IRS denies 501(c)(3) status to a group that leases advertising vehicles to disabled individuals, finding it runs a commercial business

Plain-English summary

An organization applied to be recognized as a tax-exempt charity under § 501(c)(3), saying its purpose was to help disabled people earn a living. Its actual plan was to lease outdoor advertising units to disabled individuals for a monthly fee; the individuals would then sell ad space on the units to generate income. The IRS denied exemption because, on these facts, the organization flunks the "operational test": its primary activity is a fee-based leasing business run in a commercial manner, which is a substantial nonexempt purpose and an unrelated trade or business under § 513. Charging fees set to cover the organization's own costs lacks the "donative element" that would make the activity charitable, and serving disabled clients does not change that (citing Rev. Rul. 72-369 and Airlie Foundation v. IRS). Because the organization did not protest the proposed adverse determination within 30 days, the denial became final. The document reproduced here bundles the final adverse letter (Letter 4038) with the earlier proposed adverse letter (Letter 4034) that lays out the full reasoning.

Ruling snapshot

• Question: Does an organization that leases advertising units to disabled individuals for a fee qualify for exemption under § 501(c)(3)?
• Outcome: denied
• Key authorities: IRC §§ 501(c)(3), 513(a), 513(c); Treas. Reg. § 1.501(c)(3)-1(a), (c), (e); Rev. Rul. 72-369; Airlie Foundation v. IRS

Full text (IRS public release)

Department of the Treasury
Internal Revenue Service                       Date: July 1, 2020

Tax Exempt and Government Entities

                                               Employer ID number:
IRS PO Box 2508
Cincinnati, OH 45201                           Form you must file:
                                               Tax years:
Number: 202039019                              ao te contact:
Release Date: 9/25/2020                        ID number:
                                               Telephone:

UIL: 501.32-00, 501.32-01, 501.33-00

Dear

This letter is our final determination that you don’t qualify for exemption from federal income tax
under Internal Revenue Code (IRC) Section 501(a) as an organization described in IRC Section
501(c)(3). 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 IRC Section 501(c)(3), donors generally
can’t deduct contributions to you under IRC Section 170.

We may notify the appropriate state officials of our determination, as required by IRC Section 6104(c), by
sending them a copy of this final letter along with the proposed determination letter.

You must file the federal income tax forms for the tax years shown above within 30 days from the date
of this letter unless you request an extension of time to file. For further instructions, forms, and
information, visit www.irs.gov.

We'll make this final adverse determination letter and the proposed adverse determination letter
available for public inspection after deleting certain identifying information, as required by IRC Section
6110. 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.

Letter 4038 (Rev. 5-2020)
Catalog Number 47632S

If you have questions about this letter, you can call the contact person shown above. If you have
questions about your federal income tax status and responsibilities, call our customer service number at
800-829-1040 (TTY 800-829-4933 for deaf or hard of hearing) or customer service for businesses at
800-829-4933.

Sincerely,

Stephen A. Martin
Director, Exempt Organizations
Rulings and Agreements

Enclosures:
Notice 437
Redacted Letter 4034
Redacted Letter 4038

Letter 4038 (Rev. 5-2020)
Catalog Number 47632S

Department of the Treasury

Internal Revenue Service

Cincinnati, OH 45201
Date: May 8, 2020
Employer ID number:
Contact person/ID number:

Contact telephone number:

Contact fax number:

Legend:                                        UIL:

B = State                                      501.32-00
C = Date                                       501.32-01
D = Name                                       501.33-00
E = Website

w dollars = Amount
x dollars = Amounts

Dear

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

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

Facts

You were formed in B on C. Your corporate purpose in part is to develop employment opportunities for the
welfare of the disabled and improve their quality of life. You will accomplish this by leasing D to handicap
individuals for w dollars per month. D is an ready for
outdoor use, which is designed to display advertising in public places such as sidewalks and corners at busy
traffic intersections where there is maximum visibility. Specifically, there are sign systems on D which enable
up to businesses to advertise on D.

Handicapped individuals who lease D will then be able to use the signage on D to sell advertising in order to
generate advertising income to cover the lease payments and also allow them to become self-sufficient through
the remainder of the receipts. You believe that they will be able to generate revenue in the range of x dollars per

Letter 4034 (Rev. 11-2018)
Catalog Number 47628K

2

month depending on their pricing and the number of hours the individual devotes to this. Additionally, you
indicated the leasing fees cover the design, modification and acquisition of the vehicle costs.

You will be funded through the receipts from leasing D. You will also raise funds through direct email
campaigns, postings on social media and on your website as well as through crowd funding websites. You
currently have a campaign on E. There are no restrictions, but goods and services are developed for the
disabled. Recipients are selected by the ability to

You have a governing board consisting of individuals who receive some compensation. Your expenses are
for advertising and marketing, equipment, supplies and compensation. You will primarily market and promote
B through social media web sites and the internet.

Finally, you indicated that although your goods and services are targeted to help the disabled, participation is,
however not limited to the disabled.

Law

IRC Section 501(c)(3) exempts from taxation any corporation organized and operated exclusively for religious,
charitable, scientific, testing for public safety, literary, or educational purposes, or to foster national or
international amateur sports competition, or for the prevention of cruelty to children or animals, provided no
part of the net earnings of which inures to the benefit of any private shareholder or individual.

IRC Section 513(a) describes an “unrelated trade or business” as any trade or business the conduct of which is
not substantially related to the exercise or performance by such organization of its charitable, educational, or
other purpose or function constituting the basis for its exemption under Section 501 Code.

IRC Section 513(c) provides that a “trade or business” includes any activity which is carried on producing
income from the sale of goods or the performance of services. Where an activity carried on for profit
constitutes an unrelated trade or business, no part of such trade or business shall be excluded from such
classification merely because it does not result in profit.

Treasury Regulation Section 1.501(c)(3)-1(a)(1) provides that, in order to be exempt as an organization
described in IRC Section 501(c)(3), an organization must be both organized and operated exclusively for one or
more of the purposes specified in IRC 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 IRC 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.

Treas. Reg. Section 1.501(c)(3)-1(e)(1) provides that an organization may meet the requirements of IRC
Section 501(c)(3) although it operates a trade or business as a substantial part of its activities, if the operation of
such trade or business is in furtherance of the organization's exempt purpose or purposes and if the organization
is not organized or operated for the primary purpose of carrying on an unrelated trade or business as defined in
IRC Section 513.

Letter 4034 (Rev. 11-2018)
Catalog Number 47628K

3

In Rev. Rul. 72-369, 1972-2 C.B. 245, an organization was formed to provide managerial and consulting
services for section 501(c)(3) organizations to improve the administration of their charitable programs. The
organization enters into agreements with unrelated section 501(c)(3) organizations to furnish managerial and
consulting services on a cost basis. This revenue ruling stated that:

An organization is not exempt merely because its operations are not conducted for the purpose of producing
a profit. To satisfy the ‘operational test,’ the organization's resources must be devoted to purposes that
qualify as exclusively charitable within the meaning of section 501(c)(3) of the Code and the applicable
regulations. Providing managerial and consulting services on a regular basis for a fee is a trade or business
ordinarily carried on for profit. The fact that the services in this case are provided at cost and solely for
exempt organizations is not sufficient to characterize this activity as charitable within the meaning of
section 501(c)(3) of the Code. Furnishing the services at cost lacks the donative element necessary to
establish this activity as charitable.

In Airlie Foundation v. Internal Revenue Service, 283 F. Supp. 2d 58 (D.D.C., 2003), the Court determined the
organization was operated for non-exempt commercial purposes rather than for exempt purposes because of the
commercial manner in which the organization conducted its activities. The organization did not qualify for
exemption.

Application of law
You do not meet the requirements for recognition of tax exemption under IRC Section 501(c)(3) because you
fail the operational test.

You fail the operational test for IRC Section 501(c)(3) because your primary activity is the conduct of a trade or
business for the production of income. You lease D to handicapped individuals who can pay the fees to cover
the costs. They are then expected to use D to sell advertising to cover their costs. This shows that you operate
in the same manner as a for profit business. Based on Treas. Reg. Section 1.501(c)(3)-1(e)(1), you do not meet
the requirements for recognition of tax exemption under Section 501(c)(3) because you are operated for the
primary purpose of carrying on an unrelated trade or business, as defined in IRC Section 513(a) and IRC
Section 513(c).

Furthermore, you fail the operational test as described in Treas. Reg. Section 1.501(c)(3)-1(a)(1). You are not
operating per Treas. Reg. Section 1.501(c)(3)-1(c)(1) because you operate for a substantial nonexempt
commercial purpose. Your activities consist of leasing D to handicapped individuals to cover your costs of
modifying it for them. This is a substantial nonexempt purpose which precludes you from exemption.

You are like the organization described in Rev. Rul. 72-369, 1972-2 C.B. 245 because you are operating in a
commercial manner. Your leasing fee is based on your costs to cover the acquisition, design, and the
modification of D for the particular user. The fact that you mainly provide your services to disabled individuals
is not sufficient to characterize the activity as charitable because this lacks the donative element necessary to
establish this activity as charitable.

You are similar to the organization described in Airlie Foundation v. Internal Revenue Service. The fact that
you sell products and provide services to the public for a fee directly competes with other businesses that
provide similar products and services. Like any commercial business, your products are available to any
individual willing to pay your leasing fees.

Letter 4034 (Rev. 11-2018)
Catalog Number 47628K

Conclusion

Based on the above facts and analysis, you do not qualify for tax exemption because you are not operated
exclusively for purposes described in IRC Section 501(c)(3). You have a substantial nonexempt commercial
purpose. Accordingly, you do not qualify for exemption under Section 501(c)(3).

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.

If you don't agree

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

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

• A statement of the facts, law, and arguments supporting your position

A statement indicating whether you are requesting an Appeals Office conference

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

The following declaration:

For an officer, director, trustee, or other official who is authorized to sign for the organization:
Under penalties of perjury, I declare that I have examined this request, or this modification to the
request, including accompanying documents, and to the best of my knowledge and belief, the request
or the modification contains all relevant facts relating to the request, 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 they haven’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 gave us a basis to reconsider our determination. If so,
we’ll continue to process your case considering the information you provided. If you haven’t given us a basis
for reconsideration, we’ll send your case to the Appeals Office and notify you. You can find more information
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 later because the
law requires that you use the IRC administrative process first (IRC Section 7428(b)(2).

Letter 4034 (Rev. 11-2018)
Catalog Number 47628K

Where to send your protest
Send your protest, Form 2848, if applicable, 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
Mail Stop 6403                                 550 Main Street, Mail Stop 6403

P.O. Box 2508                                  Cincinnati, OH 45202

Cincinnati, OH 45201

You can also fax your protest 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 they received it.

You can get the forms and publications mentioned in this letter by visiting our website at www.irs.gov/forms-
pubs or by calling 800-TAX-FORM (800-829-3676). If you have questions, you can contact the person listed at
the top of this letter.

Contacting the Taxpayer Advocate Service

The Taxpayer Advocate Service (TAS) is an independent organization within the IRS that can help protect your
taxpayer rights. TAS can offer you help if your tax problem is causing a hardship, or if you’ve tried but haven’t
been able to resolve your problem with the IRS. If you qualify for TAS assistance, which is always free, TAS
will do everything possible to help you. Visit www.taxpayeradvocate.irs.gov or call 877-777-4778.

Sincerely,

Stephen A. Martin
Director, Exempt Organizations
Rulings and Agreements

Letter 4034 (Rev. 11-2018)
Catalog Number 47628K