July 2004

Abuses by a small minority of tax-exempt organizations, the Internal Revenue Service contends, are endangering the welfare of law-abiding nonprofits and compromising the integrity of the U.S. tax system. Rectifying this situation is one of four principle components of the IRS's strategic plan for 2005-2009. IRS commissioner Mark W. Everson recently outlined actions the IRS is taking:

• Examination of credit-counseling organizations. Everson described a "new breed" of credit-counseling organizations, one focused more on selling debt-management products than on providing educational or charitable services, noting that some of these newer nonprofits have been involved in fraudulent activities. The IRS is auditing 50 tax-exempt credit-counseling organizations, is taking extra care in reviewing new applications for exemption by such nonprofits to ensure that they are truly charitable in nature, and is collaborating with state officials and the Federal Trade Commission to warn consumers about unethical credit-counseling groups.
  
  
• Launch of a tax-exempt compensation initiative. This summer, the IRS will contact "hundreds of" public charities and private foundations to determine how those nonprofits set compensation and how they report on it to the IRS and the public. Once that information has been gathered, the service will examine insider transactions (e.g., sales and loans to executives) and organizations' failures to report compensation information (or to report that information fully) on Form 990. The IRS will use this information to identify problem areas on which to focus.
  
  
• Launch of a private foundation market segment initiative. Beginning in November 2004, the IRS will investigate private foundations to determine how widespread compliance or non-compliance with the tax laws is among those organizations. The results of this research will enable the service to develop better enforcement methods, focus educational efforts related to private foundations, and improve Form 990-PF.
  
  
• Enhanced coordination with state and other federal agencies. Although the IRS is already working with the National Association of State Charity Officials (NASCO) to improve the exchange of information about charities, federal law limits the data the service can provide state regulators. The IRS has proposed amending the law to allow the service to share information that would help state regulators enforce state charity laws. Safeguards would ensure that the data remained confidential. The service is also streamlining its procedures for collaborating with other federal agencies on matters related to exempt organizations.
  
  
• Enhanced outreach to exempt organizations. This fall, the IRS will publish a brochure defining practices nonprofits can adopt to prevent abuses within their organizations. The brochure will address standards of integrity; a governing board's role, selection, and duties; conflict of interest policies; record keeping; internal checks and balances; fundraising; and other topics related to governance.
  
  
• Revising IRS forms and instructions. The IRS has solicited and received public comments on revising Form 990 to address insider relationships, certain financial transactions, and conflict of interest policies or independent audit committees. The service is revising Form 1023, the application for exemption as a 501(c)(3) organization, to include information about conflict of interest and compensation practices. The instructions for the revised 1023 will include information about good governance practices, including a sample conflict of interest policy.
  
  
• Increased focus on misuse of tax-exempt organizations by third parties. Among the issues the IRS will address in this area are abuses of donor-advised funds, vehicle donations to charity, overvaluation of other in-kind donations, and requirements for conservation easements.

For more information, see Everson's June 22 testimony before the Senate Finance Committee.

Dan Moore, GuideStar's vice president for public affairs, offers this advice to exempt organizations: "It is clear that the IRS is stepping up its enforcement efforts, especially regarding compensation and related-party transactions. Nonprofit executives and board leaders should review their operations to make sure things are ship shape. GuideStar's annual  Nonprofit Compensation Report and our Salary Search product are great tools to benchmark an organization's operations with its peers."

If you have questions or concerns about the IRS initiatives, contact Dan Moore.

Suzanne E. Coffman, July 2004
© 2004, Philanthropic Research, Inc. (GuideStar)

Suzanne Coffman is GuideStar's director of communications and editor of the Newsletter.