County land-reclamation entity's income is excluded and donations are deductible

Plain-English summary

A county created an entity under state law to reclaim, rehabilitate, and return abandoned or foreclosed property to productive use. County and other local officials controlled the entity, public bodies supplied most of its funding and operating support, and the county could dissolve it. The entity followed public-record and financial-reporting rules, barred private inurement, and required its remaining assets to pass to government bodies or another section 115 entity. The IRS concluded that the entity performed an essential governmental function and that its income accrued to a state or political subdivision, so the income was excluded under section 115(1). Applying the instrumentality factors in Revenue Ruling 57-128, the IRS also found that contributions made to the entity for exclusively public purposes were deductible under section 170, subject to the applicable limitation.

Ruling snapshot

• Question: Was the county-created land-reclamation entity's income excluded under IRC § 115, and were public-purpose contributions to it deductible under IRC § 170?
• Outcome: approved
• Key authorities: IRC §§ 115(1) and 170(c)(1); Rev. Rul. 57-128; Rev. Rul. 75-359

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 201712001 [Third Party Communication:
Release Date: 3/24/2017 Date of Communication: Month DD, YYYY]
Index Number: 115. 00-00
Person To Contact:
------------------------------------------------------------ ---------------, ID No. ---------
----------- Telephone Number:
---------------------------------------------------------- ------------------
------------------------------------------ Refer Reply To:
------------------------------------ CC:TEGE:EOEG:EO2
PLR-100479-16
Date:
December 2, 2016

Taxpayer = ----------------------------------------------------------
Date = ----------------
State = ------
County = -------------------------
City = ----------------------
Legislation = --------------------------------------------------------------
Year = ------

Dear ----- ----------:

We are responding to a letter dated December 7, 2015, requesting rulings that
Taxpayer's income is excludable from gross income under § 115 of the Internal
Revenue Code (Code), and that contributions to Taxpayer are deductible by donors
because Taxpayer is a government instrumentality under the terms of § 170. We
construe the facts provided as follows.

FACTS

According to Taxpayer, a recent residential foreclosure crisis aggravated a period of
long-term economic and demographic decline in State. Consequently, State enacted
Legislation in Year to help a specific community address the consequences of this
compounded crisis. The new law was subsequently extended to most State counties on
Date, and it was designed to better equip the counties to address the crisis. In
particular, it authorized the creation of a new type of organization to use various
streamlined procedures and coordinate with government, non-profit, and commercial
entities to stabilize communities and contribute to their economic development.
Subsequently, State again amended State law to improve the procedures contained in
the new law, and to increase potential financial support, among other additions and
revisions. Prior to Year, State and County engaged in activities aimed at accomplishing

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community development similar to those addressed under the new law, but the
procedures and tools available under prior State law were not as robust as those
contained in Legislation that was enacted in Year.

Pursuant to the new law, County established Taxpayer as its agent to facilitate the
effective reclamation, revitalization, and return to economic productivity of abandoned or
foreclosed real estate located in County. County can dissolve Taxpayer at any time, in
accordance with State law.

State law requires Taxpayer to have a board consisting of at least five directors, three of
whom must be County's treasurer and two of its commissioners. One additional director
must be appointed by City, and the fifth director must be appointed by certain large
townships in County to represent their interests. The three County directors may
appoint up to four additional directors. Directors receive no compensation for their
services to Taxpayer. Pursuant to a contract with Taxpayer, County provides office
space and staff to conduct and manage Taxpayer's daily operations.

Taxpayer's directors may appoint non-voting members to participate in meetings and to
serve on committees. The voting directors can remove non-voting members with or
without cause. Taxpayer maintains a conflicts of interest policy that supplements
State's conflicts of interest policy for public officials and employees. Among other
things, Taxpayer's policy requires its officers, directors, non-voting members, and
employees to file an annual form stating that they understand and agree to comply with
Taxpayer's conflicts of interest policy.

State law requires Taxpayer to adhere to State's open meetings and public records
requirements. Taxpayer must also provide an annual financial report to State, and the
report must be available on Taxpayer's website. Bids to provide goods or services to
Taxpayer must be accompanied by disclosures of campaign contributions to County’s
treasurer and the commissioners serving as Taxpayer's directors. Taxpayer has a
whistle blower protection policy.

Taxpayer's organizational documents provide that Taxpayer is intended to have the
status of an organization whose income is excludable from gross income pursuant to
§ 115 of the Code, and that its authority and activities are limited accordingly. Further,
the organizational documents require annual reports from Taxpayer's officers and
directors stating that they understand Taxpayer exercises essential governmental
functions, and that its income accrues to County. The organizational documents also
provide for periodic reviews to ensure Taxpayer is performing essential governmental
functions, and that its compensation arrangements are reasonable and the result of
arm's length bargaining.

Taxpayer has adopted written policies and procedures governing the acquisition and
disposition of residential and commercial properties, including the selection of

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demolition contractors. The policies and procedures are intended to guide Taxpayer in
making objective and effective decisions in line with local plans, assist those who desire
to participate in the redevelopment of their communities, and prevent abuse.

Taxpayer's funding is derived from several sources. The bulk of the Taxpayer's funding
comes from County and State, with County committing a specified percentage of a
delinquent tax and assessment collection fund. State has issued Taxpayer a grant to
acquire and demolish abandoned residences. Taxpayer also derives a small amount of
revenue from property sales. State law contemplates that Taxpayer will use revenue
from its activities solely in furtherance of its statutory purposes.

Historically, Taxpayer focused on demolishing vacant and blighted structures in targeted
areas and on finding new owners for the properties so they could be returned to the tax
rolls. Neighboring property owners often acquired these reclaimed lots. Taxpayer
intends to begin repairing and rehabilitating abandoned properties, and participating in
larger rehabilitation projects with local and regional agencies.

Taxpayer's articles of incorporation provide that upon dissolution, all remaining assets
will be distributed to State, a political subdivision of State, or an entity whose income is
excludable from gross income under § 115 of the Code. Moreover, Taxpayer’s articles
of incorporation state that no part of the net earnings of Taxpayer shall inure to the
benefit of or be distributable to, any incorporator, director, trustee, or officer of Taxpayer
or any private individual.

LAW

Section 115(1) of the Code states that gross income does not include income derived
from the exercise of any essential governmental function and accruing to a state or any
political subdivision thereof.

Section 170(a)(1) provides that there shall be allowed as a deduction any charitable
contribution (as defined in § 170(c)) payment of which is made within the taxable year.

Section 170(c)(1) states that, for purposes of § 170, the term charitable contribution
means a contribution or gift to or for the use of a state, a possession of the United
States, or any political subdivision of any of the foregoing, or the United States or the
District of Columbia, but only if the contribution or gift is made for exclusively public
purposes.

Revenue Ruling 77-261,1977-2 C.B. 45, holds that income generated by an investment
fund that is established by a state to hold revenues in excess of the amounts needed to
meet current expenses is excludable from gross income under § 115(1), because such
investment constitutes an essential governmental function and the income accrues to
the state or its political subdivisions.

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The ruling explains that the statutory exclusion is not intended to extend to the income
of a state or municipality resulting from its own participation in activities, but rather to the
income of an entity engaged in the operation of a public utility or the performance of
some governmental function that accrues to either a state or political subdivision of a
state. The ruling points out that that it may be assumed that Congress did not desire in
any way to restrict a state’s participation in enterprises that might be useful in carrying
out projects that are desirable from the standpoint of a state government and that are
within the ambit of a sovereign to conduct.

Revenue Ruling 90-74, 1990-36 I.R.B. 5, provides that the determination of whether a
function is an essential government function depends on the facts and circumstances of
each case. The ruling considers a risk-sharing pool created by local governments.
Under state law, county governments could form and become members of a non-profit
organization to pool their casualty risks. The governing body of each county authorizes
it to join, and designate an individual to represent it at meetings and elect the board of
directors. The counties pay initial deposits and annual fees based upon size and other
determinants of risk. The organization also earns investment income. It reimburses
members for casualty losses. If dissolved, it will distribute its assets to its members.

The revenue ruling states that political subdivisions insure against risks from casualties,
employee negligence, worker’s compensation, and employee health to satisfy
government obligations. The private benefit to employees from the insurance is held to
be incidental to the public benefit. The revenue ruling finds that pooling casualty risks
through a separate organization instead of purchasing commercial insurance fulfills the
obligations of the political subdivisions to protect their financial integrity. The revenue
ruling further concludes that the income of the organization accrues to political
subdivision because (1) the organization's income does not benefit private interest; (2)
the organization’s income is used to reimburse counties for their losses and to reduce
the annual fees that they would otherwise be required to pay the organization; and (3)
the organization’s assets were required to be distributed to the counties upon its
dissolution.

Revenue Ruling 57-128, 1957-1 C.B. 311, provides that, in cases involving the status of
an organization as a wholly owned instrumentality of one or more states or political
subdivisions, the following factors are taken into consideration:

   (1) whether it is used for a governmental purpose and performs a governmental
       function;
   (2) whether performance of its function is on behalf of one or more states or
       political subdivisions;
   (3) whether there are any private interests involved, or whether the states or
       political subdivisions involved have the powers and interests of an owner;


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(4) whether control and supervision of the organization is vested in public
authority or authorities;
(5) if express or implied statutory or other authority is necessary for the creation
and/or use of such an instrumentality and whether such authority exists; and
(6) the degree of financial autonomy and the source of its operating expenses.

Revenue Ruling 75-359, 1975-2 C.B. 79, provides that a voluntary association of
counties is separate from its member counties and qualifies as a wholly-owned
instrumentality of those counties, which are political subdivisions, and is formed and
operated exclusively for the public purposes of the member counties. Therefore, the
revenue ruling holds that contributions to the association are deductible as contributions
“for the use of” political subdivisions, subject to the limitation of § 170(b)(1)(B).

Revenue Ruling 69-453, 1969-2 C.B. 182, applies the six factors of Revenue Ruling
57-128 to rule that a soil and water conservation district formed as a private non-stock
corporation by private individuals is not an instrumentality of the state. The revenue
ruling finds the state has no authority or control over the district’s expenditures, has no
authority to remove any member of the district’s board, and the district funds its
operations through fees that it charges landowners for work done for the purpose of soil
conservation. Moreover, the revenue ruling notes the state has no claim to the district’s
assets after the district’s dissolution.

Revenue Ruling 65-196, 1965-2 C.B. 388, holds that a sports area commission formed
pursuant to an agreement (which was authorized by the enactment of a state law
legalizing such agreements) between a city and two villages to erect and operate an
athletic stadium is an instrumentality of political subdivisions of the state. The
commission is comprised of members appointed by councils of the city and villages as
their representatives. Each member is required to be a citizen and resident of the state
and may not be a member of the governing body of the city or the villages. The sole
source of financing for the commission comes from bonds issued by the city; the city is
authorized to issue bonds upon the request of the commission to fund the athletic
stadium. The revenue ruling finds the commission is an instrumentality of the city and
two villages by whose agreement it was formed because it meets substantially all of the
Revenue Ruling 57-128 factors: the commission was created by the city and villages as
their instrumentality, and validated by state law; the commission members are
delegated certain authority under the terms of the agreement between the city and
villages; control and supervision of the assets of the commission are in the hands of the
city and villages; there are no private interests involved; and the city, upon the
commission’s direction, is responsible for the project’s finances.

RULINGS REQUESTED

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1. Because Taxpayer’s income is derived from its performance of an essential
   governmental function and accrues to County and other political subdivisions,
   Taxpayer’s income is excludable from gross income pursuant to § 115(1).

2. Because Taxpayer is an instrumentality for purposes of § 170(c)(1), contributions
   to it are deductible to the extent otherwise allowed by § 170.

ANALYSIS

Issue 1.

In Year, State amended the law that it and County had used to target problems such as
blighted, vacant, and foreclosed properties. The amendments streamlined procedures
and gave counties new tools to tackle community ailments worsened by a burgeoning
real estate crisis. County created Taxpayer in accordance with the new State law, and
it designated Taxpayer to be its agent to carry out the statutory purposes of combating
community deterioration by restoring abandoned and blighted property, and promoting
economic and housing development in County. Transforming blighted, abandoned or
foreclosed property into safe and economically productive property is an essential
governmental function.

County can dissolve Taxpayer at any time, and it controls Taxpayer’s board of directors.
County is Taxpayer's most consistent source of funding, although Taxpayer obtains
some funding from State and, to a much lesser extent, from the sale of property
Taxpayer acquires in furtherance of its purposes. Taxpayer has contracted with County
to obtain services necessary to carry out Taxpayer's daily operation. Taxpayer operates
according to State's open meetings and public records rules, is required to submit an
annual financial report to State's official auditor, and it must display the report on its
website. Taxpayer has taken many additional steps to ensure that private interests do
not benefit from Taxpayer's activities more than incidentally. Taxpayer’s articles ensure
that upon dissolution its assets will be distributed to State, County, another political
subdivision of State, or to an entity whose income is excludable from gross income
under § 115. Therefore, taxpayer's income accrues to a state or political subdivision of
a state.

Issue 2.

The second ruling requested raises the issue of whether Taxpayer is a separate, wholly-
owned instrumentality of one or more political subdivisions of the State, which is eligible
to receive charitable contributions within the meaning of § 170(c)(1). Section 170(c)(1)
generally defines the term “charitable contribution,” for purposes of § 170(a)(1), to
include a contribution or gift to or for the use of a state or any political subdivision of the
state, provided the contribution or gift is made for exclusively public purposes.

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Taxpayer is not itself a political subdivision of State. Therefore, contributions to
Taxpayer cannot constitute charitable contributions “to” a political subdivision of State
for purposes of § 170(c)(1). However, pursuant to Revenue Ruling 75-359,
contributions to Taxpayer may constitute charitable contributions (within the meaning of
§ 170(c)(1)) “for the use of” political subdivisions of State, which are deductible under
§ 170(a), subject to the limitation of § 170(b)(1)(B), if Taxpayer qualifies as a separate,
wholly-owned instrumentality of one or more political subdivisions of State. A
determination of whether Taxpayer is a wholly-owned instrumentality of one or more
political subdivision of State is made by applying the factors set forth in Revenue Ruling
57-128.

   Governmental Purpose and Function

The first factor under Revenue Ruling 57-128 is whether Taxpayer is used for a
governmental purpose and performs a governmental function. Taxpayer was
established by County as its agent to facilitate the governmental purposes of
reclamation, revitalization, and return to economic productivity of abandoned or
foreclosed real estate located in County. Accordingly, we conclude Taxpayer is used
for a governmental purpose and performs a governmental function.

     Performance on Behalf of Political Subdivisions

The second factor under Revenue Ruling 57-128 is whether performance of Taxpayer’s
function is on behalf of one or more states or political subdivisions. Taxpayer was
established pursuant to Legislation by County as its agent to exercise the governmental
purposes referenced above. Prior to Taxpayer’s establishment, State and County
engaged in activities aimed at community development similar to those presently
performed by Taxpayer. A majority of Taxpayer’s board of directors represent County
and its political subdivisions. Pursuant to a contract with Taxpayer, County provides
office space and staff to conduct and manage Taxpayer’s daily operations. Further,
Taxpayer’s organizational documents require annual reports from its officers and
directors stating they understand Taxpayer exercises essential governmental functions,
and its income accrues to County. Based on these facts, we find that Taxpayer’s
function is performed on behalf of County, which is the political subdivision of State that
established Taxpayer.

   Private Interests Involved

The third factor under Revenue Ruling 57-128 is whether there are any private interests
involved, or whether State or political subdivisions have the powers and interests of an
owner. According to the facts stated, Taxpayer’s revenue accrues to County. State law
requires Taxpayer to adhere to State’s open meetings and public records requirements.
Taxpayer must also, pursuant to State law, provide an annual financial report to State
and post it on its website. Bids to provide goods or services to Taxpayer must be

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accompanied by disclosures of campaign contributions to County’s treasurer and the
commissioners serving as Taxpayer’s directors. Furthermore, Taxpayer adopted a
conflicts of interest policy that supplements State’s conflict of interest policy for public
officials and employees. Among other things, Taxpayer’s policy requires its officers,
directors, non-voting board members, and employees to file an annual form stating they
understand and agree to comply with Taxpayer’s conflicts of interest policy. Taxpayer’s
articles of incorporation provide that none of its earnings shall inure to the benefit of any
private individual. Additionally, Taxpayer’s organizational documents provide for
periodic reviews to ensure Taxpayer is performing essential governmental functions and
its compensation arrangements are reasonable and the result of arm’s length
bargaining. Taxpayer has also adopted written policies and procedures governing the
acquisition and disposition of residential and commercial properties, including the
selection of demolition contractors. Such policies and procedures are intended to guide
Taxpayer in making objective and effective decisions in line with local plans, assist
those who desire to participate in the redevelopment of their communities, and prevent
abuse. Should Taxpayer dissolve, its articles of incorporation state that remaining
assets will be distributed to State, a political subdivision of State, or an entity whose
income is excludable from gross income under § 115. Therefore, based on the facts
stated, we conclude there are not more than incidental private interests involved, and
that political subdivisions of the State have the powers and interests of an owner with
respect to Taxpayer.

   Control and Supervision

The fourth factor under Revenue Ruling 57-128 is whether control and supervision of
Taxpayer is vested in public authority or authorities. Under the facts stated, State law
allows Taxpayer to have a board of at least five, but not more than nine uncompensated
directors. Three of the director positions are designated by statute: the County’s
treasurer, and two County commissioners. A fourth director is appointed by City, which
is the largest city in County. A fifth director is appointed by trustees of large townships
in County. State law provides that the County directors may appoint up to four
additional directors. Thus, directors who represent County and political subdivisions
within County must always be a majority of Taxpayer’s board of directors. County can
dissolve Taxpayer at any time, in accordance with State law. Therefore, based on the
facts provided, we conclude the control and supervision of Taxpayer is vested in public
authorities.

   Statutory Authority

The fifth factor under Revenue Ruling 57-128 is whether express or implied statutory or
other authority is necessary for the creation and use of Taxpayer and whether such
authority exists. Pursuant to Legislation, County elected to establish Taxpayer to
facilitate the effective reclamation, revitalization, and return to economic productivity of
abandoned or foreclosed real estate located in County. The State legislature has

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extended and refined the authority in the years since, showing continuing approval.
Taxpayer continues to function pursuant to specific State statutory and other authority.
Consequently, we conclude that express statutory authority is necessary for the creation
and use of Taxpayer and that such authority exists.

   Financial Autonomy and Source of Operating Expenses

The sixth factor under Revenue Ruling 57-128 is the degree of Taxpayer’s financial
autonomy and the source of its operating expenses. In this case, the stated facts
indicate Taxpayer is generally dependent on County and State for financial support.
Taxpayer is funded, in large part, by a percentage of a County delinquent tax and
assessment collection fund. Additionally, State has issued a grant to Taxpayer for
acquisition and demolition of abandoned residences. Taxpayer also derives a small
portion of its revenue from property sales. State law contemplates that Taxpayer will
use revenue from its activities solely in furtherance of its statutory purposes. Based on
these facts, we find that Taxpayer is not financially autonomous from State and its
political subdivisions. Rather, Taxpayer relies heavily upon State and its political
subdivisions for the funding of its operating expenses.

For the reasons stated above, Taxpayer is a wholly owned instrumentality of one or
more political subdivisions of State. Similar to Revenue Ruling 65-196, and unlike
Revenue Ruling 69-453, Taxpayer is used for a governmental purpose and performs a
governmental function; Taxpayer’s function is on behalf of County, which is the political
subdivision of State that established Taxpayer; there are not more than incidental
private interests involved, and political subdivisions of State have the powers and
interests of an owner, with respect to Taxpayer; control and supervision of Taxpayer is
vested in public authorities; express statutory authority is necessary for the creation and
use of Taxpayer and such authority exists; Taxpayer is not financially autonomous from
State and its political subdivisions, but rather relies heavily upon State and its political
subdivisions for the funding of its operating expenses. Therefore, in accordance with
Revenue Ruling 75-359, we conclude that contributions to Taxpayer constitute
charitable contributions (within the meaning of § 170(c)(1)) for the use of political
subdivisions of State, that are deductible under § 170(a), subject to the limitation of §
170(b)(1)(B).

Conclusion

Therefore we rule that:

1. Because Taxpayer’s income is derived from its performance of an essential
   governmental function and accrues to the County and other political subdivisions,
   Taxpayer's income is excludable from gross income pursuant to § 115(1).

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   2. Because Taxpayer is an instrumentality for purposes of § 170(c)(1), contributions
   to it are deductible to the extent otherwise allowed by § 170.

This ruling is based on the facts as they were presented in the ruling request and on the
understanding that there will be no material changes to those facts. This ruling does not
address the applicability of any section of the Code or regulations to the facts submitted
other than with respect to the sections expressly described herein.

Except as expressly provided herein, no opinion is expressed or implied concerning the
tax consequences of any aspect of any transaction or item discussed or referenced in
this letter, or of any activity or transaction not expressly addressed in this letter.

The ruling contained in this letter is based upon information and representations
submitted by Taxpayer and accompanied by a penalty of perjury statement executed by
an individual with authority to bind Taxpayer, as specified in Revenue Procedure 2016-
1, 2016-1 I.R.B. 1, §7.01(15)(b), or its successors. This office has not verified any of
the material submitted in support of the request for rulings, and such material is subject
to verification on examination. The Associate Office will revoke or modify a letter ruling
and apply the revocation retroactively if there has been a misstatement or omission of
controlling facts; the facts at the time of the transaction are materially different from the
controlling facts on which the ruling was based; or, in the case of a transaction involving
a continuing action or series of actions, the controlling facts change during the course of
the transaction. See Revenue Procedure 2016-1, § 11.05, or its successors.

This ruling letter is directed only to Taxpayer. Section 6110(k)(3) provides that it may
not be used or cited as precedent.

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

A copy of this ruling should be attached to Taxpayer's tax return for the current year. If
the return is filed electronically, attach a statement containing the date and control
number of the letter ruling.

In accordance with the Power of Attorney on file with this office, a copy of this letter is
being sent to your authorized representatives.

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

                                      Sincerely,




                                      Lynne Camillo
                                      Branch Chief, Employment Tax Branch 2
                                      Tax Exempt and Government Entities

cc: -------------------------------------------

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