Originally published on Forbes.com on July 15th, 2012
The Katie Holmes – Tom Cruise divorce got me interested in looking at the tax issues surrounding Scientology. I opened up a Pandora’s box for myself and it is going to put me behind on other things, because I promised to keep it on the front burner. I realized though that the recent Sixth Circuit decision in Asmark Institute, Inc. is relevant in a small way, so I will treat it before I finish up my response to Scott Pilutik. Asmark applied for exempt status and was turned down by the IRS. Asmark appealed to Tax Court and lost and it also lost in the Sixth Circuit. Here is what Asmark is about:
For more than 21 years, the Asmark Institute, a non-profit resource center, has led the way in developing innovative solutions for agricultural retailers throughout the United States. Working exclusively through the state agribusiness associations and in cooperation with the national organizations and government agencies, the Institute acts as a national resource center for compliance materials and services, develops common sense solutions to new regulatory requirements, monitors enforcement activity for uniformity, provides advocacy and supports industry efforts to ward off adverse regulation.
The company had started as a for-profit, but decided to go not-for-profit in 2005
Rich in history, Asmark, Inc. pioneered the way to common-sense and cost-effective compliance. On January 20, 2005, the owners, Allen & Susan Summers and partner, Randy Lawrence, donated the company to form the Asmark Institute. The feeling was what had been developed through the first fifteen years was a collective work product derived from the unique working relationship with their clients. Industry leaders determined that what had been developed was best utilized through a non-profit approach carried out cooperatively with the state and national associations.
So why was their application for 501(c)(3) status denied?
(1) Appellant’s substantial, non-exempt purpose was to operate a commercial business; (2) Appellant did not show that its earnings would not inure to the benefit of its three key officers and board members; (3) Appellant did not show that its revenue-sharing affiliations with the trade associations would not grant impermissible benefits to at least some for-profit entities; (4) Appellant did not lessen the burdens of the government, nor was Appellant recognized as performing any work on the government’s behalf; and (5) Appellant’s stated desire to protect its clients from regulatory enforcement actions served the clients’ private for-profit interests “more than incidentally.”
Other than that Mrs. Lincoln, how did you enjoy the play ?
In coming to the decision, the court noted that the Institute had not projected any donations as part of their revenue stream. There was also concern about the compensation system:
On appeal, Appellant explains that these officers actually receive the same amount, if not slightly less, than they did before, and that the apparent difference is attributable to an accounting discrepancy. However, Appellant also admits that its performance-based compensation structure would allow these officers’ salaries to increase as Appellant’s business grows. Appellant has provided no proof to dispel the obvious inference that this structure is designed to allow AI’s former owners to reap the increased profits Appellant expects from gaining access to a formerly unavailable client base.
If you are not going to be seeking donations and you are going to take out much of the profits as compensation, why bother applying for exempt status ? Run as an LLC or an S Corporation and pay a single level of tax on the earnings, just as you will if you take salaries from your not-for-profit. Why indeed ?
According to Appellant’s representations, securing § 501(c)(3) status is a critical business measure for reaching those projected benchmarks. Appellant explains that tax-exempt status solves an issue that previously impeded AI’s growth. Because many of the trade associations with whom AI seeks to partner are themselves non-profit entities, Appellant states that these associations are precluded from sharing revenue with a for-profit entity on private inurement grounds. Appellant contends that unless it obtains § 501(c)(3) status, it cannot partner with these non-profit trade associations. Appellant does not dispute that its application for tax-exempt status grew out of a desire to resolve this concern and to provide for expansion of AI’s business model.
Some organizations are applying for exempt status, not so much for the benefits that exempt status provides as for the credibility and access that it creates. Another example would be in PLR 201120036 which I described in this post. It concerned a group totally funded by “Company Y”, that celebrated how gay friendly “Company Y” was. 501(c)(3) status was denied because the group was too much about Company Y. IRS helpfully suggested that they consider 501(c)(5), (labor organization), but gay friendly Company Y don’t want its people belonging to no stinking unions. Since the organization was totally funded by Company Y, it is hard to see what they would have gotten out of 501(c)(3) status other than credibility with other human rights organizations. In my post “So You Want To Be An Exempt Organization ?”, I give the example of an organization that was applying so it could get a liquor license and another that would raise money for kids to participate in gymnastics, but each set of parents would have to raise enough money for their kid.
Here is my beef with all this. The IRS has enough of a job collecting taxes, without us relying on them to give a stamp of approval to organizations so we feel better about doing business with them or letting them sell liquor or run gambling operations. The exempt organization process, which ties into charitable deduction deductibility is necessary, but we should not rely on it for more than that. 501 status is important and I help organizations obtain and maintain it both as a professional and as a volunteer, but its value as a source of credibility is severely limited. Actually, if somebody makes a big deal out of being a 501(c)(3) organization as if that gives them a big extra dose of credibility, my BS detector kicks into overdrive. (If they are mentioning it to give reassurance about deductibility that is fine, but if they are implying that it means they are somehow more trustworthy, look out.)
As I said the connection to the ongoing discussion of Scientology is slight, but here it is. Among the reasons that Mr. Pilutik lists that, in his opinion, support removal of Scientology’s exempt status is that it breaks up families and countenances child abuse. If that is, in fact, going on, don’t think you are going to get to the bottom of it by calling in revenue agents, who are basically accountants, and tax lawyers. You have to accept that an organization might meet the requirements for exemption and still not be such a hot organization by your lights. By expanding the significance of exempt status we are putting too much reliance on the IRS.
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