Exemption denied for commercial hall rentals benefiting a fraternal organization

Plain-English summary

A membership organization sought section 501(c)(3) status for maintaining a hall and grounds used primarily by a related section 501(c)(8) fraternal organization and rented to the public for events. Its articles directed the assets to that fraternal organization on dissolution, so the IRS found that the assets were not dedicated to section 501(c)(3) purposes. The IRS also found a substantial nonexempt commercial purpose because the organization rented the facility to the general public for parties, meals, weddings, and other events in competition with commercial venues. Plans to conduct bingo and later fund scholarships or grants did not cure the current organizational and operational defects. The organization did not protest within 30 days, so the denial became final and contributions were not deductible under section 170.

Ruling snapshot

• Question: Did operating and renting a facility for a related section 501(c)(8) organization and the public qualify as an exclusively charitable activity?
• Outcome: denied
• Key authorities: IRC §§ 170, 501(c)(3), 501(c)(8), 7428; Treas. Reg. § 1.501(c)(3)-1; Rev. Rul. 64-182

Full text (IRS public release)

Department of the Treasury
Internal Revenue Service
P.O. Box 2508
IRS Cincinnati, OH 45201
Date: September 13, 2017

Employer ID number:

Number: 201749017
Release Date: 12/8/2017 Contact person/ID number:

Contact telephone number:
Form you must file:

Tax years:

UIL: 501.03-00, 501.33-00, 501.36-01

Dear

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

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

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

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

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


If you have questions about this letter, you can contact the person listed at the top of this letter. If you have
questions about your federal income tax status and responsibilities, call our customer service number at

1-800-829-1040 (TTY 1-800-829-4933 for deaf or hard of hearing) or customer service for businesses at
1-800-829-4933.

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

Sincerely,

Stephen A. Martin
Director, Exempt Organizations
Rulings and Agreements

Enclosures:
Notice 437

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

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


Department of the Treasury
Internal Revenue Service

Cincinnati, OH 45201

Legend:
B = Date
C = State

D = Organization

Date: July 18, 2017

Employer ID number:
Contact person/ID number:
Contact telephone number:

Contact fax number:

UIL:

501.03-00
501.33-00
501.36-01

E = Individuals
F = City
G = Location

Dear

We considered your application for recognition of exemption from federal income tax under Section 501 (a) of
the Internal Revenue Code (the Code). Based on the information provided, we determined that you don’t qualify
for exemption under Section 501(c)(3) of the Code. This letter explains the basis for our conclusion. Please
keep it for your records.

Issues
Do you qualify for exemption under Section 501(c)(3) of the Code? No, for the reasons stated below.

Facts

You are a non-profit corporation formed on B under the laws of the State of C. Your Articles of Incorporation
state in Article II that your purpose is: “to provide, equip and maintain the Club’s property to include all
buildings, structures and grounds for the moral and social benefit of the D, other E men and E families of F and
G ... and to raise money for charitable, beneficial and eleemosynary purposes through the conduct of gaming,
social, fund raising or any other enterprises or activities.” Furthermore, Article X provides that “upon
dissolution of this corporation for any reason, all assets shall be transferred to and become the possession of D.”

You are a membership organization. Your Bylaws state in Article III that your members are all members of D
that are in good standing. A seven member board of directors governs you and are elected by your members.

Your Form 1023 indicates you have taken over 100% of the fair market value of the assets of D which consists
of a hall and grounds. D is a section 501(c)(8) tax exempt organization. Your activities consist of providing the
hall and grounds primarily to D for meetings and other activities. The facility is reserved for D one day each
week and any other date requested at least 3 months in advance so long as the date is not already committed.

The hall and grounds are also made available to the public for rent for not more than 3 days at a time.

Your income is currently from investments and the hall rental fees. Expenses are for maintenance of the hall.


The hall was used in 2016 as follows:

Club meetings %
D’s meetings/activities %
Other non-profits %
Club members %
General publicevents such as parties, weddings, meals and other meetings %

In addition, you plan on conducting bingo activities in the future to raise funds to maintain the facility. Your
members will operate the bingo on a volunteer basis. Your board will appoint a bingo manager who

is also a volunteer. The excess funds raised from gaming will be donated to charitable, beneficial and
eleemosynary purposes through scholarships and grants.

Law

Section 501(c)(3) of the Code provides for the recognition of exemption of organizations that are organized and
operated exclusively for religious, charitable or other purposes as specified in the statute. No part of the net
earnings may inure to the benefit of any private shareholder or individual.

Treasury Regulation Section 1.501(c)(3)-1(a)(1) states that, in order to be exempt as an organization described
in section 501(c)(3) of the Code, an organization must be both organized and operated exclusively for one or
more of the purposes specified in such section. If an organization fails to meet either the organizational test or
the operational test, it is not exempt.

Treas. Reg. Section 1.501(c)(3)-1(b)(1)(i) provides that an organization is organized exclusively for one or
more exempt purposes only if its articles of organization:

(a) Limit the purposes of such organization to one or more exempt purposes; and
(b) Do not expressly empower the organization engage, otherwise than as an insubstantial part of its
activities, in activities that in themselves are not in furtherance of one or more exempt purposes.

Treas. Reg. Section 1.501(c)(3)-1(b)(4) holds that an organization is not organized exclusively for one or more
exempt purposes unless its assets are dedicated to an exempt purpose. An organization’s assets will be
considered dedicated to an exempt purpose, for example, if, upon dissolution, such assets would, by reason of a
provision in the organization’s articles or operation of law, be distributed for one or more exempt purposes.

Treas. Reg. Section 1.501(c)(3)-1(c)(1) provides that 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) of the Code. An organization will not be so regarded if
more than an insubstantial part of its activities is not in furtherance of an exempt purpose.

Treas. Reg. Section 1.501(c)(3)-1(d)(2) defines the term charitable as including the relief of the poor and
distressed or of the underprivileged, and the promotion of social welfare by organizations designed to lessen
neighborhood tensions, to eliminate prejudice and discrimination, or to combat community deterioration. The
term “charitable” also includes lessening of the burdens of government.

Rev. Rul. 64-182, 1964-1 C.B. 186 - A corporation organized exclusively for charitable purposes derives its
income principally from the rental of space in a large commercial office building which it owns, maintains and
operates. The charitable purposes of the corporation are carried out by aiding other charitable organizations,

Letter 4036 (Rev. 7-2014)
Catalog Number 47630W


3

selected in the discretion of its governing body, through contributions and grants to such organizations for
charitable purposes. Held, the corporation is deemed to meet the primary purpose test of section 1.501(c)(3)-
1(e)(1) of the Income Tax Regulations, and to be entitled to exemption from Federal income tax as a
corporation organized and operated exclusively for charitable purposes within the meaning of section 501(c)(3)
of the Internal Revenue Code of 1954, where it is shown to be carrying on through such contributions and
grants a charitable program commensurate in scope with its financial resources.

In Better Business Bureau of Washington, D.C. v. U.S., 326 U.S. 279, 283, 66 S. Ct. 112, 90 L. Ed. 67 (1945),
the Supreme Court held that the “presence of a single . . . [nonexempt] purpose, if substantial in nature, will
destroy the exemption regardless of the number or importance of truly . . . [exempt] purposes.”

In B.S.W. Group, Inc. v. Commissioner, 70 T.C. 352 (1978), the court found that a corporation formed to
provide consulting services did not satisfy the operational test under section 501(c)(3) of the Code because its
activities constituted the conduct of a trade or business that is ordinarily carried on by commercial ventures
organized for profit. Its primary purpose was not charitable, educational, or scientific, but rather commercial.
In addition, the court found that the organization's financing did not resemble that of the typical section
501(c)(3) organizations. It had not solicited, nor had it received, voluntary contributions from the public. Its
only source of income was from fees from services, and those fees were set high enough to recoup all projected
costs and to produce a profit. Moreover, it did not appear that the corporation ever planned to charge a fee less
than “cost.” And finally, the corporation did not limit its clientele to organizations that were section 501(c)(3)
exempt organizations.

In Easter House v. U.S., 12 Cl. Ct. 476, 486 (1987), aff'd, 846 F. 2d 78 (Fed. Cir.) cert. denied, 488 U.S. 907,
109 S. Ct. 257, 102 L. Ed. 2d 246 (1988), the court found an organization that operated an adoption agency was
not exempt under section 501(c)(3) of the Code because a substantial purpose of the agency was a nonexempt
commercial purpose. The court concluded that the organization did not qualify for exemption under section
501(c)(3) because its primary activity was placing children for adoption in a manner indistinguishable from that
of a commercial adoption agency. The court rejected the organization's argument that the adoption services
merely complemented the health related services to unwed mothers and their children. Rather, the court found
that the health-related services were merely incident to the organization's operation of an adoption service,
which, in and of itself, did not serve an exempt purpose. The organization's sole source of support was the fees
it charged adoptive parents, rather than contributions from the public. The court also found that the organization
competed with for-profit adoption agencies, engaged in substantial advertising, and accumulated substantial
profits. Accordingly, the court found that the "business purpose, and not the advancement of educational and
charitable activities purpose, of plaintiffs adoption service is its primary goal" and held that the organization
was not operated exclusively for purposes described in section 501(c)(3). Easter House, 12 Cl. Ct. at 485-486.

In Living Faith, Inc. v. Commissioner, 950 F.2d 365 (1991), the Court of Appeals upheld a Tax Court decision
that an organization operating restaurants and health food stores in a manner consistent with the doctrines of the
Seventh Day Adventist Church did not qualify for exemption under section 501(c)(3) of the Code because the
organization was operated for a substantial nonexempt commercial purpose. The court found that the
organization's activities were "presumptively commercial" because the organization was in competition with
other restaurants, engaged in marketing, and generally operated in a manner similar to commercial businesses.

In Airlie Foundation v. Commissioner, 283 F. Supp. 2d 58 (D.D.C., 2003), the court relied on the
“commerciality” doctrine in applying the operational test. Because of the commercial manner in which this
organization conducted its activities, the court found that it was operated for a non-exempt commercial purpose,
rather than for a tax exempt purpose. As the court stated:

Letter 4036 (Rev. 7-2014)
Catalog Number 47630W


Among the major factors courts have considered in assessing commerciality are competition
with for profit commercial entities; extent and degree of below cost services provided; pricing
policies; and reasonableness of financial reserves. Additional factors include, inter alia, whether
the organization uses commercial promotional methods (e.g. advertising) and the extent to
which the organization receives charitable donations.

Application of law

A ruling on exempt status is based solely on facts and representations in the administrative file. You have not
provided supporting documentation to establish that you meet the requirements of Section 501(c)(3) of the
Code. Section 501(c)(3) of the Code sets forth two main tests for qualification for exempt status. As stated in
Treas. Reg. Section 1.501(c)(3)-1(a)(1), an organization must be both organized and operated exclusively for
purposes described in Section 501(c)(3) of the Code.

Your purpose is to maintain a facility for the benefit of a section 501(c)(8) entity as well as for other community
members. Upon dissolution your assets will be distributed to a section 501(c)(8) entity. Thus, you have not
satisfied the organizational test described in Treas. Reg. Sections 1.501(c)(3)-1(b)(1)(i) and 1.501(c)(3)-1(b)(4).

You do not meet the operational test under Section 501(c)(3) of the Code because you are not operating
exclusively for charitable purposes as required under Treas. Reg. Section 1.501(c)(3)-1(c)(1). Your sole activity
is the operation of a facility for use by D, a section 501(c)(8) exempt entity and other members of the general
public for various events including parties, meals and weddings. Rental fees are paid by anyone using the hall
other than D. As provided in Treas. Reg. Section 1.501(c)(3)-1(d)(2), you have not established that your
operations accomplish exclusively charitable purposes.

The courts have developed guidelines intended to help discern whether an organization has a substantial
nonexempt commercial purpose. See e.g., B.S.W. Group, supra; Easter House, supra; Airlie, supra; Living
Faith, supra. Generally, the factors proffered by courts focus on the nature of the activities and how an
organization conducts its business. Your facility is reserved for use by D, the related section 501(c)(8) entity
and is rented out for a fee to the general public at all other times. Renting out a facility for use by members of
the general public for their personal use is a commercial activity. Like the organizations in Easter House,
supra, Airlie, supra, and Living Faith, supra, you are in direct competition with commercial businesses because
you conduct activities generally conducted by a for a profit business. In fact, you conduct the same activities as
a commercial venue and many of your activities are conducted in the same manner as commercial enterprises.
Accordingly, your commercial activities evidence a substantial nonexempt commercial purpose.

Unlike the organization in Rev. Rul. 64-182 you do not restrict the rental of your facility to other section
501(c)(3) exempt organizations. Maintaining a facility for use by a Section 501(c)(8) exempt organization does
not further a recognized Section 501(c)(3) purpose. While you plan to make grants and provide scholarships in
the future, which may be a Section 501(c)(3) purpose, you are not currently conducting this activity. In addition,
your primary activity would remain the operation of a facility for rent by the general public. As the court found
in Better Business Bureau of Washington, D.C. v. U.S., the presence of a single, substantial non-exempt
purpose will preclude exemption regardless of the number of other exempt activities.

Your Position
You wrote that you believe you qualify under Section 501(c)(3) of the Code. You stated that because your
Articles of Incorporation state your purpose is to raise money for charitable, beneficial and eleemosynary

Letter 4036 (Rev. 7-2014)
Catalog Number 47630W


5

purposes through the conduct of gaming, social, fund raising or any other enterprises or activities you are
covered. Your purpose is not to just maintain a facility for D.

Our Response to your Position

You failed to provide any additional information from which it can be concluded that your activities exclusively
further or advance a purpose described in Section 501(c)(3) of the Code. Your primary activity is to operate
and maintain a building for D and for use by members of the public for a fee. You are operated for a substantial
nonexempt purpose rather than a tax-exempt purpose as specified under Section 501(c)(3) of the Code. You fail
the operational test as described in Treas. Reg. Section 1.501(c)(3)-1(c)(1).

Conclusion

Based on the information submitted, you have failed to establish that you are organized and operated
exclusively for exempt purposes within the meaning of Section 501(c)(3) of the Code and the related income
tax regulations. Your primary activity is renting out your facility for use by the general public which is a
commercial activity. In addition, the fact that you maintain the facility for the benefit of a section 501(c)(8)
entity and your members (individuals) is further evidence of the non-exempt nature of your activities. Thus,
based on the administrative record, you fail to qualify for exemption under Section 501(c)(3) of the Code.

If you don’t agree
You have a right to file a protest if you don’t agree with our proposed adverse determination. To do so, you
must send a statement to us within 30 days of the date of this letter. The statement must include:

• Your name, address, employer identification number (EIN), and a daytime phone
number

• A copy of this letter highlighting the findings you disagree with
• An explanation of why you disagree, including any supporting documents
• The law or authority, if any, you are relying on

• The signature of an officer, director, trustee, or other official who is authorized to sign for the
organization, or your authorized representative

• One of the following declarations:

For an officer, director, trustee, or other official who is authorized to sign for the organization:
Under penalties of perjury, I declare that I examined this protest statement, including

accompanying documents, and to the best of my knowledge and belief, the statement contains all
relevant facts and such facts are true, correct, and complete.

For authorized representatives:

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

Letter 4036 (Rev. 7-2014)
Catalog Number 47630W


6

Your representative (attorney, certified public accountant, or other individual enrolled to practice before the
IRS) must file a Form 2848, Power of Attorney and Declaration of Representative, with us if he or she hasn’t
already done so. You can find more information about representation in Publication 947, Practice Before the
IRS and Power of Attorney.

We’ll review your protest statement and decide if you provided a basis for us to reconsider our determination. If
so, we'll continue to process your case considering the information you provided. If you haven’t provided a
basis for reconsideration, we’ll forward your case to the Office of Appeals and notify you. You can find more
information about the role of the Appeals Office in Publication 892, How to Appeal an IRS Decision on Tax-
Exempt Status.

If you don’t file a protest within 30 days, you can’t seek a declaratory judgment in court at a later date because
the law requires that you use the IRS administrative process first (Section 7428(b)(2) of the Code).

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

U.S. mail: Street address for delivery service:
Internal Revenue Service Internal Revenue Service

EO Determinations Quality Assurance EO Determinations Quality Assurance
Room 7-008 550 Main Street, Room 7-008

P.O. Box 2508 Cincinnati, OH 45202

Cincinnati, OH 45201

You can also fax your statement and supporting documents to the fax number listed at the top of this letter. If
you fax your statement, please contact the person listed at the top of this letter to confirm that he/she received it.

If you agree

If you agree with our proposed adverse determination, you don’t need to do anything. If we don’t hear from you
within 30 days, we’ll issue a final adverse determination letter. That letter will provide information on your
income tax filing requirements.

You can find all forms and publications mentioned in this letter on our website at www.irs.gov/formspubs. If
you have questions, you can contact the person listed at the top of this letter.

Sincerely,

Stephen A. Martin
Director, Exempt Organizations
Rulings and Agreements

Enclosure:
Publication 892

Letter 4036 (Rev. 7-2014)
Catalog Number 47630W