Is a nonprofit professional corporation exempt from New York corporate franchise tax if it holds federal 501(c)(3) tax-exempt status but was required by state law to issue stock?

Subject

Whether University Medical Practice Services, P.C. is exempt from the Article 9-A franchise tax under 20 NYCRR § 1-3.4(b)(6), the nonprofit-corporation exemption.

Plain-English summary

University Medical Practice Services, P.C. was created to help the SUNY at Buffalo School of Medicine provide clinical instruction — the school had no teaching hospital of its own in Buffalo, and this professional corporation gave students an additional site where faculty could supervise hands-on patient care. Because New York law only allows the practice of medicine through a professional corporation (not a nonprofit corporation), the entity had to be organized under the Business Corporation Law and technically issue stock — one share, sold for $1.00, to the Dean of the medical school. The Dean received no compensation and assigned away all rights to dividends or dissolution proceeds to the university (or to another qualified charity if the university ever lost its tax-exempt status). The IRS had already recognized the corporation as tax-exempt under section 501(c)(3).

The Department still ruled the corporation taxable under Article 9-A. New York's nonprofit exemption in 20 NYCRR § 1-3.4(b)(6) is written narrowly: it covers only a corporation that "does not have stock or shares or certificates for stock or for shares" — a nonstock structure, like a typical not-for-profit corporation. The Department traced this limitation to legislative history: a 1966 bill that would have explicitly extended the exemption to nonprofit stock corporations was vetoed by the Governor specifically to avoid casting doubt on the (already-settled) exemption for nonstock corporations. Because the medical practice corporation held actual stock — even just one nominal $1.00 share with no economic rights — it fell outside the exemption regardless of its nonprofit operation or its federal 501(c)(3) status. Federal tax-exempt status only creates a presumption of exemption for corporations that otherwise qualify as nonstock; it doesn't extend the exemption to stock corporations in the first place.

What this means for you

Nonprofit organizations required to incorporate with stock (e.g., professional corporations)

If state law forces you into a stock-corporation structure — as New York does for the practice of medicine — being nonprofit in operation and federally tax-exempt under 501(c)(3) will not by itself get you New York's Article 9-A nonprofit exemption. The exemption is reserved for nonstock corporations. Consider this early when choosing an entity structure for any activity, like medical practice, where state law mandates a particular corporate form.

University-affiliated clinical practice corporations and medical schools

This is a direct doctrinal cousin of TSB-A-90(17)C (Ludwig Institute, from a prior session), which reached the same result for a medical-research nonprofit: NY's 1966 legislative veto deliberately limited the nonprofit exemption to nonstock corporations, and federal 501(c)(3) status doesn't override that state-law line.

Accountants and tax professionals

The controlling regulation, 20 NYCRR § 1-3.4(b)(6), and the case history cited (Cornell Research Foundation TSB-A-87(18)C, 1049 Management Corp. TSB-A-86(1)C, Cape Pond TSB-H-80(20)C) consistently hold that any stock corporation — however nominal the stock — is outside the nonprofit exemption, "regardless of whether it is organized and operated exclusively for nonprofit purposes."

Common questions

Q: Does having federal 501(c)(3) status guarantee New York franchise tax exemption?
A: No. Federal 501(c)(3) status creates only a presumption of exemption for a corporation that already qualifies as a nonstock nonprofit corporation — it doesn't override the requirement that the corporation have no stock at all.

Q: Does it matter that only one share worth $1.00 was issued, with no real economic value?
A: No. The Department found the amount and value of stock irrelevant — issuing any stock at all takes the corporation outside the nonstock-only exemption.

Q: Can another nonprofit professional corporation rely on this ruling?
A: No. This advisory opinion binds the Department only for the taxpayer and facts presented, and cannot be relied on by anyone else.

Citations and references

Statutes and regulations:

• Tax Law § 209.1 (Article 9-A franchise tax on corporations)
• 20 NYCRR § 1-3.4(b)(6) (nonprofit exemption limited to corporations with no stock or shares)
• 26 U.S.C. § 501(a), § 501(c)(3) (federal tax-exempt status)
• Business Corporation Law Article 15 (New York professional corporations)

Source

• Landing page: https://www.tax.ny.gov/pubs_and_bulls/advisory_opinions/corporation_ao_1990.htm
• Opinion: https://www.tax.ny.gov/pdf/advisory_opinions/corporation/a90_3c.pdf

Original ruling text

New York State Department of Taxation and Finance

Taxpayer Services Division
Technical Services Bureau

TSB-A-90(3)C
Corporation Tax
January 26, 1990

STATE OF NEW YORK
COMMISSIONER OF TAXATION AND FINANCE
ADVISORY OPINION

PETITION NO. C891003B

On October 3, 1989, a Petition for Advisory Opinion was received from University Medical
Practice Services, P.C., School of Medicine and Biomedical Sciences, SUNY at Buffalo, 174 CFS
Building, Buffalo, New York 14214.
The issue raised is whether Petitioner, University Medical Practice Services, P.C., is exempt
from the franchise tax imposed under Article 9-A of the Tax Law by reason of section 1-3.4(b)(6)
of the Business Corporation Franchise Tax regulations.
Petitioner is a newly created New York professional corporation formed for the purpose of
aiding and facilitating the provision of clinical instruction of students of the School of Medicine and
Biomedical Services (hereinafter "School of Medicine") of the State University of New York at
Buffalo (hereinafter "University"). The School of Medicine is a department of the University, an
organization exempt from federal and state taxes pursuant to its status as an agency of the State of
New York.
Petitioner was formed as a professional corporation under the New York Business
Corporation Law, Article 15, because New York State law requirements prohibit the practice of
medicine, even as an integral part of medical education, in any other corporate form. The Petitioner
has issued one share of its common stock to John P. Naughton, M.D., the Dean of the School of
Medicine, in consideration of a cash payment of $1.00. Petitioner's Certificate of Incorporation
provides that Petitioner will operate on a not-for-profit basis pursuant to a Shareholder Agreement
which requires that any new shareholder must hold the position of Dean or Acting Dean of the
School of Medicine. Pursuant to the Shareholder Agreement, the Dean of the School of Medicine
will not receive any compensation for services rendered as the sole director and officer of Petitioner
and has assigned all rights to dividends and assets distributable upon dissolution of Petitioner to (i)
the University to be used for the benefit of the School of Medicine or (ii) if the University ceases to
be qualified for tax-exempt status under section 501(c)(3) of the Internal Revenue Code then to a
qualified section 501(c)(3) organization selected by the sole director of Petitioner.
Petitioner furthers the educational purpose of the University by providing an opportunity for
multi-specialty clinical instruction of medical students by faculty of the School of Medicine. Clinical
instruction, an essential part of medical training, refers to teaching medical knowledge, skills and
procedures to students in the course of rendering care to patients. Petitioner also provides an
additional ambulatory site in compliance with the School of Medicine's public policy mandate for
increased ambulatory educational experiences for medical students and residents, and the importance
of this opportunity for clinical instruction in furtherance of the University's educational purposes is
TP-9 (9/88)

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TSB-A-90(3)C
Corporation Tax
January 26, 1990
underscored by the fact that the University does not own or operate a teaching hospital in Buffalo,
New York.
Petitioner has received a determination by the Internal Revenue Service that it is an
organization exempt from federal income tax under section 501(a) of the Internal Revenue Code as
an organization described in section 501(c)(3) of the Internal Revenue Code.
Section 1-3.4(b)(6) of the Business Corporation Franchise Tax regulations (hereinafter
"Regulations") exempts, from the imposition of the franchise tax, a corporation organized other than
for profit which does not have stock or shares or certificates for stock or for shares and which is
operated on a non-profit basis and no part of the net earnings of such corporation inures to the benefit
of any officer, director or member. This regulation also provides that a corporation exempt from
federal income taxation pursuant to section 501(a) of the Internal Revenue Code is presumed exempt
from tax under Article 9-A of the Tax Law and that the determination of the Internal Revenue
Service regarding tax exempt status will ordinarily be followed for New York State tax purposes.
Petitioner contends that it was formed under the New York Business Corporation Law,
Article 15, and has certificates for stock only because New York State law requirements prohibit the
practice of medicine, even in connection with medical education, in any other corporate form. Absent
this New York State law requirement, Petitioner would otherwise have been organized under the
New York Not-for-Profit Corporation Law. However, the stock has nominal value ($1.00), the
Petitioner is operated on a non-profit basis, and no part of the net earnings of Petitioner will inure
to the benefit of any officer, director or shareholder of Petitioner. Further, the Internal Revenue
Service has determined Petitioner to be exempt from federal income taxation pursuant to section
501(a) of the Internal Revenue Code as an organization described in section 501(c)(3) of the Internal
Revenue Code. Petitioner argues that section 1-3.4(b)(6) of the Regulations confirms that a
corporation exempt from Federal income tax under section 501(a) of the Internal Revenue Code is
presumed exempt from tax under Article 9-A of the New York Tax Law because the determination
of the Internal Revenue Service will ordinarily be followed.
Petitioner asserts that it has complied with all substantive provisions of section 1-3.4(b)(6)
of the Regulations and that it has certificates for shares of a nominal value ($1.00) only because New
York State law requirements prohibit the practice of medicine in any corporate form other than a
professional corporation.
Section 209.1 of Article 9-A of the Tax Law imposes a franchise tax on every domestic or
foreign corporation "[f]or the privilege of exercising its corporate franchise, or of doing business,
or of employing capital, or of owning or leasing property in this State .... " Section 1-3.4(b)(6) of the
Regulations exempts from the franchise tax "...corporations organized other than for profit which
do not have stock or shares or certificates for stock or for shares and which are operated on a
nonprofit basis no part of the net earnings of which inures to the benefit of any officer, director, or
member, including Not-For-Profit Corporations and Religious Corporations. Such section 1­
3.4(b)(6) provides further that "[a] corporation organized other than for profit, as described in

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TSB-A-90(3)C
Corporation Tax
January 26, 1990
this paragraph, which is exempt from Federal income taxation pursuant to subsection (a) of section
501 of the Internal Revenue Code, will be presumed to be exempt from tax under article 9-A."
It was not intended that such exemption be applied to not-for-profit stock corporations.
Senate Bill Introductory No. 2503 of 1966 would have explicitly exempted stock corporations
operated on a nonprofit basis. That bill was vetoed by the Governor on May 16, 1966 specifically
to avoid creating doubt about the exemption of nonstock corporations which is acknowledged as
valid but which is not explicit in the statute. Opinion of Counsel, November 28, 1967, NYTB 1967­
4, p. 47.
In Cornell Research Foundation, Inc., Adv Op St Tax Comm, July 20, 1987, TSB-A-87(18)C,
it was determined that a stock corporation, even if it is organized and operated exclusively for
nonprofit purposes, is not exempt from the franchise tax pursuant to section 1-3.4(b)(6) of the
Regulations. Also, see 1049 Management Corporation, Adv Op St Tax Comm, December 23, 1985,
TSB-A-86(1)C and Matter of Cape Pond, Inc., Dec St Tax Comm, July 18, 1980, TSB-H-80(20)C.
Based on the legislative history of this issue, State Tax Commission Advisory Opinions
issued, and State Tax Commission Decisions rendered, it is clear that a stock corporation, regardless
of whether it is organized and operated exclusively for nonprofit purposes, is not exempt from tax
pursuant to section 1-3.4(b)(6) of the Regulations.
Herein, Petitioner is a stock corporation. Therefore, Petitioner does not fall within the scope
of the exemption contained in section 1-3.4(b)(6) of the Regulations. It is of no consequence that
only one share of stock was issued in consideration of $1.00 or that Petitioner is exempt for federal
income tax purposes. Accordingly, Petitioner is subject to the franchise tax imposed by Article 9-A
of the Tax Law.

DATED: January 26, 1990

PAUL B. COBURN
Deputy Director
Taxpayer Services Division

NOTE: The opinions expressed in Advisory Opinions
are limited to the facts set forth therein.