Are new “EZ” charities second class?

By Zac Kester, JD, LLM, CFRM, at Charitable Allies

By now you’ve likely heard of the new IRS Form 1023-EZ, a streamlined Application for Recognition of Tax Exemption that greatly reduces entry barriers for new, small charities. There are some potential benefits. There are some serious potential drawbacks.

The benefits are fairly obvious.

·       The application fee is only $400, instead of $850. The total form is only 2½ pages, rather than 12 pages with eight schedules and scores of pages of attachments.

·       The time necessary to complete the new EZ application is less than 10 percent of the time necessary to complete the regular application. Less time is spent on administrative and managerial tasks.

·       The organization still gets an IRS “determination letter” and in about three weeks instead of 12 to18 months.

·       The organization may receive tax-deductible contributions.

This is the good news.

But what are the drawbacks? They are more serious than you might imagine.

Some drawbacks are obvious. With the new simple form, nonprofits now may fail to think through business planning, program development or board development. Most charities that complete the full Form 1023 receive substantial guidance from an accountant, lawyer or other professional. As part of the startup process, these professionals usually advise on the overall regulations and wise business practices.

The major issue lurking is that highly respected attorneys in the field are advising private foundations and, by extension, other major funders and grantmakers NOT to respect or honor the EZ “determination letter.”

Private foundations are responsible for how their money is used, even after it leaves their possession, which is why their grant application process can be so cumbersome. Without the built-in safeguards of the “long form,” private foundations would want to complete an extensive, expenditure-responsibility-like, in-depth review of all activities of a grant applicant. This would be cost-prohibitive and fraught with risk, risk that was once borne by the IRS. Most private foundations cannot afford this kind of responsibility.

This effectively creates a “second class” of charities, those who took the “EZ” route, and those who took the time and energy to complete a full Form 1023.

The kicker? Once a charity takes the “EZ” route, they cannot undo it. They cannot go back and reapply with the full Form 1023. They may forever be second class.

Charities and donors should seek competent counsel when determining whether a novel process is as good as it seems. Most often, if it seems too good to be true, it probably is. 

Take a deeper look here.

Attorney Zac Kester provides generalist and strategic nonprofit legal and consulting services. He holds a Master of Law, a post-law school advanced degree, in which he studied the unique needs of tax-exempt nonprofit organizations. His legal and consulting career has focused on nonprofit organizations.

A Look Rearward and Forward

Rely on Financial Statements to Make Decisions for the Future

By Yvonne de Calonne

Financial statements regularly slide over your desk and pass through board members' hands, providing a wealth of financial data on your nonprofit's most recent month, quarter or year. But do you and the board rely on this valuable information to make business decisions and plan for the organization's future?

Looking for insights
Think of the audited financial statements as a family album, providing a history of your nonprofit's financial past. Examining that past can help you better manage your organization now and in the months and years ahead.

To glean meaningful insights from these documents, you need to understand what each statement represents. Take it a step further, and you (or the board members) can use the data to create a trend analysis, an industry comparison or a projection of upcoming challenges. Such tools can springboard your organization to making better-informed decisions.

Understanding basic financials
Being able to use the information in basic financial statements to strategize for your organization starts with understanding the statements' purposes and components. Continue reading here.

Yvonne B. de Calonne joined VonLehman a year ago after her previous company, Dunbar, Cook & Shepard was acquired. She graduated with a Bachelor of Science degree in accounting from IUPUI and has over 25 years in the field. Yvonne specializes in tax, audit and accounting services for nonprofit organizations.

Welcome FirstPerson!

FirstPerson and Paul Ashley are regular sponsors of the Central Indiana Nonprofit Salary Survey and are now joining the weekly sponsor team for the Not-for-Profit News. We requested them to provide a quick overview of how they serve nonprofits.

The name FirstPerson reflects our passion for working with clients on a personal level. We are not a typical professional advisory firm—FirstPerson truly puts people first. We are partners, advisors, experts, communicators, friends, and neighbors who want you to be passionate about what you do and to succeed.

FirstPerson knows that each organization has its own story. Our solutions are designed to fit each company’s unique culture and needs. As a team, we walk alongside you to create confidence and give you the capacity to go above and beyond all expectations. http://firstpersonadvisors.com/

Ready to partner with us? Let FirstPerson tailor creative solutions for you in the areas of benefits, communication, wellness, human resources, compliance, and compensation. Get in touch with Paul Ashley today at 317.218.1518 or pashley@firstpersonadvisors.com.

Paul Ashley serves as an advisor for FirstPerson with a focus on nonprofit clients. As the ambassador of the FirstPerson brand, Paul looks for ways to grow the business and help create confidence for employers who face complex business challenges.

 

How the Camp reform draft affects not-for-profit organizations

Author: Noelle Alberto, Associate

Effect of unrelated business income tax: Most universities are considered tax-exempt entities. If the university runs a restaurant that serves both the students and the public, the proceeds from the restaurant would be considered unrelated business income. The restaurant is a business that is regularly carried on by the university, and isn’t substantially related to the school’s exempt purpose.

In February, House Ways and Means Committee Chairman Dave Camp (R-Mich.) released a draft of the Tax Reform Act of 2014. This proposal includes multiple major federal tax code changes affecting individuals, businesses and not-for-profit organizations. Here are four areas that would significantly affect the not-for-profit community.

Charitable contributions

The draft proposes a couple notable provisions regarding charitable contribution deductions on an individual’s tax return:

·       Contributions can only be deducted to the extent they exceed 2 percent of the adjusted gross income (AGI); an individual with $200,000 AGI will receive no benefit for the first $4,000 of donations.

·       Individuals may elect to treat contributions paid after the close of the tax year, but before filing the return the following April, as part of the current tax year’s deduction.

While supporters believe the simplification and extension of time will increase the amount of charitable giving, others believe the contrary. According to a 2011 Congressional Budget Office (CBO) study, the average taxpayer gave between 2.5 percent and 3.4 percent of their income to charity in 2008. The proposed 2 percent floor could decrease the incentive to donate since the tax benefit would be much lower. The CBO estimates charitable giving to fall by approximately $3 billion after the passing of such a provision, seriously affecting future contribution revenue.

Unrelated business income tax

The proposal alters the calculation of unrelated business income tax (UBIT) for tax-exempt entities in several ways:

·       All tax-exempt entities under Internal Revenue Code (IRC) Section 501(a) will be subject to UBIT rules regardless of the organization’s exemption under another IRC provision. For example, a government-sponsored organization exempt under Section 115(1) and Section 501(a) will now be subject to taxes on any income derived from a regularly carried out trade or business not substantially related to the organization’s tax-exempt function.

·       Royalty revenue for licensing an organization’s name or logo will be subject to UBIT.

·       Organizations will separately calculate their net UBIT for each line of unrelated business, as opposed to calculating UBIT from aggregate gross income across all unrelated trades. Net operating losses derived from each line will be carried forward to offset any future income from that same line of business.

·       Income derived from research made available to the public will be the only research income exempt from UBIT; proprietary research currently exempt will be subject to UBIT.

·       Qualified sponsorship payments could be subject to UBIT as advertising income if the organization uses or acknowledges any of the sponsor’s product lines as a result of the payment. Payment of more than $25,000 for any one event must be acknowledged in the same manner as a significant portion of the other donors of the event. This means an organization may not give special treatment or list the name or logo of the sponsor in a different format than any other donor.

·       The specific deduction of $1,000 against income subject to UBIT will be increased to $10,000.

This provision may result in increased areas of business that could be subject to UBIT; however, the increase of the specific deduction could significantly reduce the number of organizations paying tax on unrelated business income.

Excise taxes and excess benefits

The intermediate sanctions regarding excise taxes also will change considerably by the proposed provisions:

·       Tax-exempt entities under §501(c)(5) and §501(c)(6) will be subject to the excess benefit transaction rules.

·       When an excess benefit excise tax is imposed on a disqualified person, the organization also will be subject to an excise tax of 10 percent of the excess benefit unless the organization follows minimum levels of due diligence, including:

o   Approval by an independent body within the organization

o   Reliance on comparability data prior to the approval

o   Documentation of the basis for approval

·       The definition of the disqualified person mentioned above also will expand to include athletic coaches and investment advisors.

Unfortunately, the levels of due diligence above will no longer establish the “rebuttable presumption of reasonableness” supporting the organization’s valuation of reasonable compensation paid to the top management officials. If the IRS disputes compensation, the organization now would carry the burden of proving the transaction is equitable. The relating safe harbor for managers who rely on professional advice for excess benefit transactions also will be eliminated with the provisions.

Additional excise taxes proposed by the reform draft include the following:

·       Compensation in excess of $1 million paid to any of the five highest-compensated employees will trigger a 25 percent excise tax for an organization. Currently, this rule only applies to publicly traded organizations, but the new legislation will expand it to all not-for-profits.

·       Private colleges and universities will be subject to a 1 percent excise tax on net investment income. This tax will only apply to schools with at least $100,000 in assets per full-time student.

·       A 20 percent excise tax will be imposed on an organization for any donor-advised funds not distributed within five years.

·       A private foundation excise tax for net investment income will be a flat 1 percent for all organizations, rather than the current 1 percent rate or 2 percent rate dependent on meeting distribution requirements.

The authors of the Camp tax reform draft believe these additional excise tax provisions will either reduce or have a minimal effect on future revenue. While this may be true for many organizations, it is important to monitor your organization’s practices to ensure these new taxes (if enacted) won’t be triggered.

Additional requirements for tax-exempt organizations

The requirements for organizations to obtain tax-exempt status also will change with the passage of these reforms, and a number of organizations will lose their exempt status, including:

·       Professional sports leagues, e.g., the National Football League

·       Property & casualty insurance companies

·       Qualified health insurance issuers

·       Type II and Type III supporting organizations

The change for Type II and III organizations will have the biggest impact. Organizations will be able to qualify only as a Type I supporting organization or risk treatment as a private foundation.

Conclusion

While there are advantages to this proposal, such as the increased UBIT deduction and the simplification of tax on net investment income, there also are disadvantages that may seem daunting. Fortunately, the not-for-profit community likely has little to fear from this proposal for the immediate future. As it is an election year, it is very unlikely the legislation will make it out of committee anytime soon. However, while we may not see overall tax reform for several years, many not-for-profit provisions seem to make their way into numerous pieces of legislation that pass quickly. Therefore, exempt organizations should stay on top of legislative developments.

If you have any additional questions or concerns about how these provisions may affect your organization, please contact your BKD advisor or Paige Gerich or Noelle Alberto.

Noelle Alberto is a tax associate at BKD, LLP in the company’s Dallas office.  She graduated with a Master of Science in Accounting from Southern Methodist University in 2013.

This information was written by qualified, experienced BKD professionals, but applying specific information to your situation requires careful consideration of facts and circumstances.  Consult your BKD advisor before acting on any matter covered here.

Article reprinted with permission from BKD, LLP, bkd.com.  All rights reserved.