Senate Tax Relief Act Of 2005 (S. 2020) Targets Abusive Transactions Involving Exempt Organizations

On November 18, 2005, the Senate approved S. 2020, The Tax Relief Act ("Act") of 2005 ("TRA ‘05"), a vast piece of legislation addressing issues ranging from tax relief to the hurricane-ravaged Gulf Coast, to expiring tax provisions, and offsets. Notable among the Act’s copious provisions are those involving the charitable sector and specifically, sections aimed at the prevention of abusive tax practices involving exempt organizations. In particular, the TRA provides new certification reporting requirements for certain large exempt organizations, as well as payment guidelines and other new rules for socalled Type III supporting organizations.

Although the House passed a $56.1 billion tax reconciliation package (H.R. 4297) on December 8, 2005, conspicuously missing from its version were any of the TRA provisions targeting exempt organizations. There are conflicting reports as to whether conferences will convene, or a full vote on the proposed legislation will occur, before Congress adjourns for the year on December 23, and it is unknown if any of the TRA provisions will be adopted into final tax reconciliation legislation. However, if the House does adopt any of the provisions contained in S.2020, these changes will result in significant new requirements for certain exempt organizations.

The Senate TRA ‘05 imposes new certification reporting requirements on any organization that: (a) qualifies for tax exempt status under Section 501(c)(3) with; (b) gross receipts totaling at least $10 million (or gross assets totaling $10 million), and (c) that is subject to the unrelated business income tax. Specifically, the Act provides that any organization meeting these requirements must submit a certification statement with their annual return, stating that:

1. the return has been viewed by the organization’s independent auditor or counsel, and;
2. to the best of the auditor’s or counsel’s knowledge, the return is accurate, and;
3. to the best of the auditor’s or counsel’s knowledge, the allocation of the organization’s expenses between the organization’s unrelated trades and businesses and the organization’s exempt activities complies with Section 512, and;
4. whether the auditor or counsel has provided a tax opinion regarding the classification or any trade or business of the organization as an unrelated trade or business and/or the treatment of any income as unrelated business income, and;
5. provides a description of any material facts relied upon in any such tax opinion.

In addition to these new certification requirements, the Act directs exempt organizations to make public any annual return, such as its Form 990-T, that relates to the unrelated business income taxes paid by the organization.

The Senate Tax Reform Act of 2005 also extends the mandatory distribution rules under §4942 with respect to qualifying distributions by private foundations to Type III supporting organizations. Under the Act, these "Type III" organizations must pay each taxable year to their supported organization(s):

1. the greater of:

(i) 85 percent of their "adjusted income" or;

(ii) 5 percent of the aggregate fair market value of all of the assets of the organization (other than those used directly in support of charitable endeavors), and;

2. any amount received during the preceding taxable year which is a repayment of amounts paid by the organization in any prior taxable year to a supported organization that were taken into account as support provided by the supporting organization in prior years.

If these requirements are not met, the Type III supporting organization will be subject to excise taxes under the new section 4959. In addition, a new supporting organization may not support more than five organizations, and the supporting organization must notify in writing each organization designated for support.

A full text of The Senate Tax Reform Act of 2005 is available at: http://frwebgate.access.gpo.gov. 

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.