When President Richard Nixon tried to use the Internal Revenue Service to attack his political opponents, Internal Revenue Commissioner Donald Alexander got in his way.
If only we had a Donald Alexander today.
The current commissioner of internal revenue, Douglas Shulman, is clearly made of much more malleable stuff than was Alexander, a straight-arrow public servant who fought White House attempts to subvert his agency in the 1970s.
For the second time in less than a year, the IRS has put itself at the service of Democrats who are trying every avenue they can imagine to contravene the Supreme Court’s decision in Citizens United.
The latest salvo involves challenging the tax-exempt status of certain non-profit groups that are organized under section 501(c)(4) of the Internal Revenue Code. That section addresses “civic leagues or organizations not organized for profit but operated exclusively for the promotion of social welfare.” While some 501(c)(4) groups go about the promotion of social welfare in non-political ways, others use contributions to support the candidates for elected office who the organizations believe are most likely to promote “social welfare” as they define it.
Now the IRS has sent dozens of letters to Tea Party organizations applying for nonprofit status under section 501(c)(4), quizzing them about the exact breakdown of their planned activities. The Service’s position appears to be that, to obtain tax-exempt status, organizations can’t plan to spend too much of their time and money on political activities.
“To be tax-exempt as a social welfare organization described in Internal Revenue Code (IRC) section 501(c)(4), an organization must be primarily engaged in the promotion of social welfare,” IRS officials said in a statement e-mailed in response to inquiries about the recent round of questionnaires, according to The New York Times. “The promotion of social welfare does not include any unrelated business activities or intervention in political campaigns on behalf of or in opposition to any candidate for public office.”
But the IRS said a tax-exempt 501(c)(4) can take some part in political campaigns “so long as, in the aggregate, these nonexempt activities are not its primary activities.” How exactly one might determine whether “exempt” or “nonexempt” activities are the “primary activities” of an organization is known only by the IRS, or more likely, by nobody at all.
Nothing in the law calls upon the IRS to determine what sort of activities by a not-for-profit group are legitimately directed toward promoting social welfare, and certainly nothing in the tax agency’s makeup or staffing qualifies it to evaluate such activities. Which is probably why Alexander, in his forthright way, put it bluntly in a 1999 article in the trade magazine Tax Notes: “Political or social views, extremist or otherwise, are irrelevant to taxation.”
What is relevant to taxation is income or, in the case of a corporation or other business entity, profit and the pursuit of profit. Businesses are organized to seek profit, which then belongs to shareholders or partners in the business. Non-profits may engage in profit-seeking businesses, but when they do, they too are subject to tax on those profits. However, the law sensibly recognizes that when an organization is not organized to pursue profit, and when it engages in activities - including advocacy and political campaigning - that do not produce profit, it makes no sense to impose tax as though such an organization were a business.
If it does not collapse for lack of support in the tax law, the IRS’ argument is doomed to fail on First Amendment grounds. The agency is openly seeking to inhibit political speech by corporate entities, which the Supreme Court directly held in Citizens United that the government cannot do.
The IRS’ repeated pursuit of politically active non-profits, most of which currently support Republicans, is beginning to smell very much like the audits and other harassment that was directed at Nixon’s political opposition. But for a moment, let’s give the IRS the benefit of the doubt and speculate that maybe it is merely suffering from some confusion.
All tax professionals, including those who work for the government, are trained almost from birth that political contributions are not deductible as charitable gifts. It is possible that the IRS is conflating the definition of a “charity” with the qualifications to be classified as a “not-for-profit” enterprise.
Just as all squares are rectangles, while not all rectangles are squares, all charities are nonprofits but not all nonprofits are charities. A 501(c)(4) organization is not a charity. No one is arguing otherwise. But it is a nonprofit. And the tax-exempt charities most of us are familiar with are usually exempt from income taxes, not solely because they are charities, but because they are nonprofits.
The reason nonprofits should not pay income taxes has little to do with their social desirability and a great deal to do with their financial structure and the structure of the tax code. When for-profit enterprises file income tax returns, they don’t pay tax on everything they take in. Instead, they pay tax only on their profits - that is, their revenues minus all “ordinary and necessary” business expenses, as defined by section 162 of the Internal Revenue Code. A lot of the tax code’s enormous girth is devoted to examining exactly how those ordinary and necessary expenses are determined.
Advocacy groups organized under section 501(c)(4) have revenues, but they don’t have ordinary and necessary business expenses, for the simple reason that they aren’t businesses. Absent a special law recognizing their nonprofit objectives, they have no deductible business expenses. Therefore, if they were taxed, the government would, in most cases, take 35 percent, the current top corporate tax rate, of all the contributions they received. Soon, donations would dry up as donors realized that large chunks of their contributions were supporting general government spending rather than their chosen social welfare or policy advocacy aims.
Contributions to 501(c)(4)s cannot be deducted as charitable contributions, nor should they be. Charitable contributions are deductible because they represent portions of taxpayers’ incomes that they are not spending for their own benefit. In contrast, those who contribute to 501(c)(4)s expect to get something in return for their money. They are seeking to effect some change in society based on their personal beliefs, and they are supporting the 501(c)(4)s to that end. This, incidentally, is precisely the reason I gave last year when explaining why contributions to 501(c)(4)s cannot be considered gifts.
None of this has anything to do with whether the organizations that receive these contributions should be tax-exempt. Nevertheless, the call for revoking the tax-exempt status of 501(c)(4)s has been largely fueled by reports that many individuals and companies may be inappropriately deducting contributions to advocacy groups.
Maybe, despite the appearance of being the Democrats’ handmaiden, the IRS remains impartial though ill-informed. That would only be small comfort if it were true (we’d all like to have an IRS that is smart enough to understand the law it is charged with enforcing), and as the attacks on 501(c)(4)s mount, this scenario appears less likely.
Once again, I will confidently predict that the Service will ultimately be forced to back off. But at the rate things are going, it may not happen before the agency’s professional reputation takes a significant hit, and that is not a good thing for the country.
Donald Alexander died in 2009 at the age of 87. It’s unfortunate. We could really use someone like him right now.