The IRS and Nonprofit Leadership

Accountability

A Discussion of “Intermediate Sanctions”

Disclaimer

Nothing in this presentation is intended to be legal or tax advice. Always consult with

knowledgeable counsel on any issue relating to regulatory compliance.

This presentation deals with Section 4958 of the Internal Revenue Code. Visit the IRS web site

for more information:http://www.irs.gov/Charities-&-Non-Profits/Charitable-Organizations/Intermediate-Sanctions

Honesty cartoon

Nonprofits in the News(usually for the wrong reasons!)

• United Way of America – William Aramony• September 11 charity• American Red Cross – 9/11, etc.• Jerry Sandusky/Penn State/The Second Mile• “Pennies for Charity” and state AGs• Katrina• Nonprofit hospitals• University endowments• Local “scandal du jour”

IRS historical approach to exempt organization (EO) (nonprofit org.)

enforcement

The nonprofit organization risked loss of

exempt recognition

Change in approach – rationale

• Perception by IRS & Congress that nonprofits are getting away with abuses of their tax-exempt recognition

• Traditional approach punishes the organization (and its beneficiaries) for bad acts of individuals

• Individuals not held properly accountable for bad acts

Definition of “Intermediate Sanctions”

The penalties imposed under Internal Revenue Code Section 4958 on persons involved in excess benefit transactions.

Intermediate sanctions are an alternative to the revocation of an

organization’s tax-exempt recognition when private individuals receive an

excess benefit.

Excess benefit transactions – general

“A transaction in which an economic benefit is provided by an applicable tax-exempt organization,

directly or indirectly, to or for the use of any disqualified person, and the value of the economic

benefit provided by the applicable tax-exempt organization exceeds the value of the consideration (including the performance of services) received for

providing the benefit…. An excess benefit transaction also can occur when a disqualified person embezzles

from the exempt organization.”Source: IRS Publication 557http://www.irs.gov/publications/p557/ch05.html

Organizations covered under IS

• 501(c)3 (charities) and 501(c)4 (social welfare) organizations

Note: private foundations are not covered under Intermediate Sanctions regulations because they have similar regulations to follow already

Churches are covered under Intermediate Sanctions even if they haven’t filed for exempt

recognition

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Conflicts of Interest

• Conflicts are almost inevitable• A conflict is not necessarily illegal• Conflicts must be disclosed in writing• Conflicts must be managed through policy

Individuals covered under IS“disqualified persons”

• All voting board members and their family members• All CEOs/Executive Directors and their family members• All treasurers/CFOs and their family members• Generally, donors of more than $5,000 if their

contribution exceeds 2% of the nonprofit’s revenue for any period of time, and their family members

• “Persons with a material financial interest in certain healthcare provider-sponsored organizations if a hospital that participates in the provider-sponsored organization is an applicable tax-exempt organization.” (And their family members)

• Current and former included (five-year look-back period)

Penalties for excess benefit transactions

First tier penalties• Individual benefiting – 25% excise tax on the

amount of the excess benefit, plus "making the nonprofit whole"

• Organization manager* – 10% excise tax on the amount of the excess benefit (up to $20,000 per transaction for tax years after August, 2006)

Second tier penalties• Individual benefiting – additional 200% excise

tax on the amount of the excess benefit

Conflict of interest cartoon 2

Excess benefit transactions -- employees

Compensation• Includes all salary, commissions, fringe benefits (except

for certain exclusions), reimbursed expenses, etc.• “Highly compensated employee” - anyone with total

compensation exceeding $150,000 in 2013, regardless of title/position

Revenue-sharing transactions• Includes percentage compensation and compensation

tied to nonprofit revenue (e.g., incentive pay)

"Safe harbor" -- "rebuttable presumption of reasonableness"Examples:• Board-led executive compensation studies on file• Multiple written bids for products, independent land

appraisals, etc. • Consultation with legal counsel, accountants, etc.

(Independent - NOT BOARD MEMBERS)

Boards and managers who rely on independent counsel are generally safe from IS penalties

Demonstrate reasonableness through documentation – document, document,

document!• Conflict of interest policy for organization

IRS has an example – Appendix A of Form 1023/1024

http://www.irs.gov/pub/irs-pdf/i1023.pdf - pages 25-26

• Board minutes documenting action on transactions including conflicts, recusal of board members, etc.

• Written board recruitment program including questionnaires documenting conflicts

• Document managers’ conflicts – at least annual disclosure

Enforcement risks

• Disgruntled/former employees/donors/clients

• Media• “Public Advocates”• “Your 990 is showing!”

http://www.guidestar.org

The IRS may, or may not, investigate your nonprofit’s practices, but others are often more likely to ask uncomfortable questions

Additional resources

• IRS web site:http://www.irs.gov/Charities-&-Non-Profits/Charitable-Organizations/Intermediate-Sanctions

• Federal Register (2002 final rule):http://www.gpo.gov/fdsys/pkg/FR-2002-01-23/pdf/02-985.pdf

• The Law of Intermediate Sanctions: A Guide for Nonprofits

Bruce R. HopkinsISBN-10: 0471224022 / ISBN-13: 978-0471224020

Thank You!

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