Private Letter Ruling
Number: 202110032
Internal Revenue Service
September 23, 2020
   
   
   
DEPARTMENT OF THE TREASURY
INTERNAL REVENUE SERVICE
1100 Commerce Street, MC 4920DAL
Dallas, TX 75242
   
TAX EXEMPT AND GOVERNMENT ENTITIES DIVISION
   
Number: 202110032
Release Date: 3/12/2021
   
UIL: 501.07-00
   
Date: September 23, 2020
Taxpayer ID Number:
Form:
For Tax Period(s) Ending:
Person to Contact:
Identification Number:
Telephone Number:
   
CERTIFIED MAIL -- Return Receipt Requested
LAST DAY FOR FILING A PETITION WITH THE TAX COURT:
   
Dear *******:
   
This is a final determination that you do not qualify for exemption from federal income tax under Internal Revenue Code (IRC) Section 501(a) as an organization described in IRC Section 501(c)(7) for the tax period(s) above.
   
Our adverse determination as to your exempt status was made for the following reasons:
   
You have not established that you are operated substantially for pleasure and recreation of its members or other non-profitable purposes and no part of the earnings inures to the benefit of private shareholder within the meaning of IRC Section 501(c)(7). You have made your recreational and social facilities available to the general public. You have exceeded the non-member income test for tax year ending December 31, 20XX.
   
Organizations that are not exempt under IRC Section 501 generally are required to file federal income tax returns and pay tax, where applicable. For further instructions, forms, and information please visit www.irs.gov.
   
If you decide to contest this determination, you may file an action for declaratory judgment under the provisions of IRC Section 7428 in one of the following three venues: 1) United States Tax Court, 2) the United States Court of Federal Claims, or 3) the United States District Court for the District of Columbia. A petition or complaint in one of these three courts must be filed within 90 days from the date this determination was mailed to you. Please contact the clerk of the appropriate court for rules and the appropriate forms for filing petitions for declaratory judgment by referring to the enclosed Publication 892. You may write to the courts at the following addresses:
   
United States Tax Court
400 Second Street, NW
Washington, DC 20217
   
U.S. Court of Federal Claims
717 Madison Place, NW
Washington, DC 20005
   
U.S. District Court for the District of Columbia
333 Constitution Ave., N.W.
Washington, DC 20001
   
Processing of income tax returns and assessments of any taxes due will not be delayed if you file a petition for declaratory judgment under IRC Section 7428.
   
You may be eligible for help from the Taxpayer Advocate Service (TAS). TAS is an independent organization within the IRS that can help protect your taxpayer rights. TAS can offer you help if your tax problem is causing a hardship, or you've tried but haven't been able to resolve your problem with the IRS. If you qualify for TAS assistance, which is always free, TAS will do everything possible to help you. Visit www.taxpayeradvocate.irs.gov or call 1-877-777-4778.
   
Taxpayer Advocate assistance can't be used as substitute for established IRS procedures, formal appeals processes, etc. The Taxpayer Advocate is not able to reverse legal or technically correct tax determination, nor extend the time fixed by law that you have to file a petition in Court. The Taxpayer Advocate can, however, see that a tax matter that may not have been resolved through normal channels gets prompt and proper handling.
   
You can get any of the forms or publications mentioned in this letter by calling 800-TAX-FORM (800-829-3676) or visiting our website at www.irs.gov/forms-pubs.
   
If you have any questions about this letter, please contact the person whose name and telephone number are shown in the heading of this letter.
   
Sincerely,
   
Sean E. O'Reilly
Director, Exempt Organizations Examinations
   
Enclosures:
Publication 892
   
   
   
Department of the Treasury
Internal Revenue Service
Tax Exempt and Government Entities
   
Date: 6/03/2020
Taxpayer ID number:
Forms:
Tax periods ended:
Person to contact:
Name:
ID number:
Telephone:
Fax:
Address:
Manager's contact information:
Name:
ID number:
Telephone:
Response due date:
   
CERTIFIED MAIL -- Return Receipt Requested
   
Dear *******:
   
Why you're receiving this letter   
We enclosed a copy of our audit report, Form 886-A, Explanation of Items, explaining that we propose to revoke your tax-exempt status as an organization described in Internal Revenue Code (IRC) Section 501(c)(7).
   
If you agree   
If you haven't already, please sign the enclosed Form 6018, Consent to Proposed Action, and return it to the contact person shown at the top of this letter. We'll issue a final adverse letter determining that you aren't an organization described in IRC Section 501(c)(7) for the periods above.
   
After we issue the final adverse determination letter, we'll announce that your organization is no longer eligible to receive tax deductible contributions under IRC Section 170.
   
If you disagree   
1. Request a meeting or telephone conference with the manager shown at the top of this letter.
   
2. Send any information you want us to consider.
   
3. File a protest with the IRS Appeals Office. If you request a meeting with the manager or send additional information as stated in 1 and 2, above, you'll still be able to file a protest with IRS Appeals Office after the meeting or after we consider the information.
   
The IRS Appeals Office is independent of the Exempt Organizations division and resolves most disputes informally. If you file a protest, the auditing agent may ask you to sign a consent to extend the period of limitations for assessing tax. This is to allow the IRS Appeals Office enough time to consider your case. For your protest to be valid, it must contain certain specific information, including a statement of the facts, applicable law, and arguments in support of your position. For specific information needed for a valid protest, refer to Publication 892, How to Appeal an IRS Determination on Tax-Exempt Status.
   
Fast Track Mediation (FTM) referred to in Publication 3498, The Examination Process, generally doesn't apply now that we've issued this letter.
   
4. Request technical advice from the Office of Associate Chief Counsel (Tax Exempt Government Entities) if you feel the issue hasn't been addressed in published precedent or has been treated inconsistently by the IRS.
   
If you're considering requesting technical advice, contact the person shown at the top of this letter. If you disagree with the technical advice decision, you will be able to appeal to the IRS Appeals Office, as explained above. A decision made in a technical advice memorandum, however, generally is final and binding on Appeals.
   
If we don't hear from you   
If you don't respond to this proposal within 30 calendar days from the date of this letter, we'll issue a final adverse determination letter.
   
Contacting the Taxpayer Advocate Office is a taxpayer right   
The Taxpayer Advocate Service (TAS) is an independent organization within the IRS that can help protect your taxpayer rights. TAS can offer you help if your tax problem is causing a hardship, or you've tried but haven't been able to resolve your problem with the IRS. If you qualify for TAS assistance, which is always free, TAS will do everything possible to help you. Visit www.taxpayeradvocate.irs.gov  or call 877-777-4778.
   
For additional information   
You can get any of the forms and publications mentioned in this letter by visiting our website at www.irs.gov/forms-pubs  or by calling 800-TAX-FORM (800-829-3676).
   
If you have questions, you can contact the person shown at the top of this letter.
   
Sincerely,
   
Sean E. O'Reilly
Director, Exempt Organizations
Examinations
   
Enclosures:
Form 886-A
Form 6018
   
   
   
                          
   
 ISSUE:
   
Whether the ******* will continue to qualify as an exempt social club under section 501(c)(7) of the Code?
   
 FACTS:
   
The ******* (the "Club") was granted exemption as a social club exempt from Federal income tax under Internal Revenue Code section 501(c)(7) pursuant to a ruling issued in July, 19XX. The Club was established as a private business club in 19XX as a premier gathering place for business executives. The organization's mission is "to provide social, intellectual, and recreational activity for the benefit of its members".
   
The Club's principal activity is providing facilities and services for the pleasure and recreation of its members and their guests. The Club contracts with an outside food vendor which provides food service for the Club. The Club received income as a result of a ****** between the Club and the outside catering corporation. The Club received gross revenue of $0 per month totaling $0 for the year ended December 31, 20XX as a result of the income received from the outside catering corporation. The income received from the outside catering corporation was correctly classified as nonmember income and Unrelated business revenue on Form 990, however this gross revenue was a majority of the Club's total gross revenue. The Club reflected $0 correctly on Form 990-T and paid the Unrelated Business Income tax after subtracting expenses.
   
During the examination, it was determined that the Club complied with the recordkeeping requirements of Revenue Procedure 71-17, 1971-1 C.B. 683. The Club however received and continues to receive the majority of its gross income from the outside catering corporation which was classified as nonmember income and Unrelated Business Income. Based on an examination of the Club's Form 990 return for the period ended December 31, 20XX and review of their books and records, the percent of gross receipts from nonmember use of facilities far exceeded 15% for the year of the exam. The agent reviewed the prior and subsequent years, however did not examine these years as the nonmember income derived from the outside catering corporation also far exceeded 15% for the prior and subsequent years. These receipts are noted in the following chart:
   
       
   
The examination year, year ended December 31, 20XX, reflected gross receipts from nonmember use of $ ******* as a result of the income received from the outside catering organization and total gross revenue for the year of $0 which resulted in 0.00 percent from non member use.
   
 LAW:
   
Organizations exempt from federal taxes as described in IRC Section 501(c)(7) include clubs organized for pleasure, recreation, and other nonprofitable purposes, substantially all of the activities of which are for such purposes, and no part of the net earnings of which inures to the benefit of any private shareholder.
   
Section 1.501(c)(7)-1 of the Income Tax Regulations, relating to the requirements of exemption of such clubs under section 501(a), reads in part as follows:
   
(a) The exemption provided by section 501(a) for organizations described in section 501(c)(7) applies only to clubs which are organized and operated exclusively for pleasure, recreation, and other nonprofitable purposes, but does not apply to any club if its net earnings inures to the benefit of any private shareholder. In general, this exemption extends to social and recreation clubs which are supported solely by membership fees, dues, and assessments. However, a club otherwise entitled to exemption will not be disqualified because it raises revenue from members through the use of club facilities or in connection with club activities.
   
(b) A club which engages in business, such as making its social and recreational facilities available to the general public or by selling real estate, timber or other products, is not organized and operated exclusively for pleasure, recreation, and other nonprofitable purposes and is not exempt under section 501(a). Solicitation by advertisement or otherwise for public patronage of its facilities is prima facie evidence that the club is engaging in business and is not being operated exclusively for pleasure, recreation, or social purposes. However, an incidental sale of property will not deprive a club of its exemption.
   
Prior to its amendment in 1976, IRC Section 501(c)(7) required that social clubs be operated exclusively for pleasure, recreation, and other non-profitable purposes. Public Law 94-568 amended the "exclusive" provision to read "substantially" in order to allow a section 501(c)(7) organization to receive up to 35 percent of its gross receipts, including investment income, from sources outside its membership without losing its tax exempt status. The Committee Reports for Public Law 94-568 further state:
   
(a) Within this 35 percent amount, not more than 15 percent of the gross receipts should be derived from the use of a social club's facilities or services by the general public. This means that an exempt social club may receive up to 35 percent of its gross receipts from a combination of investment income and receipts from non-members, so long as the latter do not represent more than 15 percent of total receipts. These percentages supersede those provided in Revenue Ruling 71-17, 1971-1 C.B. 683.
   
(b) Thus, a social club may receive investment income up to the full 35 percent of its gross receipts if no income is received from non-members' use of club facilities.
   
(c) In addition, the Committee Reports state that where a club receives unusual amounts of income, such as from the sale of its clubhouse or similar facilities, that income is not to be included in the 35 percent formula.
   
(d) The Senate report also indicates that even though gross receipts from the general public exceed this standard, it does not necessarily establish that there is a nonexempt purpose. A conclusion that there is a nonexempt purpose will be based on all the facts and circumstances including, but not limited to, the gross receipts factor.
   
Revenue Ruling 58-589 sets forth the criteria for exemption under section 501(c)(7) of the Code, and provides that a club must have an established membership of individuals, personal contacts, and fellowship. It also provides that, while the regulations indicate that a club may lose its exemption if it makes its facilities available to the general public, this does not mean that any dealings with nonmembers will automatically cause a club to lose its exemption. A club may receive some income from the general public, that is, persons other than members and their bona fide guests, or permit the general public to participate in its affairs, provided that such participation is incidental to and in furtherance of the club's exempt purposes, such dealings with the general public and the receipt of income therefrom does not indicate the existence of a club purpose to make a profit, and the income does not inure to club members.
   
Revenue Ruling 60-324 provides that a social club that made its social facilities available to the general public through its member-sponsorship arrangement can not be treated as being operated exclusively for pleasure, recreation, or other nonprofitable purposes and the club no longer qualified for exemption under 501(c)(7) of the Code.
   
Revenue Ruling 66-149 provides that a social club is not exempt from federal income tax as an organization described in section 501(c)(7) of the code if it regularly derives a substantial part of its income from non-member sources such as, for example, dividends and interest on investments.
   
Revenue Ruling 68-119 provides that a club will not necessarily lose its exemption if it derives income from transactions with other than bona fide members and their guests, or if the general public on occasion is permitted to participate in its affairs, provided such participation is incidental to and in furtherance of its general club purposes and the income therefrom does not inure to members.
   
Revenue Procedure 71-17 sets forth guidelines for determining the effect of gross receipts derived from nonmember use of a social club's facilities on exemption under Internal Revenue Code Section 501(c)(7) and recordkeeping requirements. Failure to maintain such records or make them available to the Service for examination will preclude use of the minimum gross receipts standard and audit assumptions set forth in this Revenue Procedure.
   
If a club exceeds the 15/35% test, then it will maintain its exempt status only if it can show through facts and circumstances that "substantially all" of its activities are for "pleasure, recreation and other nonprofitable purposes."
   
The following are important facts and circumstances to take into account to determine whether a club may maintain its exemption under IRC 501(c)(7):
   
- The actual percentage of nonmember receipts and/or investment income.
   
- Frequency of use of the club facilities or services by nonmembers. An unusual or single event (that is, nonrecurring on a year to year basis) that generates all the nonmember income is viewed more favorably than nonmember income arising from frequent use by nonmembers.
   
- Record of nonmember use over a period of years. A high percentage in one year by nonmembers, with the other years being within permitted levels, is viewed more favorably than a consistent pattern of exceeding the limits, even by relatively small amounts. (See S. Rept. 94-1318, 2d Sess., 1976-2 C.B. 597, 599).
   
- Purposes for which the club's facilities were made available to nonmembers.
   
- Whether the nonmember income generates net profits for the organization. Profits derived from nonmembers, unless set aside, subsidize the club's activities for members and result in inurement within the meaning of IRC 501(c)(7).
   
TAXPAYER'S POSITION:
   
The Club has agreed to the proposed revocation of their tax exempt status as described in IRC section 501(c)(7).
   
GOVERNMENT'S POSITION:   
   
An organization exempt from federal income taxes as described in IRC section 501(c)(7) must meet the gross receipts test in order to maintain its exemption. In order to meet the gross receipts test, an organization can receive up to thirty-five percent (35%) of its gross receipts, including investment income, from sources outside its membership without losing its tax exempt status. Within this 35% amount, not more than fifteen percent (15%) of the gross receipts should be derived from the use of a social club's facilities or services by non-members.
   
****** has far exceeded the 15% gross receipts standard for nonmember income for the examination year. A review of the prior and subsequent years indicated that ****** also far exceeded the 15% gross receipt test for nonmember income. The nonmember receipts are earned throughout the year on a monthly basis for the examination year as well as the prior and subsequent years. There was no one single or unusual event that caused the club to exceed the 15% threshold.
   
Based on the large percentages of gross nonmember income to total gross receipts of the club, (i.e., as noted in the above table), which exceeded the limitation of 15% as set forth by IRC 501(c)(7) for each of these years, it is the Government's position that the Club is no longer operated exclusively for the pleasure and recreation of it's members and is not exempt under section 501(c)(7).
   
 CONCLUSION:
   
The IRC Section 501(c)(7) tax exempt status of ******* should be revoked since the nonmember income received by the Club exceeded 15% of the Club's total gross receipts for the year under examination.
   
****** no longer meets the requirements to qualify as exempt from federal income tax under IRC section 501(a) as described in section 501(c)(7). Therefore, your exempt status under 501(c)(7) of the Internal Revenue Code will be revoked effective January 1, 20XX.
   
As a taxable entity, the organization is required to file Form 1120, U.S. Corporation Income Tax Return for the periods open under statute. Under 6501(g) these periods include the year ended December 31, 20XX and subsequent tax years.