Teaching Taxation: Following the Money in the 2000 Election Douglas - PDF document

Teaching Taxation: Following the Money in the 2000 Election Douglas Varley and Lloyd Mayer* Caplin & Drysdale Douglas Varley Lloyd Mayer 2. Contributions are not deductible. The IRS posi- Speech Outline Prepared for the ABA Tax Section tion is that contributions are subject to gift tax. Exempt Organizations Committee Meeting See Rev. Rul. 82-216, 1982-2 C.B. 220 October 13, 2000 3. Can attempt to influence political elections so long as this is not the organization’s primary Introduction: Congress has passed the first cam- I. activity. May be subject to income tax on invest- paign finance legislation in more than 20 years. The ment income up to the amount of their spending legislation requires section 527 political organizations on electioneering. IRC section 527(f). to disclose detailed information about their activities, sources of support, and expenditures to the Internal 4. No limits on the organization’s ability to influ- Revenue Service and the public. ence legislation. II. Context: Categories of Tax-Exempt Organizations C. 501(c)(5) Organizations A. 501(c)(3) Organizations 1. Labor unions. 1. Must operate exclusively for Religious, Charita- 2. Dues may be deducted as an ordinary and nec- ble, Scientific, Literary, Educational, or other essary business expense if the requirements of listed tax-exempt purposes. sections 67 and 162 are met. However, sections 162(e) and 6033(e) provide that the portion of 2. Contributions are deductible and exempt from dues allocable to an organization’s lobbying and gift tax. electioneering activities is not deductible. Or- 3. Cannot participate or intervene in (including ganizations may either inform their members of publishing or distributing statements) any politi- the portion of their dues that is not deductible or cal campaign on behalf of (or in opposition to) pay a proxy tax. As a practical matter, 6033(e) any candidate for public office. does not affect labor unions, because they qualify for an exception to the general rule for organi- 4. Section 501(c)(3) organizations that are “public zations that can show that 90 percent or more of charities” under section 509(a) can attempt to dues and similar amounts are not deductible by influence legislation, provided this is not a sub- the members. See Rev. Proc. 98-19, 1998-1 C.B. stantial part of their activities. Section 501(h) 547. Most labor union members cannot deduct provides precise expenditure limits for lobbying. their dues by reason of section 67, which imposes a 2 percent floor for miscellaneous deductions. B. 501(c)(4) Organizations 3. Can attempt to influence political elections. 1. Must operate exclusively for the promotion of social welfare — essentially the same purposes 4. Can attempt to influence legislation germane to as section 501(c)(3). the organization’s exempt purpose. D. 501(c)(6) Trade Associations *Douglas Varley is a partner and Lloyd Mayer an associate at Caplin 1. Must operate exclusively to improve the business and Drysdale, Washington. conditions of a line of business. The Exempt Organization Tax Review December 2000 — Vol. 30, No. 3 275

Conference Notes 2. Dues may be deducted as ordinary and necessary opposing any candidate for public office. Other sec- business expense if the requirements of section tion 501(c) organizations, including organizations de- 162 are met. However, section 6033(e) provides scribed in section 501(c)(4) (social welfare leagues), that the portion of dues allocable to the organi- (c)(5) (labor unions) and (c)(6) (business associa- zation’s lobbying and electioneering activities is tions), must operate primarily for a purpose that meets not deductible. the requirements of the applicable subsection; activi- ties designed to influence elections do not meet this 4. Can attempt to influence political elections. primary purpose requirement. The IRS has also taken the position that contributions to such organizations 5. Can attempt to influence legislation. are subject to the gift tax. All of these organizations III. Section 527 Organizations are not required to disclose to the public the identities of their donors, but they are required to provide in- A. Section 527 provides that political organizations are formation about major donors to the IRS and to pro- tax-exempt organizations. This exemption applies to vide to the IRS and the public certain financial and all contributions, membership dues, and other politi- other information on IRS Forms 990/990-EZ. cal fundraising income segregated for use for the organization’s “exempt function,” but does not apply D. In contrast, the new section 527 organizations did not to other income, including investment income. A sec- have any reporting or disclosure requirements under tion 527 organization’s exempt function is “the func- the Internal Revenue Code except for reporting net tion of influencing or attempting to influence the non-exempt function income — usually investment selection, nomination, election, or appointment of any income — annually on Form 1120-POL if such in- individual to any federal, state, or local public office come exceeded $100. Contributions to such organi- or office in a political organization, or the election of zations are also not subject to the gift tax. And since presidential or vice-presidential electors, whether or FEC rules did not reach them, they could operate to not such individual or electors are selected, nomi- influence elections without having to report their ac- nated, elected, or appointed.” IRC section 527(e)(2). tivities, or sources of financial support, to anyone. To qualify as a section 527 organization, an organi- zation must be “organized and operated primarily for E. It was too good to last. Responding to ever-mounting the purpose of directly or indirectly accepting contri- pressure to “do something” about campaign finance butions or making expenditures, or both, for an ex- reform, on June 8th the Senate passed an amendment empt function.” IRC section 527(e)(1). Section to a defense budget bill that required section 527 2501(a)(5) provides that transfers to section 527 or- organizations to disclosure certain information to the ganizations are exempt from the gift tax. IRS and the public. After several weeks of debate, the introduction of alternative bills, and hearings in the B. Traditionally, most if not all 527 organizations were House, a reform bill passed the House and Senate. political parties, political committees, or campaign President Clinton promptly signed the bill on July 1, committees that expressly advocated the election or 2000. defeat of particular candidates. These organizations were subject to an array of disclosure and contribution F. The legislation required existing section 527 organi- limits under the Federal Election Campaign Act of zations to register with the IRS by July 31, 2000 and 1971 (FECA), 2 U.S.C. sections 431-441h, 451-455, new organizations to register within 24 hours of their and, if they were involved in state or local elections, creation. Hence the IRS had to provide guidance under state election laws. Recently, however, donors almost immediately. It did so, issuing Form 8871, and their tax advisors discovered that an organization Political Organization Notice of Section 527 Status, could qualify as a section 527 organization by engag- ( The Exempt Organization Tax Review , August 2000, ing in grassroots lobbying, issue advocacy, voter reg- p. 320) on July 12, 2000, and Form 8872, Political istration, publishing incumbent or candidate score- Organization Report of Contributions and Expendi- cards, and similar activities, as long as such activities tures, ( The Exempt Organization Tax Review , August were targeted or otherwise designed to influence the 2000, p. 324) less than a week later. Both forms are outcome of elections. See PLR 9652026 (Oct. 1, available at www.irs. gov/bus_info/eo/pol-file.html. 1996); PLR 9725036 (Mar. 24, 1997); PLR 9808037 The IRS also has issued a revenue ruling answering (Nov. 21, 1997); PLR 199925051 (Mar. 29, 1999). some of the initial questions about the new legislation. Because these activities did not involve “express Rev. Rul. 2000-49, 2000-44 IRB 1 ( The Exempt Or- advocacy,” as defined by the Supreme Court, they ganization Tax Review , November 2000, p. 176; Doc do not require reporting to the Federal Election Com- 2000-26441 (9 original pages) ; or 2000 TNT 199-6 ). mission. G. Details of the reporting regime C. Such “stealth PACs” were attractive for several rea- sons, when compared to other types of tax-exempt 1. Organizations Affected. The final legislation organizations. Section 501(c)(3) charitable organiza- applies only to organizations described in section tions are eligible to receive tax-deductible contribu- 527 of the code. Organizations described in sec- tions, but are absolutely barred from supporting or tion 501(c) are not affected, even if they are taxed 276 December 2000 — Vol. 30, No. 3 The Exempt Organization Tax Review