IRS approves employee-child scholarship procedures

Plain-English summary

A private foundation proposed six one-time college scholarships for children of its employees and subsidiaries' employees. An independent organization would select recipients through a national academic competition, confirm college enrollment, pay awards through each school's financial aid office, and supervise use of the funds. Selection would not depend on financial circumstances or employment-related factors, and the scholarships would not be used to recruit employees or end if a parent left employment. The program also represented that it would comply with the percentage limits and other safeguards in Rev. Proc. 76-47. The IRS approved the procedures under IRC § 4945(g)(1), making compliant expenditures nontaxable to the foundation and qualified tuition awards nontaxable to recipients under IRC § 117.

Ruling snapshot

• Question: Do the foundation's procedures for scholarships to employees' children satisfy the advance-approval rules?
• Outcome: Approved, while the program follows the proposed procedures and applicable percentage tests
• Key authorities: IRC §§ 117, 170(b)(1)(A)(ii), and 4945(g)(1); Rev. Procs. 76-47 and 85-51

Full text (IRS public release)

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

Release Number: 201629011
Release Date: 7/15/2016                           Employer Identification Number:
Date: April 21, 2016

                                                  Contact person - ID number:

                                                  Contact telephone number:

LEGEND                                           UIL: 4945.04-04

T = Organization
V = Test
W = Scholarship Program
X = Test
Y = Organization
z dollars = Amount

Dear                 :

You asked for advance approval of your employer-related scholarship grant procedures
under Internal Revenue Code section 4945(g). This approval is required because you are
a private foundation that is exempt from federal income tax. You requested approval of
your scholarship program to fund the education of certain qualifying students.

Our determination

We approved your procedures for awarding employer-related scholarships. Based on the
information you submitted, and assuming you will conduct your program as proposed, we
determined that your procedures for awarding employer-related scholarships meet the
requirements of Code section 4945(g)(1). As a result, expenditures you make under
these procedures won’t be taxable.

Also, awards made under these procedures are scholarship or fellowship grants and are
not taxable to the recipients if they use them for qualified tuition and related expenses
(subject to the limitations provided in Code section 117(b)).

Description of your request

Your letter indicates you will operate an employer-related scholarship program called W.
The purpose of W is to implement a scholarship program for children of employees of T
through Y’s Merit Special scholarship program.

You will enter into an agreement with Y to sponsor six one-time college scholarships for
children of regular, full-time employees of you or your subsidiaries. The scholarships will

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be nonrenewable awards in the amount of z dollars. Interested students should enter the
nationwide scholarship competition by taking a test called the V. The students who score
within the top one-half of one percent on a state-by-state basis are semifinalists and they
can advance to finalist level by confirming their scores on a second test, the X. The
students must also submit an entry form including a high school record provided by high
school officials showing strong academic performance, a personal essay, extra-curricular
accomplishments, and a recommendation from their high school principal or a school
official designated by the principal.

Recipients will be selected by an independent selection committee of Y from the children
of employees who attain the finalist level. Recipients will be chosen on a competitive
basis and without regard to family financial circumstances, gender, race, ethnic origin, or
religious preference. Recipients will be selected based on an evaluation of high school
academic record, significant activities and contributions to the school and community, test
scores, the school’s recommendation of the candidate, and the student’s essay about
personal characteristics, activities, plans, and goals.

The scholarship selection procedures state that the scholarships comply with the facts
and circumstances test under Section 4 of Rev. Proc. 76-47 because the probability of
attaining finalist level and being eligible for a scholarship is extremely low, Y will select
additional scholarship recipients if the number of children who qualify as finalists is less
than the number of scholarships you are sponsoring. The special scholarship recipients
will be selected from high performing students below the finalist level and the number of
special scholarship recipients is limited to not more than 25% of the eligible applicants in
accordance with section 4.08 of Rev. Proc. 76-47.

For all scholarship recipients, Y confirms the enrollment of recipients at a college or
university in the United States that holds accredited status with a regional accrediting
commission on higher education, makes payment of the scholarship award through the
financial aid office of the educational institution, and supervises and investigates the use
of the scholarships by the recipients in their educational programs. Scholarship funds
should only be used to pay educational costs at an institution that meet the requirements
of section 170(b)(1)(A)(ii) of the Code. Recipients must attend college during the day,
enroll in a course of study leading to one of the traditional baccalaureate degrees, and
remain in good academic and disciplinary standing.

You will not use the scholarships as a means of inducement or to recruit employees. A
student’s eligibility will not by conditioned on any employment related factors such as a
parent’s position, service, or duties and the prior employment period for establishing
eligibility will not exceed three years. You determine a student’s eligibility at the time the
scholarship is offered and Y will not offer any student a scholarship without your
confirmation of eligibility. A scholarship will not be terminated if a student’s parent or
relative subsequently terminates employment.

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Basis for our determination

The law imposes certain excise taxes on the taxable expenditures of private foundations
(Code section 4945). A taxable expenditure is any amount a private foundation pays as a
grant to an individual for travel, study, or other similar purposes. However, a grant that
meets all of the following requirements of Code section 4945(g) is not a taxable
expenditure.

• The foundation awards the grant on an objective and nondiscriminatory basis.

• The IRS approves in advance the procedure for awarding the grant.

• The grant is a scholarship or fellowship subject to Code section 117(a).

• The grant is to be used for study at an educational organization described in Code
  section 170(b)(1)(A)(ii).

Revenue Procedure 76-47, 1976-2 C.B. 670, provides guidelines to determine whether
grants a private foundation makes under an employer-related program to employees or
children of employees are scholarship or fellowship grants subject to the provisions of
Code section 117(a). If the program satisfies the seven conditions in sections 4.01
through 4.07 of Revenue Procedure 76-47 and meets the applicable percentage tests
described in section 4.08 of Revenue Procedure 76-47, we will assume the grants are
subject to the provisions of Code section 117(a).

You represented that your grant program will meet the requirements of either the 25
percent or 10 percent percentage test in Revenue Procedure 76-47. These tests require
that:

• The number of grants awarded to employees’ children in any year won’t exceed 25
  percent of the number of employees’ children who were eligible for grants, were
  applicants for grants, and were considered by the selection committee for grants,
  or

• The number of grants awarded to employees’ children in any year won’t exceed 10
  percent of the number of employees’ children who were eligible for grants
  (whether or not they submitted an application), or

• The number of grants awarded to employees in any year won’t exceed 10 percent
  of the number of employees who were eligible for grants, were applicants for
  grants, and were considered by the selection committee for grants.

You further represented that you will include only children who meet the eligibility
standards described in Revenue Procedure 85-51, 1985-2 C.B. 717, when applying the
10 percent test applicable to employees’ children.

In determining how many employee children are eligible for a scholarship under the 10
percent test, a private foundation may include only those children who submit a written
statement or who meet the foundation’s eligibility requirements. They must also satisfy
certain enrollment conditions.

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You represented that your procedures for awarding grants under this program will meet
the requirements of Revenue Procedure 76-47. In particular:

• An independent selection committee whose members are separate from you, your
  creator, and the employer will select individual grant recipients.

• You will not use grants to recruit employees nor will you end a grant if the
  employee leaves the employer.

• You will not limit the recipient to a course of study that would particularly benefit
  you or the employer.

Other conditions that apply to this determination:

• This determination only covers the grant program described above. This approval
  will apply to succeeding grant programs only if their standards and procedures
  don’t differ significantly from those described in your original request.

• This determination is in effect as long as your procedures comply with sections
  4.01 through 4.07 of Revenue Procedure 76-47 and with either of the percentage
  tests of section 4.08. If you establish another program covering the same
  individuals, that program must also meet the percentage test.

• This determination applies only to you. It may not be cited as a precedent.

• You cannot rely on the conclusions in this letter if the facts you provided have
  changed substantially. You must report any significant changes to your program to
  the Cincinnati Office of Exempt Organizations at::

                Internal Revenue Service
                Exempt Organizations Determinations
                P.O. Box 2508
                Cincinnati, OH 45201

• You cannot award grants to your creators, officers, directors, trustees, foundation
  managers, or members of selection committees or their relatives.

• All funds distributed to individuals must be made on a charitable basis and further
  the purposes of your organization. You cannot award grants for a purpose that is
  inconsistent with Code section 170(c)(2)(B).

• You should keep adequate records and case histories so that you can substantiate
  your grant distributions with the IRS if necessary.

Please keep a copy of this letter in your records.

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If you have questions, please contact the person listed at the top of this letter.

Sincerely,

Jeffrey I. Cooper
Director, Exempt Organizations
Rulings and Agreements

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