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Nonprofit Law/Accumulation of Savings

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QUESTION: Hello, we have a nonprofit corporation where we classified 501c(3), in the state of California we are a public benefit.  I have 2 questions.  We have an average yearly revenue of $9000 and yearly expenses of the same amount.  Our assets total $6000 on average.  We were thinking of investing in one of our capital assets which is a mural we use for exhibiting during our yearly event, which is defined in our charitable purpose, "we exhibit a public religious ceremonial event yearly to promote the faith in our worship". Can our nonprofit organization have an undefined savings amout in a back account to eventually pay for improvements on this mural?  Basically we want to know how much money we can have in a savings account when the funds are to be used for a long term project?

The second question is can we have a fund account for death benefits for our members?  In other words, is it permitted to have a life insurance plan for our nonprofit or does that fall under the category of undue benefits for our members?

Thanks, Nick

ANSWER: 1.   I am assuming from what you wrote to me that the organization
is not a private foundation (you can confirm that on the IRS
determination letter).

There is no restriction for one or two years of accumulation of
funds.  However, if you do it for many years, then the IRS would
want to see a purpose for the accumulation. On page 126 of the
book "With Charity for All", author Ken Stern, former CEO of
National Public Radio wrote that "the standard benchmark for
charities: having an endowment and operating reserves at least
equal to the annual budget".  Therefore, I could not see any
problem maintaining at least that amount.

A 501(c)(3) organization that is not a private foundation may
accumulate funds for one or two years or so, as long as it
maintains substantial exempt activities, commensurate with its
financial resources. Exempt activities are those that are related
to the organization's purposes, not just activities to gain
funds. In other words they must be either religious, charitable
or educational activities. If it wants to accumulate funds longer
than a year or two, it must have a reason why it needs to save
up, i.e. for the purchase of a building. The test is that
accumulations of earnings and profits are necessary for the
reasonably anticipated needs of the organization.
http://goo.gl/Sc1Fl  page  12 (that document is a IRS National
Office Technical Advice Memorandum which cites to Presbyterian
and Reformed Publishing Co. v. Commissioner, 743 F.2d 148 (3rd
Cir. 1984), a U.S. Court of Appeals decision.

That Court explained accumulated earning tax.  The court quoted
Section 1.537-1(b)(1) of the Regulations, which sets forth the
rules for determining when accumulations of earnings and profits
are necessary for the reasonably anticipated needs of
a taxable business and applied that Regulation also to
nonprofits:
--- Start of Excerpt ---
In order for a corporation to justify an accumulation of earnings
and profits for reasonably anticipated future needs, there must
be an indication that the future needs of the business require
such accumulation, and the corporation must have specific,
definite and feasible plans for the use of such accumulation.
Such an accumulation need not be used immediately, nor must the
plans for its use be consummated with a short period after the
close of the taxable year, provided that such accumulation will
be used within a reasonable time depending upon all the facts and
circumstances relating to the future need of the business.  Where
the future needs of the business are uncertain or vague, where
the plans for the future use of accumulation are not specific,
definite and feasible, or where the execution of such a plan is
postponed indefinitely, an accumulation cannot be justified on
the grounds of reasonably anticipated needs of the business."
---End of Excerpt---

2.  A 501(c)(3) organization is supposed to be charitable, religious or educational and giving benefits to members that they have not paid for is not charitable, religious or educational.  Are you asking whether the members are going to pay for the insurance or, in the alternative, are you asking whether the organization can pay for that?  After you give me that information I will reply further.  

Harvey Mechanic
Attorney at Law
Harvey108@hotmail.com

P.S. This response is intended to be a general statement of law, should not be relied upon as legal advice and does not create an attorney/client relationship.


---------- FOLLOW-UP ----------

QUESTION: Hello,
Regarding the second question, the members are proposing to each pay $10 a year for a life insurance.  The life insurance is proposed at $1000 for each member, to be paid in the event of a death, which would go to the family of the member.  In addition, there are arrangements for funeral which are to be allocated to the family of the member.  The scenario is unclear for us since the law states that members cannot receive certain types of benefits.  Thanks.

ANSWER: It appears from what you wrote that the members would be paying the full cost of the life insurance. If they are, then the organization is not giving any benefits to members.  They would not be receiving any benefit from the organization but might from the insurance company.

That life insurance business is considered, though, by the IRS as "unrelated business". IRS Publication 598 "Tax on Unrelated Business Income of Exempt Organizations" at
http://www.irs.gov/pub/irs-pdf/p598.pdf
explains that,  if products or services are not directly related to the charitable, educational, religious or other purpose or function constituting the basis for its exemption (other than for production of income), then the activities are generally taxable.

Their exact wording is found in the middle column of page 3 "Unrelated business income is the income from a trade or business that is regularly carried on by an exempt organization and that is not substan-
tially related to the performance by the organization of its exempt purpose or function, except
that the organization uses the profits derived from this activity."

The IRS has declared, "Nonprofit organizations that are granted Federal tax exemption based on their mission-related purposes are allowed by the IRS, within certain limits, to generate income
from unrelated business activities."
http://www.irs.gov/pub/irs-soi/97eounrl.pdf on pdf page 1. But, the
organization could, if it has more unrelated activities than the IRS's vague "certain limit", be jeopardizing its exemption depending upon the facts and circumstances. Two of the main factors
is the gross income of the activity in relation to the gross income of the organization's total income and staff time spent on the activity.

Court cases reveal that 15%-20% or more can jeopardize exempt
status.

Harvey Mechanic
Attorney at Law
Harvey108@hotmail.com

P.S. This response is intended to be a general statement of law, should not be relied upon as legal advice and does not create an attorney/client relationship.



---------- FOLLOW-UP ----------

QUESTION: Hello,
To clarify the situation, the life insurance is not provided from a life insurance company but rather from the actual net revenue funds of the nonprofit organization.  I apologize for the vague reference, but the members are paying $10 yearly in exchange for a guaranteed amount of $1000 which is from the actual nonprofit savings.  We do not do business with any insurance company, rather the benefit is deriving from the actual nonprofit organization's assets.  I hope this clarifies the issue.  Thank you.

Answer
The organization would definitely not want to use the word "insurance" as that word is highly regulated in each state.  What you propose is an investment, where people invest $10 per year for their family to receive $1000 upon death.  One issue is why a 501(c)(3) organization would want to give such an investment opportunity if it was, as it is supposed to, be thinking of its own benefit, and not the benefit of members.  Is the organization offering that opportunity to people who are 70 or 80 years of age?  If not, then what is the age cut-off?   If the organization is offering the opportunity to members, why not to the public?  The only answer to that question appears to be that the organization wants to benefit members and that is not a valid purpose of a 501(c)(3) organization.

26 C.F.R. section 1.501(c)(3)-1(c)(1), Income Tax Regs., provides:
"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
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."   That is, under the statute the exempt
purposes must be "exclusive", but the regulation provides that an
organization may be tax exempt even if its operations include
activities in furtherance of non- exempt purposes, provided that
those activities are "insubstantial".

In the leading case elucidating the purposes considered exempt
under Sec. 501(c)(3), the Supreme Court in Better Business Bureau
v. U.S., 326 U.S. 279, 283, 66 S.Ct. 112, 114, 90 L.Ed. 67 (1945),
stated, "[t]he presence of a single [non-exempt] purpose, ...
substantial in nature, will destroy the exemption."

The Court continued, "In this instance, in order to fall within the
claimed exemption, an organization must be devoted to educational
purposes exclusively. This plainly means that the presence of a
single noneducational purpose, if substantial in nature, will
destroy the exemption regardless of the number or importance of
truly educational purposes."
http://pages.citebite.com/l4c3j5a9ojuc

Harvey Mechanic
Attorney at Law
Harvey108@hotmail.com

P.S. This response is intended to be a general statement of law, should not be relied upon as legal advice and does not create an attorney/client relationship.

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Harvey Mechanic

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I am an attorney and I volunteer time to answer general questions about U.S. Federal income tax issues of nonprofit 501(c)(3) public charities only. Those questions could be about establishing and maintaining legal requirements for such non-profit organizations in the United States, including Internal Revenue service filings and requirements. I will not be working on this free forum to answer questions about Nonprofit's possible unrelated or for-profit businesses or how to fill out forms. This forum is only for general questions about federal tax law, not as the law applies to your specific situation. If you do not make your question public then I will not be spending much of my donated time on answers that would not benefit the public. If you have other questions, please contact me at Harvey108@hotmail.com I will reply from my email. In any case, do not reveal confidential information to me until after I have contracted with you to provide personal legal services. My responses on this forum are intended to be general statements of law, should not be relied upon as legal advice, and do not create an attorney/client relationship. For me to consider your individual situation and how the law applies, I would need to gather extensive information about the situation. To search my previous answers you can do a Google search by "site:allexperts.com/q/nonprofit" without the quotes and then add your search terms before hitting enter.

Experience

I have been practicing law and especially the law of nonprofit organizations since 1990 when I was admitted to the New York Bar and I have maintained my status with the Bar since that time.

Education/Credentials

B.S. Columbia University in New York City, 1970

J.D. (Law Degree) Brooklyn Law School, 1990 -- Cum Laude.


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