Organization Failed to Qualify as a Public Charity because its Supported Organizations were not Easily Identifiable

Date: August 9, 2011

D.C.’s federal appellate court recently affirmed a trial court’s decision that a Section 501(c)(3) Maryland nonstock corporation did not qualify as a public charity under Section 509(a)(3) of the Internal Revenue Code because the foundation’s “supported organizations” were not identified sufficiently.

The foundation in question was formed originally to support the activities of organizations promoting public health and/or Christian objectives. The foundation sought tax-exempt status under Section 501(c)(3) and recognition as a public charity under Section 509(a)(3).  After lengthy correspondence with the IRS failed to produce a determination, the foundation went to court seeking a determination that it was tax-exempt and that it qualified as a public charity.  Though the foundation’s tax-exempt status was not disputed at trial, the court rejected the foundation’s claim for recognition as a public charity. 

The appellate court agreed with the trial court and found that the foundation, which claimed it was a Type II supporting organization under Section 509(a)(3), failed to satisfy the organizational test which requires an organization to show that it is “organized, and at all times thereafter is operated, exclusively for the benefit of, to perform the functions of, or to carry out the purposes of one or more specified [publicly supported] organizations ....”  To meet this requirement, the Treasury Regulations require an organization’s articles of incorporation to designate each specified supported organization by name. However, a Type II supporting organization’s articles may instead require it to be operated to support one or more beneficiary organizations that are designated by class or purpose.  This latter exception applies only if the class of supported organizations is “readily identifiable,” for example, “institutions of higher learning in the State of Y” and “[tax-exempt public charities] located in the [city of] Z area.”
The Court found that, unlike the examples above, the foundation’s designation of publicly supported organization was overly broad, and could not be easily identified because there was no limit by type or geographic area.  Because the foundation failed to qualify as a public charity, it was categorized as a private foundation, and therefore subject to the additional restrictions imposed on private foundations by the IRS.  

This ruling demonstrates how important it is for foundations setting up supporting organizations to identify the name of the supported organizations with appropriate specificity.