payment
Q Reduced or even eliminated interest and penalty charges

OQ No more harassing phone calls from creditors

Form 886-A crev.4-68) Department of the Treasury - Internal Revenue Service
Page: -31-


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

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

Q Improves Credit Rating

4. Program Service Expenditures
Table 10 below sets forth ORG’s program service expenditures for the six year period ending June
30, 20XX, including the short year ended June 30, 19XX. For the six year period, expenses
associated with the debt management program exceeded’ _ percent of the total amount expended
for program services.

Table 10

Program Service Expenses per Form 990

31-Dec 30-Jun 30-Jun 30-Jun 30-Jun 30-Jun
Description 19XX 19XX 419XX 20XX 20XX 20XX
Debt Management Program
(DMP)

Education Program
Total

DMP as a % of Total Program
Service Expense

G. Client-Member Fees

During the fiscal year ended June 30, 20XX, ORG did not charge any caller any fee for any phone
call it received. Fees, however, were assessed once a caller became a client-member by enrolling in

the debt management program.

1. Debt Management Fees
ORG charged its client-members an initial fee and a monthly fee. The initial fee is a one-time charge
that is assessed at the enrollment date and can range between $0 and $. The monthly fee, however,
is charged during the entire length the client-member remains with the debt management program

and that too can range from $0 to $.

2. How the Fee is Set ;
According to ORG, both fees are dependent upon the following criteria:

State fee limitations for those states that have mandated fee limits;

CO-8 (CO-8) Code of Practice, which provides for an initial fee of $0 to $ and a monthly fee
of $0 to $; -

Q Level of debt, e.g., a smaller fee charged on smaller debts;

Form 886-A crev.4-68) Department of the Treasury - Internal Revenue Service
Page: -32-


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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

Q Client-member’s financial position and ability to pay the fee.

3. Membership Fulfillment Program
Under this program, ORG will return a portion of the membership fees paid by any client member
who completes the debt management program. To qualify, a client member must complete ‘the
program without making any late payments.

4. Client-Member Terminations and Completions
In question #31 of IDR #ORG-002, the examining Revenue Agent asked ORG to specify, for each of
its program activities during fiscal year 20XX, the average for each the following:

(a) period of time an average client is estimated to take to complete each program;
(b) percentage of clients who successfully complete the program;
(c) percentage of clients who cancel or drop-out of the program within 6 months;
(d) percentage of clients who cancel or drop-out of the program between 7- 12 months; and
(e) percentage of clients who cancel or drop-out of the program between 13- 24 months.
In response to (a) above, ORG provided that, for 20XX, . client-members completed the debt

management program. The average length these client-members were on the program was :
years.

In response to (c) through (e) above, ORG provided the following statistics:

Description Percentage

Percentage of clients who withdrew from the program within 6 months*

Percentage of clients who withdrew from the program between 7-12 months*

Percentage of clients who withdrew from the program between 13-23 months*

* ORG provides that the withdrawals were due to completion or otherwise.

5. ORG’s Relationship with CO-8
CO-8 is the credit counseling industry association. As such, it is a membership-based organization,
of which ORG is a member. In addition, the current ORG president, Vice President, serves as CO-
8’s vice-president. Furthermore, PRESIDENT’s biography on ORG’s web site provides that he has
been instrumental in the growth of the CO-8 and is the past President of the CO-8 and has held
positions as the Vice President, and Chairman of the Client Retention Committee.

H. Call Center Activities: Provision of Financial Counseling & Education

Form 886-A crev.4-68) Department of the Treasury - Internal Revenue Service
Page: -33-


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

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

ORG contends that it educates consumers that contact its call center either by phone or by walk-in.
It does not matter whether such consumers enroll in the debt management program. ORG firmly
believes that it educates all consumers that talk to its credit counselors.

1. Electronic Case File Histories of Inbound Callers

a. __ Percent of Inbound Calls are not Documented

Vice President, the former credit counseling manager, stated that the Software computer software
program in use during fiscal year 20XX documented only the information of consumers that qualified
for its debt management program, viz., client-members and leads, where leads are consumers that
qualified for but did not enroll in the debt management program. Based on his estimate, Vice
President indicated that the Software program recorded less than _ percent of all inbound phone
calls made during the fiscal year. As a result, ORG did not document more than __ percent of all
inbound phone calls it received.

b. Remaining 10 Percent of Inbound Calls
ORG provided all of the electronic case file histories compiled by seven credit counselors. The
seven counselors were selected based on their compensation. The case file comments discuss
administrative procedures undertaken as opposed to educational or counseling provided.

2. IRS Third Party Contact of Former Credit Counselors

a. Questionnaire Submitted to Former Counselors
Former counselors were contacted by mail to ascertain the nature of and extent to which they
educated and counseled callers. The former counselors wrote that the objective of the job was to
enroll consumers in the debt management program.

b. Phone Interview of Former Counselors
Former counselors were contacted by phone to ascertain the nature of and extent to which they
educated and counseled callers. The former counselors stated unanimously that ORG’s objective
was to enroll consumers in the debt management program. Moreover, if education were provided to
consumers, it was due to the personal and professional experience of the counselor, as: opposed to:

any training provided by ORG.

I. Marketing Strategy

ORG conducts its business in. ___ States. As an inbound telemarketing call center, ORG does not
permit its credit counselors to make outbound phone solicitations. Credit counselors may, however,
return a phone call or even contact a caller who asked the counselor to contact him or her at a later
time or at a later date. Therefore, the success of its debt management program resides on the
effectiveness and scale of its advertising campaigns.

Form 886-A mev.4-68) Department of the Treasury - Internal Revenue Service
Page: -34-


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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

1. Public Awareness Campaign
With respect to its overall marketing strategy, ORG provides:

..we can easily describe our overall strategy for utilizing various media outlets to
further our main purpose of educating the public with regards to the assistance that is
available for those experiencing financial difficulties.

During FYE 20XX, a significant portion of our public awareness addressed the negative
effects of debt on the consumer. ORG created separate 30 second television
announcements for each of several issues including depression, fear, anxiety,
hopelessness and how debt hurts everyone in a a family Copies of the foregoing were
previously provided.

The aim of the messages was to show that being in financial distress created negative
financial and emotional consequences. It is our hope that these announcements were
equally informative to consumers who are in trouble with their debts as it is to
consumers who are not. In other words, the announcements were designed as a deterrent
against getting into trouble with debt and a message of encouragement for those in
trouble to seek assistance.

These messages also addressed the negative effect of debt on the well-being of the
consumer and his/her family, which is often not realized. Public awareness via radio and
television is accomplished by purchasing low-cost remnant ad space in radio and
television, with an air time between 30-60 seconds. The main focus of ORG's Internet
site has always been to provide education to the consumer with free access fo all of our
educational services and products. ORG's billboard advertisements reflecta’ Debt"
theme to attract consumers in true financial need.

The main goal of our public awareness efforts is to attract the most debtors with poor
credit management habits and attempt to modify their behavior with education and
counseling.

2. Formal Advertising Plan, Market Research & Analysis of Competition
ORG does not have a formalized written marketing and/or public awareness plan. However, a
related entity, CO-1 d/b/a CO-1 (CO-1) assisted in producing and placing all contracted public
awareness messages for ORG. Remuneration to CO-1 for fiscal year 20XX was §.

ORG does not conduct formal market research, directly or indirectly, and does not conduct formal
analysis of competition, directly or indirectly.

3. Measuring the Effectiveness of the Public Awareness Campaign

In fiscal year 20XX, ORG’s phone system was not capable of providing detailed call reports by
media source. As a result, public awareness was tracked by market based on the consumer's ZIP

Form 886-Acev.4-68) Department of the Treasury - Internal Revenue Service
Page: -35-


Form 886A Department of the Treasury - Internal Revenue Service
Explanation of Items

Schedule No. or Exhibit

Name of Taxpayer

ORG

Year/Period Ended
June 30, 20XX

code. Using this tracking method, however, permits ORG to record the zip codes of only the callers

that qualify for its debt management program.

For printed material, the effectiveness of public awareness was tracked by publication. For instance,
when consumers called, credit counselors would inquire about the location the ORG message was
heard or seen. Like the prior method, ORG records the publication source of only the callers that

qualify for its debt management program.

ORG states that it no longer possesses any old reports for fiscal year 20XX. However, based on a
current blank Media Analysis template, the following measurements were tracked for each market

and for each type of media:
Total cost

# of applications # of clients
Cost/application .Cost/client

Ratio of clients to application

The effectiveness of ORG’s public awareness activities is determined by the volume of counseling

activity generated.

4. Determination of Target Markets

ORG chooses its markets based primarily on where it is able to advertise at a cost that meets our

budget sensitive financial criterion for that medium.

5. Shape of the Marketing Message
When asked how it shaped its message, ORG responded:

ORG tailors its public awareness campaigns to capture the attention of debtors who are
having financial difficulties. Our messages are designed to make consumers aware of the
availability of our services as well as make people aware of the dangers of getting in
_ trouble with debt. We have several varying messages; however, we air messages a
minimum of 6,000 times per month that makes no mention of a debt management
program. It only informs the public about free educational resources available from our

organization.

6. Use of Various Marketing Mediums

ORG provides that it selects the most appropriate public awareness medium taking into account the
geographic areas and mix of mediums. For fiscal year 20XX, ORG used the following mediums:

Form 886-A eev.4-68) Department of the Treasury - Internal Revenue Service

Page: -36-


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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX
General Ledger Acct No Description of Medium Expense .
6000 Yellow Pages
6005 . Billboards
6010 Radio
6015 TV
6016 Internet
6020 Advertising — Other

7. Examples of Advertisements Found in Various Publications

In the Information Documents Requests listed below, the examining Revenue agent obtained from
ORG copies of advertisements (and the invoices associated with such advertisements) it placed in

various publications:

IDR #ORG-037, CO-43

IDR #ORG-038, CO-44 CO-45
IDR #ORG-041, CO-44

IDR #ORG-049. CO-46s

0 08 O O

(e) Ad in CO-43 — CO-47 AD DELETED

Publication: CO-47

Issue: September 1, 20XX
Circulation: 4,050,000

Size of Ad: % page 4 Color — Vertical
Total Due: $

Placement Service: CO-1

Client: ORG

Deadline: May 29, 20XX

(f) Ad in CO-44 —- CO-48 AD DELETED

Publication: CO-48

Issue: February 20XX

Circulation: 3,500,000

Size of Ad: % page 4 Color — Vertical
Total Due: $

Placement Service: CO-1

Client: ORG

Form 886-Acev.4-68) Department of the Treasury - Internal Revenue Service
Page: -37-


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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

Deadline: November 12, 20XX

(g) Ad in CO-44 - CO-33 AD DELETED

Publication: CO-33

Issue: December 18, 20XX
Circulation: 4,636,364

Size of Ad: % page 4 Color — Vertical
Total Due: $

Placement Service: CO-1

Client: ORG

Deadline: September 15, 20XX

(h) Ad in CO-46s - CO-49 AD DELETED

Publication: CO-49
issue: August 1, 20XX
September 1, 20XX
October 1, 20XX
January 1, 20XX
February 1, 20XX
April 1, 20XX
May 1, 20XX
June 1, 20XX
Circulation:
Size of Ad:
Total Due:
Placement Service: CO-1
Client: ORG
Deadline:

J. Credit Counselors

1. Duties and Responsibilities
According to the job description ORG provided to the examining Revenue Agent, the primary
responsibility of credit counselors is to receive inbound phone calls from across the country. The
description also stated that the calls are made by consumers in various stages of debt payment
- distress and that credit counselors help such consumers improve the quality of their lives through

debt consolidation and financial education.

The job also is described as follows:

Form 886-A crev.4-68) Department of the Treasury - Internal Revenue Service
Page: -38-

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

Explanation of items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

a Customer service minded person who enjoys talking over the phone, and helping them by
providing sound financial advice and counseling;

Receiving approximately 10-15 incoming call per day;

Gathering information about customers financial issues,

Determining debt obligations by interviewing clients;

Examining bills and payment schedules;

Determining financial resources by examining income, assets and expenses;

Developing a financial plan for the client where necessary by reducing high-interest debt;

Oo O O O O O QO

Establishing priorities and a living expense budget while developing a Debt Management
Program for the client;

Develops agreements with creditors on the client's behalf for lower monthly payments; and

Q Providing community outreach and education regarding wise use of credit and other credit
related topics.

0

2. Candidates for the Credit Counselor Position

a. Applicants
ORG's employment advertisements do not specifically target credit counselors, counselors
employed in other fields, or social workers. ORG provides that it looks for a variety of characteristics
without regard for any previous “credit counseling" experience. For instance, ORG states that it
searches for qualified applicants who have college degrees and significant business experience in
related fields, and who can empathize with a client's financial situation. ORG further states that it
looks for counselors with a stable work history, demeanor, good communication and listening skills.

b. Community Volunteers
ORG provides that it does not recruit community volunteers to perform counseling services as it
believe that its core competency is highly specialized.

3. Initial Training

a. Course Title, Objective and Curriculum
The course title of the initial training class is “New Counselor Orientation and Training.” ORG
provides that the goal of its training program is to ensure that counselors are proficient in their ability
to assist clients in resolving their debt related issues through counseling and education. ORG also
states that course curriculum consists of an introduction and orientation to ORG and protocols for
providing education, counseling, and debt management services to clients.

b. Content of the Training Manual

Form 886-Aev.4-68) Department of the Treasury - Internal Revenue Service
Page: -39-

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

Explanation of Items

Name of Taxpayer Year/Period Ended

ORG

June 30, 20XX

The text new counselors are given during the initial training is called “ORG Training Manual.” The
Manuat’s table of content, which is provided below, summarizes the topics of learning:

Table of Contents

Chapter One: Introduction to Credit Counseling

a.
b.

Introduction

industry Based Training:
Credit Cards and What you Need to Know — CBT
BK-9 — CBT

Chapter Two: ORG, Inc.

Q

oooo

Q

Quality Statement

History of the Company
Organizational Staff: Brief Bio’s
Client/Creditor/Community Relations
Affiliated Companies

You Can Make A Difference

Chapter Three: Products and Services

ovooogoooogonooda

oO

Q

Key Words

How Our Program Works

Advantages of the Program

Flow Chart: Life Cycle of an Account

Steps to Enroll

Membership Agreement and Sample

Sample Client Letters (Welcome and Initial Payment)
Payment Methods

Auto-pay Advantages/Sample Acquisition

A Guide to Due Dates and Disbursals

Gold Membership Rewards/Brochure

Partner Companies and Services: Rush Card, Home Savers, Legal Club,
Mortgage Referrals, and more

Soldiers and Sailors Benefit

Free Education

Chapter Four: Effective Communication and Telephone Etiquette

Q

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Effective Communication
Telephone Etiquette
Customer Service Basics
Common Courtesy
Telephone Tips

Handling an Irate Client

Use of the Hold Button

Focus on Service

Avoiding Negative Statements

Form 886-Acrev.4-68) Department of the Treasury - Internal Revenue Service

Page: -40-


Form 886A Department of the Treasury - Internal Revenue Service Schedule No. or Exhibit
Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX
a Ways to Say Thank You
Q Rules to Customer Service
Q Call Model

Chapter Five: Statement Reconciliation

Q
Q
Q
QO
Q

Statement Examples

Reading a Statement: What to Look for
Updating Statements

Statement Problems

Cheat Sheet for Call-On Statements

Chapter Six: Systems

a

Oooo

Q

Phone Systems: ~-+— :
Software :

Microsoft Outlook —

Right Fax

Digital Documents

Imaging 101 Scanning Software

Chapter Seven: Forms and Procedures

a)

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Q

Proposals: Accepted and Declined
Digital EDI Proposal Request
Program Payment Requests

Increase Payment Requests
Cashback Request

Refund Requests

Fairshare

Adding A Creditor

Removing A Creditor

Digital Check Status Request

RPS Payment Inquiry Form

Referrals

Digital Creditor Changes

Digital Fund Transfers

Payoffs

Letter Request Form (Sample Letters)
Reinstatements/Temporary Closures
Lower Payment Request/Budget Form
Post cards/Removing Clients From Mailing List
Changing Account Numbers

Legal Procedures

Welcoming Clients/Proofing Files
Autopay Cancellation/Revision Procedures

Chapter Eight: Stress management —-CBT

Q
Q

General Info on Stress
Top 20 Stressors in Life

Form 886-Acrev.4-68)

Department of the Treasury - Internal Revenue Service

Page: -41-

Form 886A Department of the Treasury - Internal Revenue Service
Explanation of Items

Schedule No. or Exhibit

Name of Taxpayer

ORG

Year/Period Ended
June 30, 20XX

Q Good and Bad Stress
Q Stress and Your Immune System
Q Stress Assessment
Q Coping Behaviors Checklist
Chapter Nine: Job Aides
Welcoming Job Aide
Retention Job Aide
Creditor Concessions
Company Contact Info (Extensions and Fax Numbers)
Affiliated Co’s Chart
FAQ — Credit Bureau
Q Time Zone Chart
Frequently Asked Questions
Glossary

OO

coco

4. Initial Interview Training — The Job Script

The job script new counselors are taught is as follows:

Initial Interview Training

GREETING:

Credit counseling, this is . May I help you?

What zip code are you calling from? You are in (city)

in (state)

Let me tell you what we do and see if it's what you are looking for, ok?

The name of our service is ORG...

We're a federally approved tax-exempt non-profit organization. Our main goal is to provide personal

financial education and tools that can help you get out of debt..

We are Run by accountants and financial professionals. And, we're set up to he
over extended on things like:

Credit cards
Medical bills
Department store cards
Or

Ip people who are

__...if you have any kind of personal loan that was not made with collateral. In other words we can't
help with car payments, house payments, current light bills or current phone bills. The reason for

that is they can be taken away or turned off. We can however help with old bills.

Form 886-Acrev.4-68) Department of the Treasury - Internal Revenue Service

Page: -42-


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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

Now, is that the situation that you're in? (Listen!)
If you qualify, can help get you BETTER payments.
QUALIFY:

What kind of bills are you dealing with?

Do you have any idea how much do you owe?

Tell me, what's going on with the payments? Are you current or are you running a
little behind?

(If current)
What kind of interest rates do you have? Are they high or low?
Do you ever pay more than the minimum due?
Are you still charging more than you are paying each month?
Are your balances going down each month?

Are your cards maxed out or close to being maxed out?

(If current)
Based my experience, if you're on time and making only the minimum payments each month... it

would probably take you around years to pay that kind of debt off.

Look, you're making payments...does the amount you owe go down very much each month? (Wait
for a reply and give the person a chance to talk about how they feel about their situation). .

(If behind)
When was the last time you made a payment?

Are they calling or bothering you, very much?

(If yes) Besides helping to get you out of debt, one of the other advantages of this program
is helping to get those calls stopped.

(If behind)
Based my experience EVEN IF you were on time and making minimum payments each month... it

would probably take you around years to pay that kind of debt off. The reason for that is once you
get behind all your really doing is paying interest, late fees and penalties.

Form 886-Acrev.4-68) Department of the Treasury - Interna] Revenue Service
Page: -43-


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

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

...does the amount you owe go down AT ALL each month? (wait for a reply and give the person a
chance to talk about how they feel about their situation). (If the person does not indicate any
concern over their situation, question them further to make sure that you both truly understand their
situation. If at this Point aa DMP does not seem appropriate, inform them that we have Financial
Resource specialists that can help to determine what type of educational assistance may benefit
them and transfer the call after making a brief introduction)

EXPLAIN: (After hearing an acknowledgement of the serious nature of their situation)

What we can do is combine all of those debts into one monthly payment. We can work with your
creditors to get you an interest rate of around 8 to 10% (If accurate based on creditors mentioned).
(Stop the late fees and penalties, including most over the limit fees) so that the majority of your
payment goes towards paying off what you owe...

If you want, I can figure out what your payment should be. Do you have an idea of who you owe and
approximately how much you owe each one? I don't need any of the account numbers at this time.
(Go to Software "Creditor Info" tab.. .make sure there is a lead number)

Altogether you owe around $
I can get you a payment of approximately $ with an interest rate generally averaging
around 8 to 10 %...and it should only take you about 3.5 to 4 years to pay it off.

Would that help you?

I need to tell you there are disadvantages to this...

You'll have to be willing to give up the credit cards that you put on the program. (Your creditors will

not allow you to continue to charge on these accounts while you are paying them off at the reduced
interest rates.) Also, you will not be able to get any new credit cards until you finish the program. Is

that ok?

' Also, you need to remember that this is not a "free ride". Even though this will save you money, you
are still paying some interest to your creditors and there are some fees associated with our service

and I'll explain it all to you in advance... OK?

Let me explain...
Because we are a non-profit company, your credit card companies allow us to arrange for our

clients to receive lower interest rates, (and stop the late fees and penalties) so they can pay their
bills off faster.

All of your bills will be ORG into one payment... Each month you send your payment to a trust
account, and then we pay each of your creditors automatically. If at any time you have extra money
send it to us. It goes directly to the principal and you will be out of debt even faster.

Form 886-A crev.4-68) Department of the Treasury - Internal Revenue Service
Page: -44-


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

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

In addition, if you've been behind, after you're with us for 90 days, your creditors will generally re-
age your accounts... Bringing them back up to current status. Besides getting you out of debt we
also help you improve your credit rating and provide a variety of free educational resources which
are available to all clients and non-clients alike.

The bottom line is, this is the least expensive way to payoff this kind of debt and without hurting your
credit rating...

Do you have any questions? Do you have any questions? Do you have any questions? Do you have
any questions? Do you have any questions? Do you have any questions? Do you have any
questions? Do you have any questions? Do you have any questions? Do you have any questions?

(If the person does not indicate an interest in Debt Management, DO NOT SELL), inform them that
we have Financial Resource specialists that can help to determine what type of educational
assistance may benefit them and transfer the call after making a brief introduction).

(Go to application only if ready)

Application:

The next step is to do an application to see if J can get you approved for the service? Then I will
mail you a proposal for your review.. .after reading it over, you can decide if this will work for you...
Do you have 10 or 15 minutes to spend on the phone?

(Go to Software)
... How did you hear about us?

(After application)
What I'm going to do now is have your application reviewed for the program... but first

(After application)
(Name) grab a pen and piece of paper and take my name and number... I need

you to call me back in about one hour to see if you have been approved. |

(Slowly)
1. My name is my phone number is
2. The name of the company is ORG
3. We are a non-profit agency

4. Run by CPAs
5. If you need any additional information on our company you can check out our web-site at website

also you can access all of our free financial educational resources.
6. Also you can get our company history from the 888... All you have to do is call their national

number
Now, need you to call me back in about one hour, ok?

Form 886-Ackev.4-68) Department of the Treasury - Internal Revenue Service
Page: -45-


Form 886A Department of the Treasury - Internal Revenue Service Schedule No. or Exhibit
Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

> See change regarding initial fee.
Replace and destroy old page

(DOn't forget to say, 66You're welcome ")

Approval:

I have good news. I was able to get you approved for some help...
You owe around $ _ Correct? Your payment on this will be about
$ . Do you feel sure that you can afford this?

Now let me explain how we get paid...the majority of our revenue comes from donations that your
creditors make in order to support what we do. Also we receive $ out of each
payment. That helps to cover our costs for servicing your account each month. It's not extra this is
built into each payment of $ you'll make each month. Also, it costs

$ ($0 to $) to establish an account with us...and that is due whenever you are ready

to begin.

(Only if asked) This is far less than you would have been paying In interest [and late fees}
understood?

(NOT VALID IN STATE) Also, as a bonus when you finish the program we will send you $. In order
to receive this you must make all of your payments on time and payoff all of the bills through our
program...Understand? You can take the money and celebrate!

One more thing I have to cover with you. There are a number of ways you can make your monthly
payment. The easiest way is to have it automatically taken out of your checking account each
month. Otherwise, you'd need to send in a money order, bank check, or pay with Western Union
each month or check by phone which can get expensive. Obviously the best way is to do it by

autopsy.

Do you have a checking account?
(If Yes) Would you like me to send you the forms?
(If Yes) All you need to do is attach a voided check, check the box to pay the initial fee

automatically, check the box to pay monthly, and sigh the form.

(If no) No problem...

Form 886-A crev.4-68) Department of the Treasury - Internal Revenue Service
Page: -46-


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

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

I will send out your approval package today. It will include a list of instructions of the things you need
to send back in order get started. It will tell you to send

Copies or originals of all of the bills that you want help with.
A Check for $
Read and sign the membership agreement. What this does is give us the things you need to send
back in order get started. It will tell you to send

Copies or originals of all of the bills that you want help with.

A Check for $
Read and sign the membership agreement. What this does is give us permission to contact

your creditors in order to get you the lower interest and payments. It does not create any
type of obligations on your part. You may drop out of the program any time you want.
(Autopay) don't forget the Autopay form with voided check.

(State only): look over the budget analysis and sign it. .

A photo-copy of a recent pay-stub.

A photo copy of your driving license

VV Vv

VVVV

The only thing I ask is that you send all of this information back by priority mail...it only costs $. This
will help us identify your package as a new client in our mail room and allow us to process it much
faster.

Do you have any questions?

Ok, after you receive our proposal read everything over and call me if you have any questions. If not,
please call me before you send the envelope and we'll make sure that everything is there so that the
process of getting you started and getting you out of debt won't be held up.

DO YOU-HAVE ANY QUESTIONS?

5. Description of the Training Process
In response to the examining Revenue Agent's inquiry regarding the type of training new counselors
received, ORG provided the following statement:

The training for newly hired counselors is conducted internally. There is an intensive
one-week training session that is given to all new counselors prior to interacting with
clients. Due to our excellent counselor retention rate, counselors are usually hired and
trained one or two at a time. As a result the training conducted by our credit counseling
manager or supervisor is extremely personalized to the individual training needs of our
new counselor. Counselors are provided with a training manual which covers
information on the company, company policies, protocol for counseling and information
regarding the services ORG offers. A copy of the protocol for counseling has been
provided previously to the Service. Additionally, new counselors are also trained on the

Form 886-A crev.4-68) Department of the Treasury - Internal Revenue Service
Page: -47-


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

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

use of our computers and our computer systems. Counselors receive extensive training
on the workings of all departments within the organization in order to provide them with
the best possible perspective of the services provided to clients. As part of the training
process new counselors sit side by side with the trainer and listen in on the phone calls
and counseling sessions of experienced counselors. After the initial training and once
ready to work on their own, the new counselor is monitored constantly and on a daily
basis for a significant period of time and retrained in areas where they have a weakness-
New counselors also attend the same on-going training as our more experienced
counselors.

6. Evaluation of New Counselors During the Training Process
ORG claims that counselors in training are evaluated at various stages throughout the training
process by undergoing constant monitoring. Counseling sessions are tape recorded and played
back to the counselor by the credit counseling manger who in turn provides constructive verbal
feedback on any areas that need improvement. In addition, as stated above, training is conducted
on a one to one basis thus ensuring that counselors receive individualized feedback allowing the
counseling manager to monitor their progress. Monitoring continues for months after initially trained.

7. Effectiveness of the Training Program
The effectiveness of the training program is evaluated by auditory monitoring of counselors on a
regular basis by the credit counseling manager. The credit counseling manager completes a
"Telephone Counseling Screening Report" during the monitoring process. This is subsequently

discussed with the counselor and then the report is discarded.
8. Ongoing Training

According to ORG, the counseling department meets on a weekly basis. Counselors meet to
discuss issues within the company, new laws, updated and new procedures, and any other issues
pertinent to the industry or their profession. Feedback is provided by the credit counseling manager
regarding counselor performance to rectify any deficiencies a counselor may have.

9. Compensation

a. May 11, 20XX Memo to Counseling Staff re: Pay System
The memo provides that counselor compensation is not based on the outcome of each individual
counseling session but rather on recommending debt management to those individuals who may
benefit from this program. Under this policy, counselor compensation is determined as follows:

a Counselors will be paid a flat rate of $ per client making a DMP payment, provided at least
25 clients have made a payment during the corresponding pay period.

a The flat rate falls to $ per client if the total number of clients is under 25.

b. Payment of Bonus

Form 886-A cev.4-68) Department of the Treasury - Internal Revenue Service
Page: -48-


Form 886A Department of the Treasury - Internal Revenue Service Schedule No. or Exhibit
Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

Performance bonuses are paid at each of the following breakpoints:

Total Payments Bonus Amount
30
40
50
60
70

c. Draw
Because counselors are paid on a commission only basis, new counselors are paid a draw, which
represents a loan that the counselor pays back, as follows:

... because of the delay in a new counselor reaching full productivity due to an extensive
initial training and a normal learning curve, it is our practice to insure that new
counselors earn at least $ per week. As a result, small advances are commonly given to
new counselors, advanced against their projected future productivity.

K. Related Parties and Related Party Transactions

4. Ownership Interests Held By Founder (See Exhibit 1)

PRESIDENT, the founder, president and chairman of ORG, has an ownership interest in the
following entities that provide services to ORG:

Entity Name Ownership Interest
CcO-1, Sole

CO-9 Sole

CO-16, dba CO-16 Principal
CO-10 Sole

CO-14 Sole

CO-15 Sole

2. Ownership Interests Held By Directors
DIR-7, director, is the president and co-founder of CO-36, Inc. The web site of CO-36 provides that it

is a management and technology consulting firm that helps organizations develop and implement
marketing and growth strategies, improve operations and capitalize on technology.

3. Related Party Transactions

Form 886-A mev.4-68) Department of the Treasury - Internal Revenue Service
Page: -49-


Form 886A Department of the Treasury - Internal Revenue Service Schedule No. or Exhibit
Explanation of Items
Name of Taxpayer Year/Period Ended
ORG | June 30, 20XX

a. Back Office Processing Services (See Exhibit 2)

(1) Background
Sometime on or before January 9, 19XX, ORG decided to outsource its back office processing
services. Pursuant to the January 9, 19XX minute of meeting of the committee of independent
directors of the board of directors (“Committee”), the benefits of outsourcing include the following:

Q Reduction in payroll;

a Reduction is office space under lease;

Q Reduction in general overhead expenses; and
QO

Greater emphasis on client and community education;

No report quantifying such financial benefits was provided to the examining Revenue Agent.

(2) Agreement with CO-10
On January 9, 19XX, ORG signed an agreement with CO-50 (CO-50) to outsource its back end

processing services to CO-50.
(3) Certain Terms Contained in the Agreement

The term of the agreement is from January 1, 19XX to December 21, 20XX and is automatically
renewable for an additional term of 3 years, unless either party provides written notice to the
contrary at least 180 days prior to the end of the then current term.

The agreement may be terminated under the following circumstances:

a Expiration of agreement;
Q Revocation of regulatory authority for ORG to conduct any debt consolidation activities;

a Failure of ORG to make payments for services described herein.

The fee for the services is a monthly charge based on the number of active clients of ORG for such
month as provided below:

Number of Active Clients Monthly Fee per Client

999 or fewer
1,000 — 2,999
3,000 — 4,999

5,000 or more

Form 886-A crev.4-68) Department of the Treasury - Internal Revenue Service
Page: -50-


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

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX |

An “active client” are those listed in active status on the database at the end of any month
regardless of whether they have made a payment that month.

The agreement requires ORG to defend, indemnify and hold harmless CO-50 from and against any
and all claims, demands, suits, losses, costs, expenses, obligations, liabilities and damages
(including attorneys’ and paralegals’ fees and costs) incurred or sustained by CO-50 by reason of
ORG’s inability to maintain their regulatory authority or in connection with any breach of ORG’s
obligations.

Additional rights of CO-50 include:

O Upon ORG’s termination, CO-50 has the right to compete for all of ORG’s clients either on
behalf of CO-50 or on behalf of another non-profit corporation engaged in credit counseling.

Q Any software designed, licensed, purchased and used by CO-50 is and will remain the
property of CO-50.
a Upon termination of the agreement, ORG shall return the originals and all copies of all

information, data and materials provided by CO-50, regardless of whether such information,
data or materials constitute confidential information, to CO-50.

(4) Disclosure of Agreement with CO-51
The agreement also discloses that CO-50 provides similar services to CO-51, an IRC 501(c)(3)
credit counseling organization and that for administrative ease CO-50 is authorized to:

(1) process billings and applications for contributions from credit grantors attributable to the
active clients of CO-51 in the name of ORG;

(2) deposit all collections from credit grantors to an account in the name of ORG; and

(3) make such distributions to CO-51 as may be required in accordance with applicable
agreements between ORG and CO-51.

(i) Services to be Provided by CO-10

A. Data Entry
a. Entry of client information (i.e., name, address, home and work phone numbers, social
security numbers, scheduled payments and demographic and referral information) provided
by ORG;
b. Entry of credit information provided by ORG, including a screening a creditors to make
certain that the correct amounts are being paid;

c. Sending program orientation packets to all clients and calling all clients initially set up by
assigned customer service personnel;

Form 886-A rev.4-68) Department of the Treasury - Internal Revenue Service
Page: -51-


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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX
d. Follow up with clients who need to provide additional information;
e. Revising scheduled payments for clients of ORG in consultation with clients’ creditors;
f. Sending out proposal letters to creditors on behalf of clients of ORG;
g. Monitoring the proposal acceptance process; and
h. Maintaining the database, which tracks all client deposits and disbursements.

B. Customer Service
Responding to creditors’ inquiries regarding client accounts;

Responding to clients’ inquiries regarding their accounts;
Addressing clients’ concerns with creditors;

Researching questions posed by clients and creditors, when necessary; and

O oO O ob 0

Confirming establishment of payment plans when requested by potential lenders.

Cc. Computer Support
Q Maintaining a database program which retains all client and payment information and makes
the information easily accessible (provided that ORG shall perform all trust account
reconciliation and check disbursement payment inputting); and

Q Revising and modifying the data system, as needed.

b. Software Leases
On January 1, 19XX ORG entered into a software license agreement with CO-9 (CO-9). The
effective date of the agreement is October 31, 19XX. The term of the agreement is 3 years. The
term is automatically renewable for successive 3 year periods, unless either party provides written
notice to the other party of intent not to renew at least 30 days but not greater than 120 days prior to
the end of the then existing term.

CO-9 developed and owns two computer software programs. The programs were developed for use
by credit counseling organizations. The first program (Counselor Program) tracks productivity of
counselors, calculates counselor performance and margins. It also is a database of leads, sources
of leads and client information. The second program (Trust Program) is a database in which client
payments and disbursements and member activity are maintained.

The total monthly license fee is $.

c. Advertising .
On January 1, 19XX ORG entered into an advertising services agreement with CO-1. The effective
date of the agreement is January 1, 19XX. The term of the agreement is 3 years. The term is
automatically renewable for successive 3 year periods, unless either party provides written notice to

Form 886-A crev.4-68) Department of the Treasury - Internal Revenue Service
Page: -52-

Form 886A Department of the Treasury - Internal Revenue Service Schedule No. or Exhibit
Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

the other party of intent not to renew at least 30 days but not greater than 120 days prior to the end
of the then existing term.

Under the terms of the agreement, CO-1 agreed to produce and place advertising for ORG’s Debt
Management Program. For instance, CO-1 would meet with ORG regarding where ORG should be
advertising and would place the ads. In addition, CO-1 would supervise script and production of the

ads.

ORG shall pay a monthly fee equal to (a) the total amount expended by ORG during the prior fiscal
year for advertising; (b) multiplied by a factor of 15%; and (c) divided by 12 months. Based on the
ratio, the appraiser, CO-52, values the services at $ per month.

According to the previous agreement between ORG and CO-1 dated 12-20-19XX, CO-1 is to
produce and place advertising for ORG @$/mo.

d. Office Furniture, Fixtures and Computer Equipment
On January 1, 19XX, ORG entered into a personal property lease with CO-14 The effective date of
the agreement is January 1, 19XX. The term of the agreement is 5 years. The term is automatically
renewable for successive 3 year periods, unless either party provides written notice to the other
party of intent not to renew at least 30 days but not greater than 120 days prior to the end of the then
existing term.

Under the terms of the agreement, ORG agreed to lease all of its office furniture, fixtures and
computer equipment from HSD. In addition, ORG acknowledged that, as a result of material
additions to equipment, it underpaid its monthly rent from July 1, 19XX to December 1, 19XX as a
rate of $ per month (or $ in total).

Pursuant to the CO-52 appraiser's report, the total monthly lease payment should be $ per month.

e. Office Space
In December 19XX, ORG entered into an office space lease agreement with CO-15 The term of the
agreement is 66 months. The term is automatically renewable for 3 additional terms of 5 year
periods, unless either party provides written notice to the other party of intent not to renew at least
30 days but not greater than 120 days prior to the end of the then existing term.

ORG agreed to pay $ per year or $ per month.

The lease was amended on June 1, 20XX to increase ORG’s annual rent to $ or $ per month. In
addition to the base rent, the appraiser, CO-52, determined that an estimated charge of $ per
square foot would be assessed to cover costs to the common areas and operating expenses.

f. Benefits Program

Form 886-A rrev.4-68) Department of the Treasury - Internal Revenue Service
Page: -53-


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

. Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

On September 1, 19XX, ORG entered into an Enhancement Program agreement with CO-53 (CO-
53). The initial term of the agreement is 5 years. The term is automatically renewable for 2
successive renewal terms, unless either party provides proper notice of non-renewal to the other
party not less than 120 days prior to the end of the then existing term.

Under the agreement, CO-53 agreed to provide a package of benefits and related brochures to
ORG, which it then offered its client-members.

One of the primary benefits offered through the membership package is a $ Accidental Death and
Dismemberment (AD&D) policy. In addition to the AD&D policy, the membership package includes a
variety of helpful items and discount benefits. According to the agreement, besides the AD&D policy,
the membership package includes, but is not limited to:

Medical ill card Money for college

Q Travel and entertainment discounts a Discount long distance service
Q Movie and theme park discounts a Discount contact lenses

Q Travel rewards a Budget analysis form

Q Car rental discounts a Grocery coupons

Q Key Ring registration Q Mail order pharmacy

a Asset organizer Q Household inventory record

Q Custom trip planning Q Vision care

a Discount flowers and gifts Q Instant coupon

Q Q

Q

Auto emergency log

The fee charged to client-members is $ per new client-member set-up and $ per month for the cost
of the Enhancement Program.

g. CO-36
For the years ended June 30, 20XX, ORG has paid CO-36 approximately $. in a subsequent fiscal
year, however, ORG selected CO-36 to manage the expansion of its national call center.

h. CO-51
In selecting CO-50 to provide back office administrative support, the Committee Independent
Directors of the Board of Directors cited CO-50’s contract with CO-51, presumably as proof of CO-
50’s competence to provide such services to ORG. However, neither the Minutes of Meeting of the
Committee Independent Directors of the Board of Directors nor the Minutes of Meeting of the Board

of Directors disclosed several facts:

a CO-51 was incorporated in the State of State on January 7, 19XX.

Form 886-A rev.4-68) Department of the Treasury - Internal Revenue Service
Page: -54-


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

Name of Taxpayer Year/Period Ended

ORG June 30, 20XX

Q CO-51’s initial application for exemption submission was denied in October 19XX.

a CO-51’s second application for exemption was received by the IRS on January 18, 20XX.

a For the year ended June 19XX, CO-51 reported $ revenues.

Q For the year ended June 19XX, CO-51 reported $ in revenues.

Q For the 6 month period ended December 19XX, CO-51 reported $ in revenues.

Q PRESIDENT is a Director of CO-51.

ll!, APPLICABLE LAW

1. Exemption From Federal Income Tax
Internal Revenue Code section (IRC) 501(a) exempts from Federal income tax the income of

organizations described in IRC 501(c).

2. Requirements Applicable to Organizations Described Under IRC 501(c)(3)

Under IRC 501(c)(3), an organization qualifying for exemption from federal income tax, pursuant to
IRC 501(a), must meet the following requirements:
Q it must be organized and operated exclusively for one or more religious, charitable,

scientific, testing for public safety, literary or educational purpose, or to foster national or
international amateur sports competition, or for the prevention of cruelty to children or

animals;
its net earnings may not inure to the benefit of any private shareholder or individual;

no substantial part of its activities may be the conduct of propaganda or otherwise
attempting to influence legislation; or

Q it may not participate in, or intervene in any political campaign on behalf of or in opposition
to a candidate for public office.

3. Two Prong Test for Determining and Maintaining Exemption Status Under IRC
501(c)(3)
Treasury Regulations section (TR) 1.501(c)(3)-1(a)(1) provides that an organization must be both
organized and operated exclusively for one or more IRC 501(c)(3) exempt purpose, in order to be
exempt as an organization described in such section. If an organization fails to meet either the

organizational test or the operational test, it is not exempt.

a. Organization Test
TR 1.501(c)(3)-1(b)(1) provides that an organization is organized exclusively for one or more exempt

purposes only if its articles of organization:

Form 886-Acev.4-68) Department of the Treasury - Internal Revenue Service
Page: -55-


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

Explanation of Items
Name of Taxpayer , Year/Period Ended
ORG June 30, 20XX

limit the purposes of such organization to one or more exempt purposes; and

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.

b. Operational Test
TR 1.501(c)(3)-1(c)(1) provides that an organization must be engaged primarily in activities that
accomplish one or more exempt purpose to qualify as an organization operated exclusively for an
exempt purpose. Furthermore, an organization will not qualify for exemption if more than an
insubstantial part of its activities is not in furtherance of an exempt purpose.

4. Organizations Exempt Under IRC 501(c)(3) Must Also Serve Public Interests

TR 1.501(c)(3)-1(d)(1)(ii) provides that an organization is not organized or operated exclusively for
one or more IRC 501(c)(3) exempt purpose unless it serves a public rather than a private interest.
Thus, to meet this requirement, 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.

5. Exempt Purposes
The list of permissible exempt purposes set forth in IRC 501(c)(3) are charitable, religious,
educational, scientific, literary, testing for public safety, fostering national or international amateur
sports competition, and the prevention of cruelty to children or animals. The legal meaning of these
categories has been developed in the TR and in rulings of various types interpreting the IRC and the
TR.

a. Charitable

TR 1.501(c)(3)-1(d)(2) provides that the term charitable is used in IRC 501(c)(3) in its generally
accepted legal sense and is, therefore, not to be construed as limited by the separate enumeration
in IRC 501(c)(3) of other tax-exempt purposes which may fall within the broad outlines of charity as
developed by judicial decisions. Such term includes: Relief of the poor and distressed or of the
underprivileged; advancement of religion; advancement of education or science; erection or
maintenance of public buildings, monuments, or works; lessening of the burdens of Government;
and promotion of social welfare by organizations designed to accomplish any of the above
purposes, or (i) to lessen neighborhood tensions; (ii) to eliminate prejudice and discrimination; (iii) to
defend human and civil rights secured by law; or (iv) to combat community deterioration and juvenile

delinquency.

b. Educational

TR 1.501(c)(3)-1(d)(3)(i) provides that the term ‘educational’ as used in IRC 501(c)(3) is defined as
the instruction or training of the individual for the purpose of improving or developing his capabilities

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or the instruction of the public on subjects useful to the individual and beneficial to the community.
An organization may be educational even though it advocates a particular position or viewpoint.

6. Administrative and Judicial Rulings Pertaining to Credit Counseling Organizations
a. Revenue Rulings

(1) Revenue Ruling 65-299, 1965-2 C.B. 165
In Revenue Ruling 65-299, the IRS recognized a credit counseling organization open to the general
public as exempt under Internal Revenue Code section 501(c)(4). The organization was
incorporated as a nonprofit corporation to assist families and individuals with financial problems and
to help reduce the incidence of personal bankruptcy. The organization was recognized as exempt
under section 501(c)(4), because it:

Q did not limit its services to those in need of such assistance as proper recipients of charity;
employed specialists to interview applicants, analyze the specific problems involved, and
counsel applicants on the payment of their debts;

arranged a monthly distribution to creditors based on the debtor's ability to pay;

communicated with creditors and, with the creditors’ consent, set up plans which debtors
agreed to follow;

OQ made its facilities available for debtors to make their monthly pro rata distributions to
- creditors;

made no loans to applicants nor negotiated loans on their behalf;
charged nominal fees to cover postage and supplies for its monthly prorating services;
charged no fees for the counseling service; and

relied upon voluntary contributions from local businesses, lending agencies, and labor
unions to cover its costs of operations.

Oo o O O

(2) Revenue Ruling 69-441, 1969-2 C.B. 115
In Revenue Ruling 69-441, the IRS determined that certain credit counseling organizations might
meet the requirements of IRC 501(c)(3) because of their charitable or educational work. The
organization limited its services to low-income individuals and families with financial problems. Its
board of directors was comprised of representatives from religious organizations, civic groups, labor
unions, business groups, and educational institutions.

To qualify for exemption under Internal Revenue Code section 501(c)(3), the organization:

Q provided educational information to the general public on budgeting, buying practices, and
the sound use of consumer credit through the use of films, speakers, and publications;

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a assisted low-income individuals and families with financial problems by providing them with
individual counseling and, if necessary, by establishing budget plans;

Q serviced the budget plan by allowing the debtor to voluntarily make fixed payments through
the agency; holding the funds in a trust account and disbursing the funds on a partial
payment basis to the creditors, whose approval was obtained in advance;

Q made no loans to debtors or negotiated loans on their behalf;

charged no fees for counseling services or proration services - the debtor received full credit
against his/her debts for all amounts paid; and

Q relied upon voluntary contributions, primarily from the creditors participating in the

Ol anization's budget plans, for its support.
(3) IRC 501(c)(3) v. IRC 501(c)(4

The IRS distinguished the facts in this ruling from the facts in Revenue Ruling 65-299 that held the
organization was exempt under Internal Revenue Code section 501(c)(4):

Q The agency in Revenue Ruling 65-299 was not engaged in any educational activities.

Q The agency in Revenue Ruling 65-299 did not limit its assistance to a charitable class —
families or individuals in need of such assistance as proper recipients of charity.

b. Judicial Rulings

In Consumer Credit Counseling Service of Alabama v. United States, 78-2 U.S.T.C. 9660 (D.D.C.
1978), the court held that a credit counseling organization may be exempt from Federal income tax

even if it does not limit its clientele to low income individuals where the services provided by the
organization are educational in nature. By ruling so, the court reversed the IRS in its revocation of
the exempt status a credit counseling organization that provided credit counseling, but did not limit
their services to low-income individuals.

The Consumer Credit Counseling Service (Agency) was an umbrella organization made up of
numerous individual CO-3. It had been recognized as exempt under IRC 501(c)(3), and its activities

were as follows:

~ Q The Agency provided information to the general public through the use of speakers, films,
and publications on the subjects of budgeting, buying practices, and the sound use of
consumer credit.

Q The Agency also provided counseling on budgeting and the appropriate use of consumer
credit to debt-distressed individuals and families but did not limit these services to low-
income individuals and families.

Q The Agency charged a nominal fee of up to $10 per month for some of their services, but
waived the fee in instances where payment would work a financial hardship.

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0 The Agency received the bulk of their support from government and private foundation
grants, contributions, and assistance from labor agencies and the CO-4. An incidental
amount of their revenue was from the counseling fees. This was consistent with the fact that
only 12 percent of the professional counselors’ time was spent on debt management
programs as opposed to education. The balance of time was devoted to the educational

programs.

Q The Agency was controlled by a community board of directors. The boards were required to
have at least a 60 percent representation of the general public.

a The Agency were not controlled by or the captive of any creditor.
in 1976, relying on Revenue Rulings 65-299 and 69-441, the IRS notified the Agency that it had
made a mistake and was reclassifying them under IRC 501(c)(4). The court, however, provided that
the law does not require that an organization must perform its exempt functions solely for the benefit
of low-income individuals to qualify under IRC 501(c)(3). Organizations may be properly designated
under IRC 501(c)(3) notwithstanding the fact that the general public is served.

Nonetheless, the Agency did not charge a fee for the programs that constitute their principal
activities. A fee may be charged for a service that is an incidental part of an agency's function, but
even where a fee is so charged it is nominal. Moreover, even this nominal fee is waived where
payment would work a financial hardship.

The courts reached a similar decision in Credit Counseling Centers of Oklahoma, Inc. v. United
States, 79-2 U.S.T.C. 9468 (D.D.C. 1979), where the facts and legal analysis were found to be

virtually identical to those in Agency.

7. Other Administrative and Judicial Rulings

a. Revenue Rulings

(1) Counseling Activities Qualifying for Exemption Under IRC 501(c)(3)

Outside the context of credit counseling, individual counseling has, in a number of instances, been
held to be a tax-exempt charitable activity. Revenue Ruling 78-99, 1978-1 C.B. 152 (free individual
and group counseling of widows); Revenue Ruling 76-205, 1976-1 C.B. 154 (free counseling and
English instruction for immigrants); Revenue Ruling 73-569, 1973-2 C.B. 179 (free counseling to
pregnant women); Revenue Ruling 70-590, 1970-2 C.B. 116 (clinic to help users of mind-altering
drugs); Revenue Ruling 70-640, 1970-2 C.B. 117 (free marriage counseling); Revenue Ruling 68-
71, 1968-1 C.B. 249 (career planning education through free vocational counseling and publications
sold at a nominal charge). Overwhelmingly, the counseling activities described in these rulings were
provided free, and the organizations were supported by contributions from the public.

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(2) Private Benefit Does Not Necessarily Involve the Flow_of Funds from_an
Exempt Organization to a Private Party

Revenue Ruling 76-206, 1976-1 C.B. 154, considered an organization formed to promote
broadcasting of classical music in a particular community. The organization carried on a variety of
activities designed to stimulate public interest in the classical music programs of a for-profit radio
station, and thereby enable the station to continue broadcasting such music. The activities included
soliciting sponsors, soliciting subscriptions to the station's program guide, and distributing pamphlets
and bumper stickers encouraging people to listen to the station. The organization's board of
directors represented the community at large and did not include any representatives of the for-profit
radio station. The revenue ruling concludes that the organization's activities enable the radio station
to increase its total revenues and therefore benefit the for-profit radio station in more than an
- incidental way. Therefore, the organization is serving a private rather than a public interest and
does not qualify for exemption.

b. Judicial Rulings

(1) A Substantial Nonexempt Purpose Destroys the Exemption

In Better Business Bureau of Washington, D.C. v. United States, 326 U.S. 279 (1945), the Better —
Business Bureau (“BBB”) claimed that it qualified as a corporation organized and operated

exclusively for scientific or educational purposes, and hence it was entitled to exemption from social
security taxes under section 811(b)(8) of the Social Security Act. The Court, however, held 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.

Better Business Bureau (“BBB”) was organized in 1920 as a non-profit, non-stock corporation under
the laws of the District of Country. BBB was formed to promote ethical business practices,
educational and scientific advances, and profitability in the business community.

In carrying out its purposes, BBB divided its work roughly into five subdivisions:

(1) Prevention of fraud by informing and warning members and the general public of the plans
and schemes of various types of swindlers;

(2) Fighting fraud by bringing general and abstract fraudulent practices to the attention of the
public;
| (3) Elevation of business standards by showing and convincing merchants that the application of

“the doctrine of caveat emptor is not good business” and by showing and convincing them that
misleading advertising, extravagant claims and price comparisons are not good business;

(4) Education of consumers to be intelligent buyers; and

(5) Cooperation with various governmental agencies interested in law enforcement.

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BBB compiled information to warn its members and the general public of fraudulent schemes and
practices. The information was available to anyone without charge and was communicated to the
members and the public by means of the radio, newspapers, bulletins, meetings and interviews. By
doing so, merchants were taught to conduct their businesses honestly, while consumers were taught
to avoid being victimized and to purchase goods intelligently.

In this instance, in order to fall within the claimed exemption, an organization must be devoted to
educational purposes exclusively. This plainly means that the presence of a single noneducational
purpose, if substantial in nature, will destroy the exemption regardless of the number or importance
of truly educational purposes. It thus becomes unnecessary to determine the correctness of the
educational characterization of petitioner's operations, it being apparent beyond dispute that an
important, if not the primary, pursuit of petitioner's organization is to promote not only an ethical but
also a profitable business community. The exemption is therefore unavailable to petitioner.

The commercial hue permeating petitioner's organization is reflected in its corporate title and in the
charter provisions dedicating petitioner to the promotion of the “mutual welfare, protection and
improvement of business methods among merchants’ and others and to the securing of the
“educational and scientific advancements of business methods” so that merchants might
“successfully and profitably conduct their business.” Petitioner's activities are largely animated by
this commercial purpose. Unethical business practices and fraudulent merchandising schemes are
investigated, exposed and destroyed. Such efforts to cleanse the business system of dishonest
practices are highly commendable and may even serve incidentally to educate certain persons. But
they are directed fundamentally to ends other than that of education. Any claim that education is the
sole aim of petitioner's organization is thereby destroyed.

(2) Business purpose is the Primary Goal and Earnings inured to the Benefit of Its

President.
in Easter House v. United States, 12 Cl. Ct. 476 (1987), the court held that organization was not
entitled to declaratory relief in its action against the federal government where a portion of its
earnings inured to the benefit of its president.

Easter House operated as a for-profit corporation beginning in 1960. In 1983, it amended its articles
of incorporation to become a non-profit corporation, and it applied for tax-exempt status under IRC

501(c)(3).

The IRS denied Easter House's application, stating that Easter House operated in a manner not
"distinguishable from a commercial adoption agency." The IRS concluded that a substantial purpose
of Easter House's activity was commercial and hence that Easter House was not operated
‘exclusively for tax-exempt purposes, as required by IRC 501(c)(3). The IRS also found that Easter
House had not shown that no part of its net earnings inured to the benefit of a private individual.

Easter House's income derives entirely from the fees charged to adoptive parents; it does not solicit
contributions, it does not seek or receive funding from any governmental source, and it does not use
any volunteers to assist its paid staff of 15-20 persons.

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Seymour Kurtz is Easter House's president and its sole "life member," which gives him the power to
appoint all of the other directors. Under Easter House's bylaws, these positions vested sweeping
power in Kurtz, including the power to decide what corporate affairs will be

managed by the life member alone.

At all relevant times, Kurtz was also involved, either as the sole owner or as a director, with three
other organizations engaged in adoption-related activities. Easter House engaged in financial
transactions with each of these three entities, including an $86,681 loan to one of the organizations,
which was uncollectible because the debtor became inactive and without assets.

The Claims Court sustained the IRS’s position. The court held that Easter House was operated for
the substantial commercial purpose of earning profits from placing children for adoption. The court
also agreed that Easter House had failed to show that no part of its net earnings inured to the
benefit of a private individual. Indeed, pointing-to Kurtz's use of Easter House as a "private source
of loan credit" and to what the court found to be excessive compensation, the Claims Court
concluded that part of Easter House's net earnings "clearly inured to the benefit of Kurtz". The court
of appeals affirmed, agreeing with the Claims Court that Easter House failed to qualify as a tax-
exempt organization both because it was not operated primarily for charitable purposes and
because a substantial part of its net earnings inured to Kurtz.

The factual conclusions of both courts below that Easter House failed to qualify for IRC 501(c)(3) tax
exemption on both of these grounds were amply supported by the record. In particular, Easter
House charged adoptive parents high fees that yielded substantial profits. In 1983, Easter House
made a profit of more than $257,000 (a 25% margin), and it also generated large reserve
accumulations.

This fact, coupled with the fact that, as a general rule, Easter House's services were reserved
exclusively for women who decided to place their children with Easter House for adoption and for
adoptive parents who could afford to pay the fixed fees, strongly supported the finding that Easter
House's purpose was largely commercial, not charitable. By the same token, the inurement finding
was supported by Kurtz's use of Easter House as a source of credit for other entities that he
controlled. .

(3) Private Interests Benefiting more than Incidentally does not further an Exempt
Purpose

In International Postgraduate Medical Foundation v. Commissioner, T.C. Memo 1989-36; 1989, the
court held that an organization is not operated exclusively for one or more exempt purposes under

IRC 501(c)(3) if a substantial non-exempt purpose of an organization's operations was to provide
benefit for a for-profit tour agency.

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

Name of Taxpayer Year/Period Ended
ORG , June 30, 20XX

International Postgraduate Medical Foundation (Foundation) was founded by Michael Helin who
also is Foundation’s original chief executive officer. Since its inception, Foundation has organized,
sponsored and co-sponsored seminars and symposia in the medical field. Its stated purpose is to
provide continuing medical education to physicians.

Mr. Helin had control! of the daily operations of Foundation. Mr. Helin served as trustee without
salary or compensation in recognition of Foundation's regular use of his travel agency, H & C Tours,
to arrange the tours for Foundation's seminars.

H & C Tours is a for-profit travel agency of which Mr. Helin is a shareholder and the president.
Foundation used H & C Tours exclusively for all travel arrangements.

Foundation and H & C Tours entered into a Travel Services and Administrative Support Agreement
which allowed competitive bids for travel arrangements, but required acceptance of H & C Tours’
price if within 2.5 percent of any competitive bid. There is no evidence that Foundation solicited
competitive bids from any entity other than H & C Tours.

Foundation physically located its office within the offices of H & C Tours. H & C Tours provided
Foundation's secretarial, clerical and administrative personnel for a fee equal to H & C Tours’ cost.
Such services are only available to petitioner during "reasonable, nonconflicting business hours."

Foundation's program is to take physicians on tours throughout the world, each lasting about three
weeks. Continuing medical education seminars are provided during the tours.

Fondation's brochures emphasize the sightseeing and recreational component of the tours. The
brochures do not describe the medical curriculum for the seminars and symposia. Mention of
medical education in the brochures is limited to a statement that participation qualifies for American
Medical Association Category One Credit.

Educational activities occurred on less than one-half of the days on a typical tour. An average of 4-
1/2 hours were devoted to educational activities on such days.

The IRS alleged that Foundation's operations include two substantial nonexempt purposes: (1)
benefit for H & C Tours and Helin; and (2) sightseeing and recreation activities.

The court held that Foundation is not operated exclusively in furtherance of purposes described in
IRC 501(c)(3), because a substantial purpose of Foundation's operations was to increase the

income of H & C Tours:

a H &C Tours benefits from the distribution and production of brochures which solicit
customers for tours arranged by H & C Tours.

Q Approximately 90 percent of petitioner's total revenue for 1977 was expended on production
and distribution of brochures.

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Q The terms of the Travel Services and Administrative Support Agreement further insured that
H & C Tours would substantially benefit from Foundation's operations.

Foundation did not solicit competitive bids from any travel agency other than H & C Tours.

In 1977, H & C received $ 339,667 in gross revenue for air fares and land arrangements as
a direct result of Foundation's tours.

Q Mr. Helin controlled petitioner and exercised that control for the benefit of H & C Tours.

Foundation spent about 90 percent of its total revenue for 1977 on production and
distribution of brochures. The brochures provided a direct benefit to H & C Tours in the form

_ of air and land travel billings.
The court further held that Foundation did not provide a bona fide medical education program:

Q Foundation's brochures heavily emphasize the recreational sightseeing activities of the
tours.

0 Continuing medical education course descriptions are not included in Foundation's
brochures.

a Foundation has not established that the recreational sightseeing activities were insubstantial
or only incidental to petitioner's educational purposes.

(4) Prohibited private interests include those of unrelated third parties as well as
insiders
in Christian Stewardship Assistance, Inc., v. Commissioner, 70 T.C. 1037; 1978, the court held that
an organization’s tax planning services are a nonexempt activity that is substantial in nature and not
incidental to its charitable purpose. Therefore, CSA fails to qualify for exemption from taxation.

Christian Stewardship Assistance, Inc. (“CSA”) was formed as a nonstock corporation to support
and assist charitable organizations as they fulfill their exempt charitable activities by assisting such
organizations in their relationships with their contributors and in stimulating proper application of
Christian stewardship principles among their contributors.

In furtherance of these purposes, CSA engaged in financial counseling by providing a financial
planning service to wealthy individuals who have contributed to various Christian organizations and
whose net worth exceeded one-half million dollars.

The counseling given by CSA consists of advice on how to increase a contributor's current or
deferred donations to Christian organizations. CSA prepared a financial plan for a contributor that
takes into account his personal goals and the applicable tax savings. The financial plan is
developed to permit increased current or deferred donations by rearranging the inter vivos or
testamentary disposition of the individual’s assets to family members. The rearrangement also
results in a reduction of Federal income and estate taxes. Tax and cost estimates comparing

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results under present and suggested financial plans are prepared by CSA with accompanying charts
illustrating the effects of the suggested plan on family and Christian interests. CSA also assists the
individual’s attorney in implementing the financial plan chosen by the individual.

To reimburse its costs of operation, CSA charged a fee to each subscribing organization based
upon a percentage of its developmental budget. Support is also received in the form of voluntary
donations from individuals whom it assists. Individuals who are assisted are neither billed for, nor
informed of, the costs of the. counseling they receive.

In 1977, the IRS issued a final notice of determination, affirming a prior adverse determination,
which denied exemption under IRC 501(c)(3). The IRS determined that the described activities,
although helpful to charitable organizations, are not exclusively for charitable purposes, but rather
serve private interests by advising individuals about methods to decrease Federal income and
estate taxes.

CSA, on the other hand, contends that its founders have not benefited monetarily and its clients
have not benefited economically from the services offered by its organization; rather, it is the
charitable organizations to which gifts are made which receive the greatest economic benefit from

CSA's work.

The court held that CSA failed to qualify for exemption under the operational test because its
organization was not operated exclusively for charitable purposes. Its sole financial planning
activity, albeit an exempt purpose furthering Christian fundraising efforts, has a nonexempt purpose
of offering advice to individuals on tax matters that reduces an individual's personal and estate tax
liabilities. Based upon those private benefits offered, we find the nonexempt purpose to be greater

than the exempt purpose.

(5) An Educational Corporation Was Not Exempt Because Its Income-
Producing Activities Were Not Incidental to Its Educational Activities
In est of Hawaii v. Commissioner, 71. T.C. 1067 (1979), affd in unpublished opinion, 647 F.2d 170
(9th Cir. 1981), the tax court found that for-profit “est” entities were able to use est of Hawaii, a non-
profit organization, as an instrument to further their for-profit purposes even though the for-profits
lacked structural control over the nonprofit, due to the significant indirect control exerted by the for-

profits.

est of Hawaii (Hawaii) is a corporation which was organized as a nonprofit corporation. "est" stands
for "Erhard Seminars Training" and encompasses the general theory, the body of knowledge, and
the method and techniques which are used in "est" programs and were developed by Werner

Erhard.

The "est" programs deal with the areas of intrapersonal awareness and communication. The
standard "est" training is a 52-hour session held on 2 consecutive weekends with groups of 200 to
250 people. These sessions are conducted by persons who are called "trainers." Graduates of the
standard training participate in regular activities called “seminars.”

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Activities related to "est" are conducted by several corporations, including three for-profit
corporations, Erhard Seminars Training (EST, Inc.), Presentaciones Musicales, S.A. (PMSA), and
EST International (International). The three entities entered into a royalty agreement with the sole
objective of establishing a system for the presentation of “est” to the public through the organization
of tax-exempt corporations covering different geographical areas throughout the United States.

Hawaii was incorporated by "est" graduates as the first step in the implementation of the royalty
agreement. Their objective is to develop and expand the principles and concepts of "est." They
intend to provide "est" training and seminars, to develop, promote, and sell "est" publications, ,
engage in "est" educational work, provide “est” lectures, and generally engage in related
educational efforts in the State of Hawaii. .

Membership in Hawaii is limited to graduates of the training designated "Erhard Seminars Training.”
in order to retain membership status, an individual must vote in the election of the directors of the
corporation at least once in the first 3 years and once in every successive group of three elections.
To be eligible for election to the board of directors, an individual must be a resident of Hawaii and a
graduate of "Erhard Seminars Training." Directors and officers receive no compensation for their

services.

Hawaii entered into an agreement with International which incorporated the royalty agreement. The
licensing agreement provided, in pertinent part, as follows:

a The agreement shall license Hawaii for the period August 15, 1973, to December 31, 1974,
inclusive. The license shall continue on an annual basis without the necessity for renewal

until August 8, 1983.
Hawaii shall use all EST materials under the direction of an EST trainer.

Hawaii shall conduct EST trainings, seminars and lectures and generally to promote EST
concepts in accordance with EST principles.

Hawaii shall charge not less than $ 200.00 as tuition for any EST training.

One half of all of the gross proceeds of any EST event or activity other than regular monthly
seminar series conducted by Hawaii shall be paid to International.

Hawaii shall conduct regular EST seminars.

Hawaii shall sponsor and host special events and special appearances of Werner Erhard
and other EST trainers and speakers, with prior notice and prior discussion.

a EST, Inc. shall supply a trainer to Hawaii to carry out management responsibilities for a
period not to exceed twenty four months from August 15, 1973.

EST, Inc., shall supply Hawaii management and training.

Hawaii shall pay to International 50% of the gross receipts collected by Hawaii for EST
training courses.

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Hawaii expects to derive all its assets from student fees, lecture admissions, and occasional
donations. Hawaii does not intend to utilize fund-raising programs.

Hawaii claims that it has no connection, direct or indirect, with EST, Inc., or International and that its
transactions with International are reasonable and represent the fair market value of the rights and
services it receives in return. On this premise, Hawaii argues that it has no commercial purpose of
its own, that its payments to International are analogous to ordinary and necessary business
expenses, and that the fact that International may make a profit is not a ground for denying Hawaii

tax-exempt status.

The IRS, on the other hand, claims that Hawaii is part of a franchise system which is operated for
private benefit and that its affiliation with this system taints it with a substantial commercial purpose.

The court agreed stating that while it may be true that they are not formally controlled by the same
individuals, International exerts considerable control over Hawaii's activities:
It sets the tuition for the standard training and requires a minimum number of such trainings.
It requires Hawaii to conduct regular seminars and to host special events.

It controls the programs conducted by Hawaii by providing trainers who are salaried by and
responsible to EST, Inc.

Q It further controls Hawaii's operations by providing management personnel who are paid by

and responsible to EST, Inc.

In short, the court provided that Hawaii's only function is to present to the public for a fee ideas that
are owned by International with materials and trainers that are supplied and controlled by EST, Inc.
Under these circumstances, the court stated that it can hardly be said that Hawaii has made
payments to a corporation with which it had no connection whatsoever.

Regardless of whether the payments made by Hawaii to International were excessive, the court held
that International and EST, Inc. benefited substantially from the operation of Hawaii. For instance,

OQ Pursuant to the licensing agreement, International was in a position to license Hawaii for a
maximum of 10 years.

a Upon termination, all copyrighted material, including new material, is required to be
transferred to EST, Inc., or International.

0 Hawaii is required to use its excess funds for the development of "est" or related educational
and scientific research.

a Although Hawaii would be reimbursed at cost for all new developments, it has no right to the
continued use of such developments.

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Page: -67-


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

Explanation of Items
Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

To the extent that Hawaii's activities increase interest and participation in "est" and to the extent
Hawaii further develops "est," the ultimate beneficiaries are EST, Inc., International, and PMSA, the
corporations in which the rights to “est" remain. Other factors indicate that Hawaii is operated for

commercial purposes include:

Q Trainers and local organizations are required to sign an agreement not to compete with "est"
for 2 years after terminating their relationship with "est" organizations.

Q Hawaii does not expect to derive funds from donations, as is typical of IRC 501(c)(3)
organizations, but rather will depend upon tuition and lecture fees.

Q_ Tuition for the standard training is set by a for-profit corporation and fees for lectures are set,
not with regard to recouping costs, but with regard to the eminence of the speaker.

Accordingly, the court held that Hawaii is not operated exclusively for exempt purposes.
IV. GOVERNMENT POSITION

1. Conclusion
In applying the principles described above to ORG’s exemption, we must ask the following related
questions:

Q Does ORG further a nonexempt purpose in contravention of IRC 501(c)(3)?

Q If so, is the nonexempt purpose substantial?

After a long and careful review of the records, we hold that ORG is not entitled to exemption under
IRC 501(c)(3), for the reasons as follows:

a ORG is engaged primarily in activities that accomplish a nonexempt purpose in
contravention of IRC 501(c)(3) and IRC 170(c)(2)(B);

Q More than an insubstantial part of such activities are in furtherance of a non-exempt purpose
~ in contravention of IRC 501(c)(3) and IRC 170(c)(2)(B);

Q Part of ORG’s net earnings inured to the benefit of any private shareholder or individual in
contravention of IRC 501(c)(3) and IRC 170(c)(2)(B); and

Q ORG is operated for the purpose of serving private rather than public interests in
contravention of IRC 501(c)(3) and IRC 170(c)(2)(B).

| 2. Criteria for Tax Exemption under IRC 501(c)(3)

Under IRC 501(a), an organization is exempt from federal income tax only if it falls within one of the
specific classes that are described in IRC 501(c). Public charities and private foundations, which

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

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

Explanation of Items
Name of Taxpayer , Year/Period Ended
ORG June 30, 20XX

comprise the best-known class, are conferred exemption under IRC 501(c)(3). Organizations
qualifying for exemption under IRC 501(c)(3) must meet the following requirements:

a it must be organized and operated exclusively for one or more religious, charitable,
scientific, testing for public safety, literary or educational purpose, or to foster national or
international amateur sports competition, or for the prevention of cruelty to children or
animals;

its net earnings may not inure to the benefit of any private shareholder or individual;

no substantial part of its activities may be the conduct of propaganda or otherwise
attempting to influence legislation; or

Q it may not participate in, or intervene in any political campaign on behalf of or in opposition
to a candidate for public office.

An organization's failure to satisfy any of the four requirements is fatal to its qualification under IRC
501(c)(3). See Levy Family Tribe Foundation v. Commissioner, 69 T.C. 615, 618 (1978). In addition
to satisfying each condition specified in IRC 501(c)(3), the exempt organization must also establish
that its purpose is not contrary to public policy. See Bob Jones University v. United States, 461 U.S.
574, 591-593 (1983).

3. Application of the Organizational and Operational Tests
The starting point for our analysis is IRC 501(c)(3) and the Regulations thereunder. In order to
qualify under IRC 501(c)(3), NHF must pass a dual test, which is referred to as an organizational
and operational test, pursuant to TR 1.501(c)(3)-1(a)(1). Under the dual tests, an organization must
be both organized and operated exclusively for one or more exempt purpose as defined in IRC
501(c)(3). If an organization fails to meet either the organizational test or the operational test, it is
not exempt.

a. Organizational Test
Under the organizational test, an organization is organized exclusively for exempt purposes only if
the articles of organization are so drawn that it: (1) limits the purposes of the organization to one or
more exempt purpose; and (2) does 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. See TR 1.501(c)(3)-1(b)(1).

The organizational test relates to the rules for governing an organization and the purposes stated in
its articles of incorporation. ORG is organized exclusively for charitable and educational purposes as
described in IRC 501(c)(3). Henceforth, we do not question ORG’s qualification for exemption under
the organizational test.

b. Operational Test

Form 886-A cev.4-68) Department of the Treasury - Internal Revenue Service
Page: -69-


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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

In contrast, under TR 1.501(c)(3)-1(c)(1), the operational test provides that an organization will be
regarded as “operated exclusively” for one or more exempt purposes only if it engages primarily in
activities that accomplish one or more of such exempt purposes specified in IRC 501(c)(3).

According to the courts, the operational test focuses on the purpose towards which an
organization’s activities are directed, and not the nature of the activities themselves. In other
words, the purpose of the activity is ultimately determinative of the organization’s right to be
classified as an IRC 501(c)(3) organization. See B.S.W. Group, Inc. v. Commissioner, 70 T.C.
352, 356-357 (1978). Thus, the question herein is whether ORG is operated exclusively for

charitable and educational purposes.

4. ORG’s Exempt Purpose and Activities that Further Its Exempt Purpose

Pursuant to Regs 1.501(c)(3)-1(c)(1), ORG contends that its purposes are exclusively charitable and
educational. In furtherance of such purposes, ORG operates an inbound telemarketing call center
which provides assistance to individuals who are experiencing financial and debt-related difficulties.
For example, ORG claims it provides debt consolidation services (i.e., debt management program);
counseling on credit and budget matters; and newsletters on financial related issues.

5. ORG is Engaged Primarily in Activities That Accomplish A Nonexempt Purpose.

During the year under examination and the five-year period ending in fiscal year June 30, 20XX,
ORG's primary activity was the operation of an inbound telemarketing call center, where calls
originate with the respondents (callers). Such calls were made in response to a marketing offer
directed via print, radio, TV or other media sources. The callers generally contact the call center by
phone to ask for help.

in this case, the purpose for which the call center was operated and the marketing offers were
geared is to enroll consumers in ORG’s debt management program. Under the debt management
program, ORG’s credit counselors determine whether callers qualify for enrollment in the debt
management program by simply determining whether callers have a net cash flow after expenses. If
qualified, a consumer need only return the application signed.

Once in the program, the consumer is called a client (or a member). Under the agreement, the client
deposit money each month with ORG, which then uses these deposits to pay the client’s credit card
bills, student loans, medical bills, or other unsecured debts according to a payment schedule ORG
has worked out with the client and the client's creditors. Creditors may agree to lower interest rates
or waive certain fees if the client is repaying through a debt management program.

Any consumer may enroll in the debt management program, without regard to financial status.
The purpose of ORG's activities differs substantially from those of the organizations cited in

Revenue Ruling 65-299, Revenue Ruling 69-441, and CO-2 of State. Although ORG has engaged in
educational activities (e.g., disseminating self-help booklets to the general public and two

Form 886-Acrev.4-68) Department of the Treasury - Internal Revenue Service
Page: -70-


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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

newsletters to its clients), such activities are incidental. As shown below, ORG derived nearly all of
its revenue from the debt management program, which also encompasses nearly all of ORG’s
program services expenditures. It’s clear that the primary focus of the call center is to enroll
consumers in the debt management program.

Form 990 — Sources of Revenues

. 30-Jun 30-Jun 30-Jun 30-Jun 30-Jun
Revenue 19XX 20XX 20XX 20XX 20XX

Fair share income
Debt management fees
Interest on savings

Dividends and interest

Total Revenue
Fair Share and Debt Management as
a % of Total Revenue
Program Service Expenses per Form 990

31-Dec 30-Jun 30-Jun 30-Jun  —»--30-Jun 30-Jun
Description 19XX 19XX 19XX 20XX 20XX 20XX
Debt Management Program
(DMP)

Education Program
Total

DMP as a % of Total Program
Service Expense

For ORG’s exemption to remain intact, its debt management program must be shown to further an
exempt purpose. In determining whether credit counselors have provided counseling within the
meaning of the Revenue Rulings cited above, we examined the training materials ORG provided to
its new credit counselors. Other than vague references to “educating” or “counseling” the caller, we
found nothing of substance. For instance, the initial interview training script, counselor protocols and

Form 886-Acev.4-68) Department of the Treasury - Internal Revenue Service
Page: -71-

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

Explanation of Items

Name of Taxpayer Year/Period Ended

ORG June 30, 20XX

training manual are each oriented to enrolling consumers in the debt management program. Other
factors we’ve uncovered include:

Q

Even though counselors receive Form W-2, they are paid on a draw plus commission basis;
The payment of bonuses are based on the number of debt payments received by ORG;

Several counselors whom we've interviewed have stated that their job was to enroll
consumers in the debt management program and that ORG did not train counselors how to
provide counseling services;

If education were provided to callers, it was as a result of the counselors own education and
experience;

The Software program is used by credit counselors solely to determine whether callers
qualify for the debt management program in accordance with the program’s design;

The Software program also tracks counselor productivity and measures counselor
performance;

The CO-52 Business Valuation Report and the Minutes of Meeting of the Board of Directors
refer to counselors as “salesman.”

ORG’s marketing efforts, including the issuance of “consumer awareness” articles and
media releases, are-an effort by ORG to increase its commercial success.

Because the debt management program constitutes the call centers primary activity, we find the
principal purpose behind such program to be commercial in nature.

More Than an Insubstantial Part of Such Activities Further a Non-Exempt Purpose

In Better Business Bureau v. United States, the Supreme Court provided an exemption for
corporations organized and operated exclusively for educational purposes, said:

in order to fall within the claimed exemption, an organization must be devoted to
educational purposes exclusively. This plainly means that the presence of a single non-
educational purpose, if substantial in nature, will destroy the exemption regardless of
the number or importance of truely educational purposes. * * * [326 U.S. at 283.]

This philosophy, in somewhat modified form, has been promulgated in TR 1.501(c)(3)-1(c)(1), which
provides:

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.

Form 886-A crev.4-68) Department of the Treasury - Internal Revenue Service

Page: -72-


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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

The quotation from Better Business Bureau above relates to "purpose" while the TR quoted above
deals more with “activities.” Under the rationale of Better Business Bureau the existence of a
substantial nonexempt purpose for a corporation's organization and existence would appear to
defeat the exemption. But under the regulation, even if there was no nonexempt purpose for the
organization and existence of the entity, it must actually engage primarily in activities which
accomplish one of the exempt purposes, and if more than an insubstantial part of its activities do not
further such exempt purpose, the entity is not exempt.

Having decided that ORG's primary activity was the operation of an inbound telemarketing call
center and that the purpose for which such activity was conducted was to enroll consumers in the
debt management program, a nonexempt, commercial purpose, we must then determine whether
such nonexempt purpose was substantial.

ORG does not receive charitable contributions from the general public. Nor does it receive grants
from governmental institutions and private foundations. Its primary source of revenue is fair share
income and debt management fees. For the five-year period ending in June 30, 20XX,
approximately 99 percent of ORG'’s revenues are derived from fair share income and debt
management fees. As a result, we found the nonexempt, commercial purpose to be substantial.

7. Part of ORG’s Net Earnings Inured to the Benefit of PRESIDENT
Pursuant to IRC 501(c)(3), an organization does not qualify for tax exempt status if any of its net
earnings inures to the benefit of any private shareholder or individual. The inurement prohibition
provision "is designed to prevent the siphoning of charitable receipts to insiders of the charity. .. ."
United Cancer Council v. Commissioner, 165 F.3d 1173 (7th Cir. 19XX).

In TR 1.501(c)(3)-1(d)(1)(ii), an organization is not organized and operated exclusively for IRC
501(c)(3) purposes if it serves a private rather than public interest.

TR 1.501(c)(3)-1(c)(2)(c) provides that the phrase "private shareholder or individual" refers to
persons having a personal and private interest in the activities of the organization.

In Easter House, the court held that a substantial purpose of Easter House’s activity was
commercial and that earnings inured to the benefit of the president who used Easter House as a
source of credit for other entities that he controlled.

For all intents and purposes, ORG is a shell organization operated as a conduit through which
charitable assets are diverted to six for-profit entities owned and controlled by PRESIDENT, the
founder of ORG. The factors that indicate ORG’s shell status are as follows:

Q Thin capitalization per balance sheet. ORG’s assets are siphoned off to six for-profit
entities via related party transactions.

Form 886-A ceev.4-68) Department of the Treasury - Internal Revenue Service
Page: -73-


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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

OQ Absence of corporate assets. ORG leases all of its furniture, fixtures and equipment from
CO-14 and its office space from CO-15

a Minutes of meeting of the board of directors. Other than the related party transactions,
the minutes do not discuss the business and affairs of ORG;

OQ The use of the same office or business location. Five of the six related entities share the
same office location. . ,

-_Q The treatment by afi individual of the corporate assets as his own. PRESIDENT and
Vice President both received substantial reimbursement of personal credit card expenditures
which ORG could not provide documentation substantiating the nature of the expenditures.

a The identification off ,as having dominion and control over ORG and the.
related for-profit entities. PRESIDENT is the founder, president and chairman of ORG,
and either the sole owner or principal owner of the related, for-profit entities.

Q Concealment of the identity of CO-50. Clients do not know that when they contact the
Customer Service department or another back office administrative department, they are

contacting another organization.

Q Commingling of assets. The credit card reimbursements included the purchase of office
supplies. Since documentation is not available, it is not known which entity benefited from
the transaction.

In this case, ORG's income-producing commercial activities are the very justification: for its —
existence. ORG was simply the instrument to subsidize the related for-profit entities and not vice
versa and had no life independent of those related for-profit entities. See est of Hawaii and
International Postgraduate Medical Foundation.

Moreover, the related for-profit entities all are dependent on the existence of ORG’s tax-exempt
status - an element that indicates the possibility, if not likelihood, that the for-profit corporations
were trading on such status. See and compare Berenson v. Commissioner, 507 F.2d 262, 268-269
(2d Cir. 1974), revg. in part on other grounds 59 T.C. 412 (1972). See also Commissioner v. Brown,
380 U.S. 563 (1965), Judge Harlan concurring, at 579-580, and Judge Goldberg dissenting, at 580.

As was the case with Christian Stewardship Assistance and est of Hawaii, the prohibited private
interests also includes those of unrelated third parties. The debt management program was not
limited to a charitable class and ORG did not have an established policy or procedure to waive or
reduce the fees for the indigents or to waive the fees for those to whom such fees would create
financial hardship. Consequently, the debt management program did not serve a charitable
purpose. See also Old Dominion Box Co., Inc., v. United States, 477 F.2d 340 (4th Cir. 1973), cert.
denied, 413 U.S. 910 (1973), where the court held that an organization operating for the benefit of
private parties who are not members of a charitable class constitutes such a substantial nonexempt

purpose.

’ Form 886-A ev.4-68) Department of the Treasury - Internal Revenue Service
Page: -74-


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

Name of Taxpayer Year/Period Ended
ORG June 30, 20XX

V. CONCLUSION

ORG is not operated exclusively for educational or for any other exempt purposes within the
meaning of IRC 501(c)(3) since its primary activity is the sale of debt management plans. ORG
conducted incidental educational activities within the community, provided no educational training or
counseling to consumers on credit or debt management issues, and did not provide education in the
context of sales of its debt management plans. The debt management program was not limited to a
charitable class and ORG did not have an established policy or procedure to waive or reduce the
fees for the indigents or to waive the fees for those to whom such fees would create financial
hardship. Consequently, the debt management program did not serve a charitable purpose. Since
the primary activity of ORG was the sale of debt management plans which lacked substantial
educational or charitable aspects, its exemption under IRC 501(c)(3) should be revoked effective
July 1, 20XX.

Form 886-A mev.4-68) Department of the Treasury - Internal Revenue Service
Page: -75-

Flow of Cash to President
Exhibit 1

Debt Payments Payment to
from Consumers Creditors/Fair
to ORG Share Payments
to ORG

|
Entities

/ controlled by
PRESIDENT

7 __—]
ORG, Inc. (“ORG”)
IRC 501(c)(3)

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CO-1 CO-2 Co-3
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CO-7
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ORG PRESIDENT
Form 990 Form 1040
LEGEND
ORG - Organization name XX - Date President - president CO-1 through CO-8 -

18t through 8* COMPANIES

Flowchart Notes:

A. After qualifying and enrolling in the Debt Management Program, consumers consolidate their
monthly debt payments into one debt payment to ORG who receives an initial fee and monthly fees

thereafter.
B. Twice per month, ORG distributes debt payments to creditors on behalf of their clients.

C. Creditors pay fair share income to ORG.


D. Payments to related entities:

Exhibit 1

-Flow- of Cash to President

Related Entities: Description of Services: EIN: Address: Payment:
CcO-1. Back Office Processing Services ADDRESS
CITY, STATE
CO-2. Software Lease ADDRESS
CITY, STATE
COo-3 Client Benefits, e.g., coupons ADDRESS
CITY, STATE
CO-4. Advertising Consulting Services ADDRESS
CITY, STATE
co-5 ADDRESS
; CITY, STATE
CO-6. Office Equipment Rental ADDRESS
CITY, STATE

a. Payments provided by ORG but not reported in the general ledger.

E. Per its 20XX06 Form 990, ORG generates the following revenues from its Debt Management Plan:

Revenue:

Total

Program Service Revenue (or Fair Share Income):

Membership Fees:

Revenue from Fair Share and Membership Fees

F. Per BRTVU research, the following amounts were distributed to President from his related entities:

Related Entities Entity Type 31-Dec-XX 31-Dec-XX 21-Dec-XX
CO-1. S-Corporation
CO-2. S-Corporation
Limited Liability
Cco-3 Company
CO-4. S-Corporation
co-5 Limited Partnership
CO-6. S-Corporation
Note:

Based on IDRS research, we Determined that CO-8 is a non-filer. it's parent, CO-7, also is a non-filer.

G. Per Form W-2, President received the fol

20XX and 20Xx:

Name

Tax Form

31-Dec-XX

31-Dec-XX

lowing amounts as salary from ORG for calendar years

21-Dec-XX

President

Form 1040


THE LIFE CYCLE OF AN ACCOUNT
Exhibit 2

THE GENERAL PUBLIC
ORG advertises their services by using a number of
different mediums, including TV and radio ads,
printed ads, internet and referrals from clients,
banks, and strategic partners.

ORG, IRC 501(c)(3)
INBOUND TELEMARKETING CALL CENTER
Lead information is taken from the general public
by ORG counseling staff, which handles incoming
calls, walk-ins and internet applications.

CO-1 For-profit related entity

BACK OFFICE SERVICE PROVIDER

Processing Department: After the client’s application is received, an account is set up. The
client is advised of the plan’s terms and the proposal is sent to the client’s creditors.

Customer Service Department: The objective of this department is account retention. It
provides three services: (1) Client Services; (2) Account Analyst; and (3) Collections. Client
Services answers incoming calls from clients and creditors, handling inquiries, account
maintenance, referring client research issues to other functions, updating proposals and
statements. Account Analyst researches and solves problems. It also attends to client faxes, e-
mails, and statements, but its emphasis is on creditor relations. Collections contacts clients to
ensure their continued compliance with the terms of their debt management plan agreement.

Payoff Department: Contact creditors to confirm the payoff amount owed and follow through
with the disbursal of the payoff amount. After the client’s last disbursal, this department mails
completion material to the client.