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The ‘Proposed’ Regulation Gambit

Proposing a new rule is not the same as changing the rules, but the Obama administration seems to think it can achieve its goal of regulating political speech either way.

The administration recently proposed a set of strict new regulations that would bar certain nonprofits from securing a tax exemption if they participate in more than a limited amount of “candidate related” political activity. Current Internal Revenue Service rules require that 501(c)(4) organizations be organized for the purpose of “social welfare.” The new rules, if adopted, would explicitly exclude certain political activity from that category.

Such organizations have cropped up regularly in the news since the IRS scandal earlier this year, which revealed that the Service inappropriately targeted groups filing for tax-exempt status under 501(c)(4) rules. While the IRS Internal Review Board did not find evidence of political bias in the actions of Lois Lerner, who headed the IRS branch determining whether the organizations that applied for tax-exempt status qualified to receive it, the IRS effort to curtail the political speech of social welfare groups, and the shaky legal foundation for that effort, has been obvious to all.

These are only proposed regulations, so they are not technically binding in the tax world. However, proposed regulations often stay on the books in that form for years, or even decades. The proposed regulations typically serve as an informal guide that the IRS and tax practitioners use to shape their understanding of tax law. This is exactly what the administration wants; the proposal can deter the operation of 501(c)(4)s that support political candidates without actually providing a clear target for a court challenge.

Such a challenge would likely go first to the U.S. Court of Appeals for the District of Columbia, where Obama has three pending nominees whose appointments now cannot be filibustered. If a D.C. Circuit packed with administration-friendly judges upholds the new restrictions, the issue might then proceed to the U.S. Supreme Court. If and when a case challenging these regulations gets there, the high court that decided Citizens United will have no trouble concluding that these regulations are invalid on their face.

The government has no business telling anyone, including not-for-profit organizations, what they can say and when they can say it. That principle is central to our civil liberties. Moreover, the government has no business taxing the profits of a not-for-profit organization. Its rules defining what a not-for-profit organization is do not limit the speech or advocacy of such organizations. The key test of a not for profit is the rule - unchallenged by anyone - that no net earnings can benefit any private shareholder or individual. But for the government to define certain kinds of speech as incompatible with social welfare, and thus incompatible with the organization’s tax-exempt status, is to effectively impose a tax on that speech.

This is not the first attempt to bar 501(c)(4) groups from engaging in political speech. This time, as before, the courts will almost certainly strike down such an effort. But that process will take time. The proposal, when invoked by IRS bureaucrats, could cause headaches for such nonprofits in the interim. In fact, that is the idea.

Despite the gambit of issuing an edict in the form of the proposed regulations, which will probably not be finalized for the duration of the Obama presidency, I suspect that a well-funded 501(c)(4) will still launch a prompt legal challenge. If such a case gets to the current Supreme Court, the new rules will very likely be struck down. This court has made it clear that the government has no business regulating political speech, and will have no trouble concluding that taxing contributions that support such speech steps far over the line into trying to regulate it.

Larry M. Elkin is the founder and president of Palisades Hudson, and is based out of Palisades Hudson’s Fort Lauderdale, Florida headquarters. He wrote several of the chapters in the firm’s most recent book, The High Achiever’s Guide To Wealth. His contributions include Chapter 1, “Anyone Can Achieve Wealth,” and Chapter 19, “Assisting Aging Parents.” Larry was also among the authors of the firm’s previous book, Looking Ahead: Life, Family, Wealth and Business After 55.

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