IRS corrects scholarship group's public-charity classification to Section 509(a)(2)

Plain-English summary

A group of educators raised funds through a scholarship luncheon, a dance, and a regional conference, then awarded scholarships and book awards to students entering education. On its streamlined exemption application, the group mistakenly claimed it operated for the benefit of a government-owned college or university, the classification described in Sections 509(a)(1) and 170(b)(1)(A)(iv). During examination, it acknowledged that the application was filled out incorrectly and provided bylaws showing it was an association with the required Section 501(c)(3) clauses. The IRS concluded that the organization did not qualify for its original college-support classification but did qualify as a publicly supported organization under Section 509(a)(2). Its tax-exempt status remained in effect, and only its public-charity classification changed.

Ruling snapshot

• Question: What is the correct public-charity classification for the scholarship and fundraising organization?
• Outcome: reclassified under IRC § 509(a)(2)
• Key authorities: IRC §§ 170(b)(1)(A)(iv), 501(c)(3), 509(a)(1), 509(a)(2); Treas. Reg. § 1.501(c)(3)-1

Full text (IRS public release)

DEPARTMENT OF THE TREASURY
INTERNAL REVENUE SERVICE
TE/GE: EO Examination
1100 Commerce, MS 4920 DAL
Dallas, Texas 75242-1100

GOVERNMENT ENTITIES
DIVISION

Date: OCT 05 2017

Number: 201809008 Employer Identification Number:
Release Date: 3/2/2018

Person to Contact/ID Number:

Contact Numbers:
Voice:
Fax:
UIL: 501.03-00
LAST DATE FOR FILING A PETITION

WITH THE TAX COURT:
CERTIFIED MAIL - RETURN RECEIPT REQUESTED

Dear

This is a final determination regarding your foundation classification. This modifies our
letter dated November 28, 20xx, in which we determined that you were an organization
described in section 509(a)(1) as described in section 170(b)(1)(A)(iv) of the Internal
Revenue Code (Code). We have modified your foundation status to that of a public charity
described in section 509(a)(2) of the Code, effective for tax years beginning November 28,

20xx.

Your tax exempt status under section 501(c)(3) of the Internal Revenue Code is not
affected. Grantors and contributors may rely on this determination, unless the Internal
Revenue Service publishes a notice to the contrary. Because this letter could help resolve
any questions about your private foundation status, please keep it with your permanent
records.

We previously provided you a report of examination explaining the proposed modification
of your tax-exempt status. At that time, we informed you of your right to contact the
Taxpayer Advocate, as well as your appeal rights. On June 16, 20xx, you signed Form
6018, Consent to Proposed Action - Section 7428, in which you agreed to the modification
of your foundation classification to 509(a)(2) of the Code. This is a final determination letter
with regards to your Federal tax-exempt status under section 501(a) of the Code.

You are required to file Form 990, Return of Organization Exempt from Income Tax. Form
990 must be filed by the 15th day of the fifth month after the end of your annual accounting
periods. A penalty of $20 a day is charged when a return is filed late, unless there is a
reasonable cause for the delay; however, the maximum penalty charged cannot exceed
$10,000 or 5 percent of your gross receipts for the year whichever is less. In addition

organizations with gross receipts exceeding $1,000,000 for any year will be charged a
penalty of $100 a day when a return is filed late; however, the maximum penalty charged
cannot exceed $50,000. These penalties may also be charged if a return is not complete,
so be sure your return is complete before you file it.

If you are subject to the tax on unrelated business income under section 511 of the Code,
you must also file an income tax return on Form 990-T, Exempt Organization Business
Income Tax Return.

If you decide to contest this determination in court, you must initiate a suit for a declaratory
judgment in the United States Tax Court, the United States Claims Court, or the District
Court of the United States for the District of Columbia before the 91st day after the date this
final determination letter was mailed to you. Contact the clerk of the appropriate court for
rules for initiating suits for declaratory judgment. You may write to the Tax Court at the
following address:

United States Tax Court,
400 Second Street
Washington, D.C. 20217

The Taxpayer Advocate Service (TAS) is an independent organization within the IRS
that can help protect your rights. We can offer you help if your tax problem is causing a
hardship, or you've tried but haven't been able to resolve your problem with the IRS. If
you qualify for our assistance, which is always free, we will do everything possible to
help you. Visit [email protected] or call 1-877-777-4778.

If you have any questions, please call the contact person at the telephone number
shown in the heading of this letter.

Thank you for your cooperation.

Sincerely,

Maria Hooke
Director, Exempt Organizations Examinations

Publication 892

Department of the Treasury
Internal Revenue Service

Date:

July 5, 2017
Taxpayer Identification Number:

Tax Exempt and Government Entities Division
Exempt Organizations Examinations Form:

Tax Year(s) Ended:

Person to contact/ ID Number:

/
Contact Numbers:
Toll Free
Long Distance
Fax:

Certified Mail- Return Receipt Requested
Dear

We have enclosed a copy of our report of examination explaining why we propose modifying your
foundation status under section 509(a) of the Internal Revenue Code (Code).

Your exempt status under section 501(c)(3) of the Code is still in effect.

If you accept our findings, take no further action. We will issue a final letter modifying your foundation
status.

If you do not agree with our proposed modification of your foundation status, you may provide
additional information that you would like to have considered, or you may submit a written appeal.
The enclosed Publication 3498, The Examination Process, and Publication 892, Exempt Organization
Appeal Procedures for Unagreed Issues, explain how to appeal an Internal Revenue Service (IRS)
decision. Publication 3498 also includes information on your rights as a taxpayer and the IRS
collection process.

If you request a conference with Appeals, you must submit a written protest within 30 days from the
date of this letter. An Appeals officer will review your case. The Appeals Office is independent of the
Director, EO Examinations. The Appeals Office resolves most disputes informally and promptly.

You may also request that we refer this matter for technical advice as explained in Publication 892. If
we issue a determination letter to you based on technical advice, no further administrative appeal is
available to you within the IRS regarding the issue that was the subject of the technical advice.

If we do not hear from you within 30 days from the date of this letter, we will process your case based
on the recommendations shown in the report of examination. If you do not protest this proposed
determination within 30 days from the date of this letter, the IRS will consider it to be a failure to
exhaust your available administrative remedies. Section 7428(b)(2) of the Code provides, in part: "A
declaratory judgment or decree under this section shall not be issued in any proceeding unless the
Tax Court, the Claims Court, or the District Court of the United States for the District of Columbia
determines that the organization involved has exhausted its administrative remedies within the
Internal Revenue Service." We will then issue a final letter.

Letter 3620 (Rev 11-2003)
Catalog Number 34811R

You have the right to contact the office of the Taxpayer Advocate. Taxpayer Advocate assistance is
not a substitute for established IRS procedures, such as the formal appeals process. The Taxpayer
Advocate cannot reverse a legally correct tax determination, or extend the time fixed by law that you
have to file a petition in a United States court. The Taxpayer Advocate can, however, see that a tax
matter that may not have been resolved through normal channels gets prompt and proper handling.

You may call toll-free 1-877-777-4778 and ask for Taxpayer Advocate Assistance. If you prefer, you
may contact your local Taxpayer Advocate at:

Office of the Taxpayer Advocate

If you have any questions, please call the contact person at the telephone number shown in the
heading of this letter. If you write, please provide a telephone number and the most convenient time
to call if we need to contact you.

Thank you for your cooperation.
Sincerely,

Maria Hooke
Director, Exempt Organizations Examinations

Enclosures:

Publication 3498

Publication 892

Signed 6018

Form 4621-A

Report of Examination 886-A

Letter 3620 (Rev 11-2003)
Catalog Number 34811R

Form 886A Department of the Treasury - Internal Revenue Service Schedule No. or
Explanation of Items Exhibit
Name of Taxpayer 20xx12
Date of Notice:
Final Report:
Issues:
Whether qualifies for exemption under

Section 501(c)(3) classification 170(b)(1)(A)(iv), operated for the benefit of a college or
university which is owned and operated by a governmental unit per the Internal Revenue Code?

Facts:
Organization is identified as and is
incorporated under the laws of the State of as of November 28, 20xx.

Form 1023EZ was filed on November 13, 20xx asking for reinstatement under Section 7 of
Revenue Procedure 2014-11, effective the date of the filing of the Form 1023EZ.

On Form 1023EZ, under structure of the organization they marked they were incorporated.

Under Foundation Classification status Part IV of the Form 1023EZ, organization attested
they were operated for the benefit of a college or university that is owned or operated by a
governmental unit. Sections 509(a)(1) and 170(b)(1)(A)(iv).

They were granted tax exemption under section 170(b)(1)(A)(iv).

Organization called on December 13, 20xx to reply to Letter 3606 and IDR that was sent on
November 22, 20xx. , President of the organization, stated she had just
received the Letter 3606 and IDR. She said the letter originally went to the past President.

questioned the reason for the examination and why it was being conducted and
what was needed from her. identified the activities of the organization as a group
of educators who conduct fundraising activities so they can give scholarships to students
who are going into the education field.

She said it was an error when they marked Foundation Classification 509(a)(1) and
170(b)(1)(A)(iv) attesting they are operated for the benefit of a college or university that is
owned or operated by a governmental unit on Form 1023EZ.

Organization replied on January 17, 20xx with a list of activities they held for the June 30,
20xx tax year. Organization held a Scholarship Luncheon and an Old School Dance.
scholarships were given in the amount of $x,xxx each, and for $xxx for book awards.

Organization is hosting the Regional Conference for the and collected
members payments. said all money received for this activity was expensed out for
the conference in 20xx.

Numerous requests were made for organization to send in Articles of Incorporation as part of
examination. replied they were using the By-Laws for the
organizing documents. Organization listed themselves as a corporation on 1023EZ and with
the State of

Form 886-A rRev.4-68) Department of the Treasury - Internal Revenue Service
Page: -1-

Form 886A Department of the Treasury - Internal Revenue Service Schedule No. or
Explanation of Items Exhibit
Name of Taxpayer 20xx12
Received call from , President. She said that the 1023EZ was

filled out incorrectly and this organization is not incorporated. This organization is an
association. She said when the organization attested to the organizing documents being
completed on 1023EZ they did so by thinking they were complete because they were using
the By-Laws.

We have now received By-Laws dated April 22, 20xx. By-laws are signed by two officers and
contain the correct clauses and verbiage required for 501(c)(3).

Law:

Internal Revenue Code (IRC) section 170(b)(1)(A)(iv) Exclusion—Organizations for the Benefit
of Certain State and Municipal Colleges and Universities

(1) Organizations described in IRC § 170(b)(1)(A)(iv) are excluded from private foundation
status under IRC 509(a)(1).

(2) An organization is described in IRC § 170(b)(1)(A)(iv) if:

a. it normally receives a substantial part of its support (excluding exempt-function income)
from the United States or any State or political subdivision thereof or from direct or
indirect contributions from the general public,

b. it is organized and operated exclusively to receive, hold, invest, and administer property
and to make expenditures to or for the benefit of an IRC 170(b)(1)(A)(ii) college or
university, and

c. the benefited college or university is an agency or instrumentality of a State or political
subdivision thereof, or is owned or operated by a State or political subdivision thereof or
by an agency or instrumentality of one or more States or political subdivisions.

IRC § 501(c)(3) Requires tax exempt entities be organized and operated exclusively for
religious, charitable, scientific, testing for public safety, literary or educational purposes and to
foster national and amateur sports competition.

IRC § 509(a)(2) an organization which normally receives more than one-third of the support
from gifts, contributions, grants, or membership fees and gross receipts from admissions, sales
of merchandise, performance of services, or furnishing of facilities, in an activity which is not an
unrelated trade or business (within the meaning of section 513), not including such receipts
from any person, or from any bureau or similar agency of a governmental unit (as described in
section 170(c)(1)), in any taxable year to the extent such receipts exceed the greater of $5,000
or 1 percent of the organization’s support in such taxable year, from persons other than
disqualified persons (as defined in section 4946) with respect to the organization, from
governmental units described in section 170(c)(1), or from organizations described in section
170(b)(1)(A) (other than in clauses (vii) and (viii)), and normally receives not more than one-third of
its support in each taxable year from the sum of gross investment income (as defined in subsection (e))
and the excess (if any) of the amount of the unrelated business taxable income (as defined in section 512)
over the amount of the tax imposed by section 511.

Form 886-A rev.4-68) Department of the Treasury - Internal Revenue Service
Page: -2-

Form 886A Department of the ‘Treasury - Internal Revenue Service Schedule No. or
Explanation of Items Exhibit

Name of Taxpayer 20xx12

Treas. Reg. § 1.501(c)(3)-1(a) In order to be exempt under §501(c)(3) the organization must be
both organized and operated exclusively for one or more of the purposes specified in the
section.

Treas. Reg. § 1.501(c)(3)-1(c)(1) of the regulations provides that an organization will not be
regarded as operated exclusively for exempt purposes if more than an insubstantial part of its
activities is not in furtherance of exempt purposes.

Treas. Reg. § 1.501(c)(3)-1(d)(ii) of the regulations provides that an organization is not
organized or operated exclusively for one or more exempt purposes unless it serves a public
rather than a private interest. Thus, it is necessary for an organization to establish that it is not
organized or operated for the benefit of private interests such as designated individuals, the
creator or his family, shareholders of the organization, or persons controlled, directly or
indirectly, by such private interests.

Revenue Ruling 71-97, 1971-1 C.B. 151 states a national society for women organized to
recognize scholastic achievements and to serve universities and colleges where chapters are
established qualifies for exemption under section 501(c)(3).

An organization organized to encourage and recognize outstanding achievements of citizens
toward the progress and betterment of human endeavor is exempt under section 501(c)(3) of
the code. See Revenue Ruling 66-146, C.B. 1966-1, 136. Awarding scholarships to students
based upon scholastic standing is advancing education. See Revenue Ruling 69-257, C.B.
1969-1, 151. By recognizing and encouraging scholastic achievement and leadership ability,
and providing service to the schools, the organization in this case furthers the overall
educational programs of the universities and colleges.

The presence of a single substantial nonexempt purpose can destroy the exemption regardless
of the number or importance of exempt purposes. Better Bus. Bureau v. United States, 326
U.S. 279. 283, 90 L. Ed. 67, 66 S. Ct. 112 (1945); Am. Campaign Acad. v. Commissioner, 92
T.C. 1053, 1065 (1989); see also Old Dominion Box Co., Inc. v. United States, 477 F2d. 340
(4th Cir. 1973), cert. denied, 413 US 910 (1973) (“operating for the benefit of private parties
who are not members of a charitable class constitutes a substantial nonexempt purpose’).
When an organization operates for the benefit of private interests, such as designated
individuals, the creator or his family, or persons directly or indirectly controlled by such private
interests, the organization by definition does not operate exclusively for exempt purposes. Am.
Campaign Acad. v. Commissioner, supra at 1065-1066.

Organizations Position:

Organization sent back Form 6018 signed agreeing to the reclassification of their foundation
status to 509(a)(2).

Government’s Position:

does not qualify to be a 170(b)(1)(A)(iv)
(Organizations for the Benefit of Certain State and Municipal Colleges and Universities).

Form 886-A cRev.4-68) Department of the Treasury - Internal Revenue Service
Page: -3-

Form 886A

Department of the Treasury - Internal Revenue Service

Explanation of Items

Schedule No. or
Exhibit

Name of Taxpayer

20xx12

However it was determined that you are described in Internal Revenue Code Section 509(a)(2)
as one that receives combination of gifts, grants, contributions, membership fees, and gross
receipts (from permitted sources) from activities related to your exempt functions and normally
receive not more than one-third of your support from investment income and unrelated business
taxable income qualify for Section 509(a)(2).

Conclusion:

Organization does not meet 501(c)(3) section 170(b)(1)(A)(iv), but does meet 501(c)(3) section
509(a)(2). Organization needs to be reclassified to the correct section 509(a)(2).

Form 886-A (Rev.4-68)

Department of the Treasury - Internal Revenue Service

Page: -4-