Organizations that are organized and operated exclusively for religious, charitable, scientific, testing for public safety, literary or educational purposes, foster national or international amateur sports competitions, or for the prevention of cruelty to children or animals are eligible to be exempt from federal income tax under section 501(c)(3) of the Internal Revenue Code. Unless the organization is a church, or a related-type entity, or  the organization has annual gross receipts less $5,000, the organization is required to file Form 1023 with the IRS. These charitable organizations must be organized and operated exclusively for one or more exempt purposes (as listed above).

Based on Form 1023, the IRS will classify the entity as either a public or private charity. What are the major differences?

A public charity has a broad base of support (contributions typically exceeding 33 1/3% of total support). A private charity has a small base of public support and the majority of the support is derived primarily from the investment earnings of the organization.  For recent legislative information for private foundations, see this post.

So what type of organization are you? Look at the composition of the organization’s support.

Entities that are organized and operated exclusively for religious, charitable, scientific, testing for public safety, literary or educational purposes may be eligible for federal income tax exemption. What does exempt from federal income tax mean? The organization does not pay federal income tax on the net earnings of the operation. An organization that has applied and received their exemption under Code 501(c)(3) may be receive charitable contributions that are tax deductible by the donor.

So how does an organization receive exempt status? Read the rest of this entry »

Senators Schumer, Levin and Stabenow announced today they’ve introduced legislation to simplify the excise tax that applies to private foundations (PFs).  In place of the current two-tiered system (1%/2%), the bill would institute a single tax rate.  Based on a study by the Council on Michigan Foundations, a tax rate of 1.32% for all PFs would result in no net change in the total excise tax collected from PFs.

The Senators expect their revision would spur increased distributions from PFs to public charities.  Under the current system, a PF pays the 1% tax in years where its distributions as a percentage of its asset base exceed the 5-year weighted average of distributions to asset base.  Thus, a PF can manage its tax liability by making small incremental increases in its giving level. 

Conversely, when a PF has a significantly higher distribution percentage in a given year (for instance, following Hurricane Katrina), the PF will be penalized in future years by the increase in the 5-year weighted average, unless they continue with the new higher distribution percentage.  The proposed legislation would free PFs from deciding between a desired contribution and their future tax bills.

If you have questions about the proposed legislation, contact us.

Situation:  You are interested in setting aside a pool of assets for use in current and future charitable giving.  You aren’t certain to whom contributions will be made. You would like to receive a tax deduction for the funds you set aside. How can you accomplish your objectives?

Short Answer:  A private foundation (PF) or a donor advised fund (DAF).

Question:  Which one should I choose?

Deeper Answer:  It depends. 

Both a PF and a DAF meet the primary objective of generating a charitable deduction in the year of transfer, even though no funds may actually reach a charitable organization that puts those funds to use in their particular charitable endeavor. There is one primary reason that a PF may make sense for a donor – control. The donor of a PF will determine the initial members of the foundation’s board, and usually serves on the board. The board controls the ultimate distribution of funds to outside charities and controls the selection of all investments made by the PF. With a DAF, the donor can recommend charities to receive disbursements of funds, but the final decision rests with the management of the DAF. Also, depending on the DAF, available investment choices may not allow for investments that meet the donor’s wishes.

For assistance in determining your best alternative, contact us.