The IRS is cracking down on for-profit activities engaged in by charities.
To obtain an exemption from federal income tax, a charity must be organized and operated for charitable, religious, literary, educational and/or scientific purposes. In ensuring that a charity is organized and operated for such exempt purposes, the IRS often asks whether the charity engages in activities that place it in competition with for-profits. If the answer to this question is yes, it is unlikely that the charity is entitled to exemption, regardless of whether the charity's commercial activities or other activities further its exempt purposes.
In Private Letter Ruling 201503016, a nonprofit was denied exemption on the basis that it was neither organized nor operated primarily for exempt purposes. The nonprofit in question operated an e-commerce site. The e-commerce site allowed the general public to purchase items from various vendors and manufacturers and designate a charity to receive the sales price of the purchased item as a charitable donation.
The IRS ruled that the nonprofit was not organized primarily for exempt purposes because the nonprofit's articles of incorporation stated that the nonprofit's primary purposes were the development and maintenance of an e-commerce site.
The IRS further ruled that the nonprofit was not operated exclusively for exempt purposes because operating an e-commerce site is a commercial business and not an exempt activity. While a charity may engage in commercial activities that further its exempt purposes, the IRS found that the e-commerce site in question was unrelated to the nonprofit's exempt purposes (namely, making distributions to charities) except for the fact that the revenue generated by the e-commerce site provided the nonprofit with funds to distribute for exempt purposes. This nexus between the nonprofit's commercial activities and the nonprofit's exempt activities was not enough to merit an exemption.
This ruling is but the most recent example of the IRS taking a closer look at the nature of a charity's purposes and activities. Again, while charities can engage in insubstantial commercial activities and/or commercial activities related to their exempt purposes, charities should be careful not to focus too much time or resources on such activities. As this ruling proves, the consequences can be grave despite the underlying charitable intent.
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