In its 2011 Workplan, the IRS announced that it plans to increase its focus on section
501(c)(4), (5) and (6) organizations in three main areas. The IRS Exempt Organizations
Division plans to select associations at random to examine the areas of: the requirements for
tax exemption, political activity, and private inurement. While these areas are familiar territory to association executives, the best associations are always evolving. In the face of
budget challenges, organizations may have taken on new initiatives to fill budget gaps, changing
the association’s activities. In view of the IRS’ increased focus, now is a good time to reexamine
your association’s activities in each of these areas so that you can address any new issues that
may need your attention.
Requirements for Tax Exemption In its examination of associations, the IRS will be evaluating whether the organization is
properly classified as a trade association. To be tax exempt, an association must devote its
activities to improving business conditions in its industry, as opposed to performing services for
individual members. In addition, the association may not be organized or operated primarily to
engage in an activity carried on for profit.
Activities that improve business conditions include programs that benefit the members’
common business interests in some way, such as educational programs, meetings, lobbying
activities, and other activities that promote quality, fairness, efficiency, favorable business
environment, or the exchange of industry information and ideas. Activities that represent
services to individuals are not necessarily considered to be activities that improve business
conditions. In its examinations, the IRS may look at associate member dues and whether the
associate members and the industry members have a common business interest. In addition, it
is likely that the IRS will look at fee‐for‐service income such as advertising, rental income, sales of merchandise, gaming and other revenue from sales of goods and services as an indicator of
activity not devoted to the association’s exempt purpose.
Many associations have added new revenue sources to fill budget gaps. While some new
revenue sources are from activities that improve business conditions in the industry, other
revenue sources may represent activities outside of that purpose. Now is a good time to review
the purpose of each type of revenue coming in to the association and each new activity, to
determine whether most of the association’s activity is devoted to improving business
conditions in its industry. Evaluate whether new revenue sources are taxable and determine
that they are being reported properly on Form 990T.
Political Activity Lobbying and political campaign activity are often fundamental functions associations perform
to benefit their industry. Associations are allowed to engage in lobbying as long as it relates to improving business conditions in their members’ industry. Associations are allowed to
participate in campaign activity as long as it’s not the association’s primary activity. Campaign
expenditures may be subject to tax, and associations generally segregate their political activity
in a political action committee or PAC.
CEOs of associations that do a lot of lobbying know that their members can not deduct any part
of their dues used for lobbying or other political activity. To help members comply, associations
that conduct lobbying and other political activity must disclose to their members the amount of
their dues that represents nondeductible political activity. If the association does not make the
proper disclosure on the dues invoices, the organization must pay a proxy tax on its lobbying
and political campaign expenditures. Lobbying expenditures include direct and indirect costs
related to contacting legislators about the association’s view on specific legislation. Treasury
Regulations govern the proper way to calculate and disclose lobbying costs to avoid proxy tax.
It is likely that the IRS will be looking at dues disclosures and the calculation of lobbying and political campaign expenditures for compliance with the tax law in this area, as well as political activities and the establishment and administration of the organization’s political action
Now is a good time to review how your organization has been calculating its annual lobbying
dues disclosure, and how you are calculating lobbying expenses for reporting on Form 990.
Verify that dues disclosures are being made. Also, take a look at your PAC and make sure
required reports have been filed with the FEC or IRS.
Inurement Because an association is granted tax exempt status to improve business conditions in its
industry, no part of an association’s net earnings may inure to the benefit of any private
shareholder or individual. Theoretically, one dollar of private inurement could jeopardize the
association’s tax exempt status. While CEOs would not intentionally divert association funds
for private benefit, the appearance of private inurement can arise if payroll and benefits are
handled improperly. The appearance of inurement could also arise in other transactions
between the association and its executive, board members or their family members.
It is likely that the IRS will be looking at employment tax compliance in the areas of personal
use of company car, travel reimbursements and other employee benefits. In addition, an agent
would also likely ask for documentation related to any related party transactions such as thesale of a company car to an executive, or any compensation paid to family members of
management or board members.
Now is a good time to review how your salary and benefits are being reported to make sure
that all taxable benefits are being reported as taxable wages. Make sure your travel
reimbursements are being made through an “accountable plan”. In addition, ensure that there
is adequate documentation of the value of any property sold to related parties and the value of
any services provided by related parties.
Summary Although these areas are familiar territory to association executives, you may not have looked
at them in a while. You may have added new initiatives that need your attention. In view of
the IRS’ increased scrutiny, now is a good time to take a fresh look at these areas. Evaluate
how much of your activities are devoted to improving conditions in your industry. Examine
your compliance with lobbying and campaign reporting and disclosure rules. Determine that
you do not have the appearance of private inurement. There are important details related to
all of these areas, so do not hesitate to get your CPA and attorney involved. Raise any
significant issues with your board before the IRS raises them with you. Taking a proactive look
at each of these areas will be time well spent.