By Fred Wertheimer
The current firestorm over the wrongful targeting of conservative groups by the Internal Revenue Service is one part of a picture that shows the existing rules to determine the eligibility of groups to qualify as section 501(c)(4) tax-exempt “social welfare” organizations are woefully inadequate.
The other part of the picture is the failure of the IRS to pursue blatant abuses of the tax laws by groups that have improperly claimed section 501(c)(4) tax status in order to hide from the American people the donors who are financing their campaign expenditures.
In fact, both of these IRS scandals stem directly from flawed IRS rules that are contrary to the statute creating section 501(c)(4) “social welfare” organizations and to court interpretations of the statute.
It should be clear at the outset that section 501(c)(4) organizations receive valuable tax and other benefits from the government and the IRS has a statutory responsibility to ensure that groups claiming these benefits are in fact entitled to 501(c)(4) tax-status.
This responsibility does not in any way justify the IRS targeting conservative groups for examination based solely on their names and identified interests. This should never have happened and steps must be taken to ensure that it does not happen again.
But it is also clear that the IRS must enforce the tax laws to prevent groups from improperly claiming tax-exempt status as section 501(c)(4) “social welfare” organizations. This is required in order to protect both the interests of American taxpayers and the integrity of the tax laws.
This has become particularly important following the Citizens United decision, which resulted in a number of groups improperly claiming section 501(c)(4) tax-status in order to launder secret contributions into federal elections. Section 501(c)(4) groups are not required to disclose their donors.
These groups have misused the tax code to deny citizens basic information they have a right to know about the donors financing campaign expenditures to influence their votes.
Both of the current IRS scandals could have been prevented if the IRS had adopted regulations that properly implemented the laws governing eligibility for section 501(c)(4) tax status.
On July 27, 2011, Democracy 21, joined by the Campaign Legal Center, filed a petition with the IRS that challenged the existing eligibility regulations for section 501(c)(4) tax status as contrary both to the Internal Revenue Code and to court decisions interpreting this statute. The petition called on the IRS to conduct a rulemaking proceeding and adopt new regulations that properly implement the statute.
The existing eligibility rules were adopted in 1959, more than a half century ago. In addition to being antiquated and flawed, they do not in any way take account the new groups formed after the Citizens United decision that seek 501(c)(4) status for the purpose of hiding their donors.
Our IRS petition pointed out that the existing regulations did not provide clear guidance regarding when a group was entitled to 501(c)(4) tax-exempt status. The petition also noted that groups claiming 501(c)(4) tax status under the flawed regulations were engaging in far more campaign-related activity that the statute allows.
On July 17, 2012, a year after we first submitted our petition, the IRS wrote back to us noting that the agency “is aware of the current public interest in this issue,” that the existing “regulations have been in place since 1959” and that the IRS “will consider proposed changes in this area.”
Ten months later, however, no new regulations have been adopted or are formally being considered.
Our petition noted that the statute creating the tax status for section 501(c)(4) organizations never envisioned that such groups would engage in campaign activity. In fact, the statute requires such groups to engage “exclusively” in “social welfare” activities, and campaign activities do not qualify as such activities under the law.
IRS regulations adopted to implement the statute proceeded to interpret the requirement to engage “exclusively” in “social welfare” activities to mean only that the “primary” activity of a 501(c)(4) group must be “social welfare “activities.
This standard eventually resulted in the nonprofit world concluding that a section 501(c)(4) group can spend as much as 49 percent of its expenditures on campaign activity and still have “social welfare” as its primary activity. The IRS, however, has never established a 49 percent rule and this policy appears nowhere in IRS documents.
Meanwhile, a court case interpreted the term “exclusively” in the statute to mean that a group cannot engage in more than an “insubstantial” amount of non-social welfare activities, such as campaign activities. Other cases found that a group cannot engage in a substantial amount of non-social welfare activity, in essence the same standard as the cases allowing only an “insubstantial” of non-social welfare activity.
It is clear that devoting forty-nine percent of a group’s activity to campaign-related activities does not comply with the court interpretations of how much non-social welfare activity a section 501(c)(4) group can engage in.
Thus, the existing IRS regulations as interpreted by the nonprofit world have allowed section 501(c)(4) groups to argue that they can engage in far more campaign activity than the law and court interpretations of the law actually allow.
Former acting IRS Commissioner Steven Miller recently said that the eligibility requirements for 501(c)(4) tax status is “not always a clear area, and there are no bright-line tests for what constitutes political intervention. Yet, the IRS is tasked with monitoring and enforcing this difficult area.”
That is precisely why Democracy 21, joined by the Campaign Legal Center, filed a rulemaking petition almost two years ago and urged the IRS to adopt new regulations that established a bright-line test for eligibility for 501(c)(4) tax status.
In our petition, we proposed that consistent with court decisions, the IRS establish a bright-line test by limiting the amount a section 501(c)(4) group could spend on campaign activity to no more than a small or “insubstantial” percentage of its total annual expenditures, such as five or ten percent of the group’s expenditures. Or, consistent with the statutory language, the IRS could prohibit section 501(c)(4) groups from engaging in any campaign activity at all.
This would return section 501(c)(4) organizations to their original statutory purpose of serving as organizations focused on “social welfare” activities.
It would also provide a bright-line test for organizations seeking to qualify for section 501(c)(4) tax-status by making clear to the organizations how much, if any, campaign activity they can engage in and still qualify as section 501(c)(4) groups. And it would eliminate the kind of wrongful targeting of groups that has caused the current IRS firestorm, since the test for being a section 501(c)(4) group would be very clear to both the IRS and the groups seeking this tax status.
Any 501(c)(4)group that wanted to conduct campaign activity could do so by forming a separate section 527 political organization. The purpose of such 527 groups is to make expenditures to influence elections and they are required to disclose their campaign contributions and expenditures.
In short, there are concrete steps that can be taken to address the current scandals at the IRS and prevent them from happening again.
The IRS can conduct a rulemaking proceeding, as we proposed nearly two years ago, and consistent with the statute establish a new bright-line test for eligibility for section 501(c)(4) tax status. Or Congress can enact these bright-line rules for section 501(c)(4) groups.
In other words, if the powers that be in Washington really are interested in solving these problems, they can do so by restoring section 501(c)(4) groups to their original statutory role of engaging in social welfare activities.