Hotel restoration project is denied Section 501(c)(3) status

Plain-English summary

An organization bought a vacant, deteriorated hotel near a historic business district and planned to renovate it into ten guest rooms, a dining room, and possibly a coffee shop, wine cellar, and spa. The property had no official historic designation and was not in a blighted area. After renovation, the organization expected the hotel to be self-sustaining, stop soliciting donations, and potentially transfer or lease the property to a partnership or hotel management company. The IRS found that any historical, educational, or community activities would be incidental to the substantial commercial purpose of operating a hotel in competition with for-profit businesses. It denied exemption under section 501(c)(3), and the applicant did not protest the proposed adverse determination.

Ruling snapshot

• Question: Did renovating and commercially operating an undesignated hotel serve exclusively charitable or educational purposes under section 501(c)(3)?
• Outcome: Denied because the hotel operation was a substantial nonexempt commercial purpose.
• Key authorities: IRC § 501(c)(3); Treas. Reg. § 1.501(c)(3)-1; Rev. Ruls. 75-470 and 86-49; Better Business Bureau of Washington, D.C., Inc. v. United States; B.S.W. Group, Inc. v. Commissioner; Airlie Foundation v. I.R.S.

Full text (IRS public release)

[Redaction note: the IRS release substitutes letters for the state and formation date and blanks the applicant's identity, employer identification number, contact information, required return, and tax years.]

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

Date:
November 28, 2017

Employer ID number:
Release Number: 201808020
Release Date: 2/23/2018 Contact person/ID number:

                                                          Contact telephone number:
                                                          Form you must file:

                                                          Tax years:

                                                          UIL: 501.35-00, 501.36-00

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.

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
P.O. Box 2508
Cincinnati, OH 45201

Date:
September 11, 2017

Employer ID number:

Contact person/ID number:
Contact telephone number:

Contact fax number:

Legend: UIL:
X = State 501.35-00
Y = Date of formation 501.36-00

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 were incorporated in X on Y. You formed to restore a hotel located near your community’s historical
business district. You have purchased the building and are now fundraising to make the appropriate renovations.

Your renovation plan calls for the restoration of the entire hotel, which currently consists of twenty hotel rooms.
After the renovation, it will consist of ten hotel rooms, each with a private bath, a dining room which will seat
up to 100 people, and a kitchen, all with handicap accessibility. The plan may also include a coffee shop, wine
cellar, and spa. The hotel will have themed décor to preserve the heritage of the area. The hotel is not located in
a blighted area.

The hotel came up for sale when the owner could not afford to replace the old heating system. The building is
currently vacant and in a state of disrepair. You plan on hiring architectural engineers, an HVAC contractor and
a plumber to help with the major projects. You are working to keep the hotel as historic as possible while
adding up-to-date technology for your guests’ comfort. After the project is complete, you will hire a manager
for the day-to-day business operations. The board will continue oversight. Any income will be put back into the
hotel.

You said your goal is to make the hotel a destination for travelers looking for a unique experience. You hope to
promote economic growth for businesses, provide a meeting place for groups and organizations, and provide the
community with a place to hold their special events.

Once the hotel is restored you intend that it will be self-sustaining. You said it’s possible that local businesses,
civic or service organizations may use the facility for meetings, luncheons, etc., but will pay the standard

2

commercial fees if they are not a charitable organization recognized as exempt under Section 501(c)(3) of the
Code. Rates will be given “at cost” for Section 501(c)(3) and/or governmental entities. The fees will be
determined by the cost of operating, such as dishes, linens, and housekeeping needs.

When asked about future activities, you stated that upon completion of the rehabilitation, your facility will
provide hotel services, as well as food and beverage services, to guests and visitors, or the general public. You
anticipate that the operation of the hotel and hospitality business will be conducted by an unrelated party who
will lease the facilities from you. You said your preliminary plans are to consider transferring ownership of the
real estate to a partnership which will own and rehabilitate the historic structure property into a hotel
comparable to its original condition and design. Subsequently, the partnership may lease the property to a
qualified hotel management company to oversee the hotel operations, marketing, and administrative functions
of hotel management.

Educational information will be on display to convey the historic relevance of the facility. The facility will be
available for the public to visit, observe, and use for educational, civic and community events and activities.

Although your facility is located near a district which is listed on the National Historic Register, it has no such
designation. Your facility has been visited by a local historian which you say is the first step to be recognized
by the State of X for their Historic Register, but to date it has not been granted any historical designation.

The estimated budgets you provided for the next few years include revenue from gifts, grants, donations and
fundraising. However, you said that no donated funds will be solicited once renovation is complete. You said
the hotel will be self-sustaining. All estimated expenses for the next few years are related to the renovation of
the hotel and fundraising.

Law

Section 501(c)(3) of the Code provides, in part, for the exemption from federal income tax to organizations
organized and operated exclusively for charitable, religious or educational purposes, where no part of the net
earnings inures to the benefit of any private shareholder or individual.

Treasury Regulation Section 1.501(c)(3)-1(a)(1) provides that, 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 Section 501(c)(3). If an organization fails to meet either the organizational or
operational test, it is not exempt.

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.

Rev. Rul. 75-470, 1975-2 C.B. 207, found that a nonprofit organization formed to promote an appreciation of
history through the acquisition, restoration, and preservation of homes, churches, and public buildings having
special historical or architectural significance and to open the structures for viewing by the general public
qualifies for exemption under Section 501(c)(3) of the Code. The organization consults with governmental
agencies and local historical societies to locate those structures which are deserving of restoration and
preservation. After a building is restored, the organization opens it to the general public. Its operations are

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

3

financed from admission fees to the restored buildings, and from contributions from the public. The subject
organization's activities consist of acquiring, restoring, and preserving historically and/or architecturally
significant buildings and making such restored buildings available for public viewing. In this manner, the
organization is carrying on activities similar to those of a museum and is educational and charitable within the
meaning of Section 501(c)(3).

Rev. Rul. 86-49, 1986-1 C.B. 243, recognized that preserving the historic or architectural character of a
community through acquiring and occasionally restoring historically or architecturally significant properties
could serve to prevent community deterioration. The ruling went on to note that factors that show the historical
significance of a building or structure include those that are (1) are closely associated with significant events or
developments in American history; or (2) are closely associated with the lives of significant American
historical figures; or, (3) embody distinctive characteristics of a type, period, or method of construction, or that
represent the works of a master, or that possess high artistic value; and are either: (a) listed in the National
Register of Historic Places; or, (b) located in a registered historic district and are certified by the Secretary of
the Interior as being of historic significance to the district. Additionally, the continued preservation of such
properties after their sale by the organization is guaranteed by means of restrictive covenants that are reasonably
suited to preserving the historic or architectural character of the structures and community involved.

In Better Business Bureau of Washington, D.C., Inc. v. United States, 326 U.S. 279 (1945), the Supreme Court
held that the presence of any nonexempt purposes, if substantial in nature, will destroy an organization's tax-
exempt status regardless of the organization's other charitable purposes or activities.

In B.S.W. Group, Inc. v. Commissioner, 70 T.C. 352 (1978), the court found that a corporation formed to
provide consulting services was not exempt under Section 501(c)(3) 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, nor scientific, but rather commercial. In addition, the court
found that the organization’s financing did not resemble that of the typical 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 Airlie Foundation v. I.R.S., 283 F. Supp. 2d 58 (D.D.C. 2003), the court found that the organization was
formed principally to organize, host, conduct and sponsor educational and other charitable functions on its
facilities. The organization’s patrons were not limited to tax exempt entities, but included patrons of a private
and corporate nature. The organization paid significant advertising and promotional expenses and derived
substantial income from weddings and special events held at its conference center. The court determined that
the organization’s activities competed with several commercial, as well as non-commercial entities, which
strongly evidenced a commercial nature and purpose. The court concluded that although the organization
carried out a few charitable and educational activities, these were incidental to its primary activities of operating
a commercial conference center.

Application of law

You are not operated exclusively for purposes that are exempt under Section 501(c)(3) of the Code as described
in Treas. Reg. Section 1.501(c)(3)-1(a)(1). The hotel you intend to restore is not officially classified as historical
and is not located in a blighted area. Even if the hotel were classified as historical, the manner in which you

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

4

propose to operate the hotel after the restoration does not exclusively further exempt purposes as described in
Treas. Reg. Section 1.501(c)(3)-1(c)(1); rather, this is a substantial nonexempt activity.

Unlike the organization described in Rev. Rul. 75-470, you are not restoring historical properties and making
them available to the public in a manner like a museum. Rather, you are planning to renovate and then operate a
hotel with related services, such as food, beverage and spa services, to the general public, similar to any other
hotel.

Rev. Rul. 86-49 provides clarification on the factors that demonstrate how “historical” is determined. You do
not have any of the historical characteristics described in this ruling. Even if you did, only the initial portion of
your activities involve the renovation of a building. Your substantial post-renovation hotel activities are not
exclusively charitable or educational in nature, precluding you from exemption under Section 501(c)(3) of the
Code.

An organization is not operated exclusively for charitable purposes, and thus will not qualify for exemption
under Section 501(c)(3), if it has a single non-charitable purpose that is substantial in nature, as noted in Better
Business Bureau of Washington, D.C., Inc. In the same way, your substantial nonexempt purpose of operating a
hotel precludes your claim of tax exempt status.

Like the organization described in B.S.W. Group, Inc., you intend to operate the restored hotel in a manner so
that it is self-sustaining. You do not intend to solicit donations or voluntary contributions after the renovations
are complete. You plan to lease the hotel to a management company or form a partnership to handle the hotel
operations. Similar to Airlie Foundation, although you do plan on having a few incidental charitable and
educational activities, your primary activity is operating a hotel in a manner nearly identical to and in
competition with other for-profit hotels. Your primary activities are not exempt under Section 501(c)(3) of the
Code, precluding you from exemption.

Conclusion

You are formed to renovate a hotel that is not designated as historical and not located in a blighted area. You
intend to operate it in a manner similar to a for-profit hotel after renovations have been completed. Any
charitable or educational purposes you have are incidental to your substantial non-exempt purposes. Therefore,
you are not operated exclusively for exempt purposes and do not 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

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

5

• 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.

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 or she received
it.

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

6

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