department of the treasury internal_revenue_service te_ge eo examinations fulton street room brooklyn ny tax_exempt_and_government_entities_division date number release date legend org organization name xx date address address org address certified mail dear taxpayer_identification_number person to contact identification_number contact telephone number this is a final adverse determination regarding your exempt status under sec_501 of the internal_revenue_code the code our favorable determination_letter to you dated october 19xx is hereby revoked and you are no longer exempt under sec_501 of the code effective january 19xx the revocation of your exempt status was made for the following reason s we have determined that you are not operating exclusively for charitable or educational_purposes a substantial part of your activities consists of providing down payment assistance to home buyers to finance the assistance you rely on home sellers and other real-estate related businesses that stand to benefit from these down payment assistance transactions your receipt of payment from the home seller corresponds to the amount of the down payment assistance provided in substantially_all of your down payment assistance transactions the manner in which you operate demonstrates you are operated primarily to further your insiders’ business interests therefore you are operated for a substantial nonexempt purpose in addition your operations further the private interests of your president executive director and the persons that finance your activities accordingly you are not operated exclusively for exempt purposes described in sec_501 and your income inured to the benefit of private individuals contributions to your organization are no longer deductible under sec_170 you are required to file income_tax returns on form_1120 these returns should be filed with the appropriate service_center for the tax_year ending december 20xx and for all tax years thereafter in accordance with the instructions of the return addition to the filing of form_1120 although your status as an exempt_organization is revoked you are also required to file form_990-pf return of private_foundation see sec_1_6033-2 since your status as a private_foundation has not been terminated pursuant to sec_507 see internal_revenue_code sec_509 in processing of income_tax returns and assessments of any taxes due will not be delayed should a petition for declaratory_judgment be filed under sec_7428 of the internal_revenue_code if you decide to contest this determination under the declaratory_judgment provisions of sec_7428 of the code a petition to the united_states tax_court the united_states court of federal claims or the district_court of the united_states for the district of columbia must be filed before the ' day after the date this determination was mailed to you please contact the clerk of the appropriate court for rules regarding filing petitions for declaratory judgments by referring to the enclosed publication you may write to these courts at the following addresses you also have the right to contact the office_of_the_taxpayer_advocate taxpayer_advocate assistance is not a substitute for established irs procedures such as the formal appeals process the taxpayer_advocate cannot reverse a legally correct_tax determination or extend the time fixed by law that you have to file a petition in a united_states 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 may call toll-free and ask for taxpayer_advocate assistance if you prefer you may contact your local taxpayer_advocate at if you have any questions please contact the person whose name and telephone number are shown in the heading of this letter sincerely nanette m downing director eo examinations enclosure publication tax_exempt_and_government_entities_division org address department of the treasury internal_revenue_service s dearborn 17th floor mc4923chi chicago l date taxpayer_identification_number form tax_year s ended person to contact id number contact numbers telephone fax certified mail - return receipt requested dear we have enclosed a copy of our report of examination explaining why we believe revocation of your exempt status under sec_501 of the internal_revenue_code code is necessary lf you accept our findings take no further action we will issue a final revocation letter if you do not agree with our proposed revocation you must submit to us a written request for appeals_office consideration within days from the date of this letter to protest our decision your protest should include a statement of the facts the applicable law and arguments in support of your position an appeals officer will review your case the appeals_office is independent of the director eo examinations the appeals_office resolves most disputes informally and promptly the enclosed publication the examination process and publication exempt_organizations appeal procedures for unagreed issues explain how to appeal an internal_revenue_service irs decision publication also includes information on your rights as a taxpayer and the irs collection process you may also request that we refer this matter for technical_advice as explained in publication if we issue a determination_letter to you based on technical_advice no further administrative appeal is available to you within the irs regarding the issue that was the subject of the technical_advice letter catalog number 34809f if we do not hear from you within days from the date of this letter we will process your case based on the recommendations shown in the report of examination if you do not protest this proposed determination within days from the date of this letter the irs will consider it to be a failure to exhaust your available administrative remedies sec_7428 of the code provides in part a declaratory_judgment or decree under this section shall not be issued in any proceeding unless the tax_court the claims_court or the district_court of the united_states for the district of columbia determines that the organization involved has exhausted its administrative remedies within the internal_revenue_service we will then issue a final revocation letter we will also notify the appropriate state officials of the revocation in accordance with sec_6104 of the code you have the right to contact the office_of_the_taxpayer_advocate taxpayer_advocate assistance is not a substitute for established irs procedures such as the formal appeals process the taxpayer_advocate cannot reverse a legally correct_tax determination or extend the time fixed by law that you have to file a petition in a united_states 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 may call toll-free and ask for taxpayer_advocate assistance if you prefer you may contact your local taxpayer_advocate at if you have any questions please call the contact person at the telephone number shown in the heading of this letter the most convenient time to call if we need to contact you if you write please provide a telephone number and thank you for your cooperation enclosures publication publication report of examination sincerely sunita lough director eo examinations letter catalog number 34809f form 886a department of the treasury - internal_revenue_service explanation of items schedule no or exhibit year period ended name of taxpayer 20xx12 20xx12 org 20xx12 20xx12 ein ein 990-pf legend org organization name president ra co-1 xx date city city state state president dir-1 dir-2 dir-3 co-2 co-3 director sec_3 companies ra-1 ra-2 i issues a issue whether org org or organization’ ’ operated exclusively for exempt purposes within the meaning of sec_501 of the internal_revenue_code irc or code b issue whether org’s tax-exempt status should be revoked as of january 19xx the date it began operating its dpa program il facts a organization history brief history of org org is a‘not-for-profit corporation incorporated on february 19xx in city state by president to conduct charitable activities and help build a community center for the city of city the initial board_of directors consisted of president dir-1 dir-2 and dir-3 based on its representations on form_1023 org received a determination_letter from the internal_revenue_service irs or service’ recognizing the organization as exempt from tax under sec_501 the organization was classified as a private_foundation in a letter from the irs dated march 19xx by 19xx org became inactive apparently due to the illness of president it remained dormant through 19xx when ra-1 who was in the building construction business agreed with president to take over the management of org there are no minutes of the meeting between ra-1 and president nor is there a written_agreement memorializing the terms of the agreement between the two men in 19xx ra-1 became org’s president since then org’s sole activity has been the promotion and operation of a seller-funded down payment assistance dpa program described in detail below since 19xx the organization’s operations have had no resemblance to the operations org described on its form_1023 the organization’s form_1023 does not indicate that the organization’s actual or planned activity would be the operation of a seller-funded dpa program in the manner conducted by org after starting the operation of the dpa program org never notified the irs of the change in its activities funding and operations during the years under examination ra-1 together with his wife ra-2 controlled org he was the only member of org’s board_of directors and served as the organization’s president treasurer and secretary at ' unless otherwise stated all section references are to the internal_revenue_code_of_1986 as amended the code all regulatory references are to the regulations promulgated under the code form 886a department of the treasury - internal_revenue_service explanation of items name of taxpayer org ein ein schedule no or exhibit 990-pf year period ended 20xx12 20xx12 20xx12 20xx12 the same time ra-2 served as the executive director of the organization and was the only alleged employee of the organization in the years under examination the operation of the dpa program was org’s sole activity application_for recognition of tax-exempt status on june 19xx org filed form_1023 application_for exemption or application with the irs under penalties of perjury to apply for recognition of tax-exempt status under sec_501 the application stated that org has no past or present activities the income for org will be used for charitable activities donations will be made to other organizations which are recognized by sec_501 including local organizations qualified under said code section the ultimate goal of org would be to assist in the construction of a community center for the city of city the articles of incorporation stated that the purposes of the organization are to receive and maintain a fund or funds of real and or personal_property or both and subject_to the restrictions and limitations hereinafter set forth to use and apply the whole or any part of the income therefrom and the principal thereof exclusively for charitable religious scientific testing for public safety literary or educational_purposes either directly or by contributions to organizations that qualify as exempt_organizations under sec_501 of the internal_revenue_code of and its regulations during the initial application review the irs sent a letter dated september 19xx to org requesting additional information and clarification regarding its exempt_activities the letter requested a a detailed description of past present and proposed activities and information regarding b when they would be initiated c how they would be conducted d the requirements to participate and receive benefits e fees and f what the activities would accomplish org responded in a letter dated october 19xx stating that a as stated the corporation has no definite activities at the present time form_1023 states that the ultimate goal of the corporation is to assist in building a community center in city city state until further details are worked out for this project the corporation will limit itself to making contributions to other organizations which are exempt under state revenue code sec_501 or the state or city governments b it is hoped that a fund drive will be initiated for the community center at an early date by the corporation until such time the corporation will limit its activities to those stated above in paragraph a c see the answers to a and b above d at the present time only organizations exempt under sec_501 or governmental organizations would be eligible to receive any benefit from the corporation form 886a department of the treasury - internal_revenue_service explanation of items schedule no or exhibit year period ended name of taxpayer 20xx12 20xx12 org 20xx12 20xx12 ein ein 990-pf e there are no charges or fees that will be charged or assessed by the corporation f the community center if constructed will provide a central meeting place for residents of city state a recreational center for youth of the community and other related community donations to city or county government or organizations exempt under section activities c will be used by that entity for its charitable purposes based on the information org provided in its application_for exemption additional information provided during the application process and the assumption that the organization would operate in the manner represented in its application on october 19xx the irs issued a determination_letter recognizing org as in the letter the irs determined that org would be a tax-exempt_organization as described in sec_501 treated as a publicly_supported_organization and not as a private_foundation during the advance_ruling period which ended december 19xx at the end of the advance_ruling period in a letter dated march 19xx the irs notified the organization that it would be classified as a private_foundation private_foundation_status org is a private_foundation before ra-1 took over the management of org the organization had been classified as a private_foundation and after the change in management org continued to hold itself out as a private_foundation the organization filed forms 990-pf and for the calendar years ended december 20xx and december 20xx in publication cumulative list of organizations described in sec_170 of the internal_revenue_code_of_1986 org is listed as a private_foundation org’s private_foundation_status was never terminated as provided in sec_507 and the accompanying regulations b operation of org’s down payment assistance activity during the examination the organization provided the following list of its activities down payment grant activity closing cost grants interest rate buy down non-conventional non-conforming financing rental housing site acquisition to build affordable homes contract to build and manage cooperative homes and debt consolidation debt pay-off see the document titled org - activities and operational information despite the list of activities provided during the years under examination org’s sole activity was the operation of a dpa program the organization promoted its dpa program through solicitation of real_estate agents mortgage lenders loan officers title insurers sellers buyers and builders to identify potential homebuyers in need of assistance for the purchase of a home a document titled down-payment assistance prepared by org during the examination described the advantage to realtors as follows real_estate agent is able to help both clients buyer and seller while also increasing their business why cancel a sale due to lack of down payment resources when the funds are available the document described the advantages to sellers as including the ability to sell their home in a timely manner without the need to reduce their price and to buyers as the ability to purchase a home using our down payment assistance program essentially through its dpa program the organization channeled funds for downpayment and closing costs from the participating sellers to the participating homebuyers purchasing a home this activity was entirely form 886a department of the treasury - internal_revenue_service explanation of items schedule no or exhibit year period ended name of taxpayer 20xx12 20xx12 org 20xx12 20xx12 ein ein 990-pf financed with fees paid to the organization by the participating sellers in all four years under examination org provided dpa grants to any home buyer using a mortgage company that would accept a gift from an sec_501 organization as the down payment for the purchase of a house org followed these steps for its dpa program a real_estate contract prepared by the realtor is negotiated between a buyer and seller in most cases the realtor knows about org’s dpa program through either the mortgage broker or a builder both seller and homebuyer are encouraged to participate in org’s dpa program the realtor provides the buyer with a gift application the gift application contains the applicant’s information eg requested gift total household_income family size the seller’s information lender’s information type of loan and closing agent information the gift letter must be accompanied by a copy of mortgage application purchase agreement participating home agreement hud settlement statement and a service fee at closing payable by seller the participation_agreement enrolls the seller’s property into org’s dpa program the form states in part that in consideration of the foregoing seller s agrees to make a contribution to org in the amount of dollar_figure seller understands that the contribution will not be used to provide assistance to the buyer of the participating home and that the gift funds provided to the buyer toward the purchase of the seller s home are derived from seller further understands that the seller s is only obligated to preexisting org funds make the contribution if the org program purchases the participating home a homebuyer utilizing the agreement further stated that it is understood by this agreement that any gift deposited by org with escrow or closing agent shall be returned without_recourse within three days to org in the event buyer’s loan closing is terminated seller shall not be obligated to make a contribution upon termination of loan closing of participating home the amount of the seller’s contribution almost always equals exactly the amount_of_the_gift provided to the buyer of the seller’s home plus the service fee which generally equal sec_15 of the gift amount the seller generally agrees to pay the service fee as a condition of participating in the dpa program the participation agreements are signed by the seller and the buyer and org staff org reviews the application and decides on the amount of gift to provide to buyer the amount of gift varies from one transaction to another the service fee is added to the buyer’s gift and the total amount ie gift plus the service fee represents the amount of the seller’s contribution to org the gift is not limited to a particular percentage the gift amount can be whatever the buyer requires to close the loan form_886 a department of the treasury - internal_revenue_service explanation of items year period ended name of taxpayer 20xx12 20xx12 org 20xx12 20xx12 ein ein 990-pf - schedule no or exhibit on the day of closing org staff prepares a closing fax transmittal and faxes the form directly to the title company or closing agent the closing fax transmittal contains closing instructions and information eg borrower’s name contributor’s name property address loan originator name of nonprofit contribution amount payable to org gift amount service fees and closing date the title company or closing agent then confirms to org that the transaction is scheduled and confirms the grant amount needed by the buyer the closing agent also signs closing instructions stating it will return the grant amount if the loan does not close and agrees to collect org’s seller service fee from the seller org then wires the down payment grant directly to the title or escrow office by the requested closing date if the loan does not close within five business days of requested closing date the title or escrow officer will return the grant money directly back to org in 20xx org completed over dpa transactions it completed less than in 20xx in 20xx and 20xx org completed less than transactions in each year in nearly all of these transactions the home seller’s contribution exclusive of org’s service fee corresponded exactly to the amount of dpa org provided to the home buyer org’s promotional materials advised participating sellers that payments made to org may be deductible as charitable_contributions under sec_170 for instance in one promotional document titled down payment assistance org stated a contribution may be used as either a charitable deduction which may have limitations or as a cost of sale deduction required to sell the home regarding income limits and financial need publications produced by org stated that org offers downpayment and or closing cost assistance to help low- to moderate-income households purchase new or rehabilitated dwellings for use as their primary residence however the manner in which org operated its dpa program shows that the organization did not have any income limitations and did not screen applicants for dpa based on income in addition dpa was made available regardless of whether the buyer was a first time buyer and regardless of the geographical location of the home being purchased in regard to fundraising and contributions org’s application_for exemption stated that the organization would receive donations from the general_public and the contributions would be invested with the investment_income being used for the organization’s exempt purposes however the review of the books_and_records for 20xx through 20xx disclosed that of org’s revenue comes from payments received from the sellers that participated in the org dpa program org filed forms 990-pf for 20xx and 20xx part ix - a summary of direct charitable activities of the 20xx form_990-pf stated that the direct charitable activities engaged in during 20xx were downpayment assistance interest rate buy-down assistance debt reduction or other assistance to help households purchase dwellings for use as their primary residence org answered part ix - a of the 20xx form_990-pf as n a according to its 20xx form_990-pf in 20xx org received dollar_figuredollar_figure from home sellers it reported this amount under contributions gifts grants received of this amount org paid out dollar_figuredollar_figure as specific assistance to home buyers reported under contributions gifts grant paid the organization paid the remaining balance for form 886a department of the treasury - internal_revenue_service explanation of items schedule no or exhibit year period ended name of taxpayer 20xx12 20xx12 org 20xx12 20xx12 ein ein 990-pf administration of the dpa program reported as other expenses on the form_990-pf the organization’s 20xx form_990-pf part ii line reported that as of january 20xx org’s net assets or fund balance was dollar_figuredollar_figure this grew to dollar_figuredollar_figure by december 20xx according to its 20xx form_990-pf org received dollar_figuredollar_figure from home sellers it reported this amount under contributions gifts grants received of this amount org paid out dollar_figuredollar_figure as specific assistance to home buyers reported under contributions gifts grant paid the organization paid the remaining balance for salaries accounting fees and general administration of the dpa program the organization’s 20xx form_990-pf part ii line reported that as of december 20xx org’s net assets or fund balance was dollar_figuredollar_figure org did not file forms 990-pf for 20xx and 20xx however based upon a review of the organization’s books_and_records it was determined that org received dollar_figuredollar_figure in contributions from home sellers and paid out dollar_figuredollar_figure as specific assistance to home buyers in 20xx in 20xx org received dollar_figuredollar_figure in contributions from home sellers and paid out dollar_figuredollar_figure as specific assistance to home buyers org’s dpa program facilitated real_estate transactions and as a result provided private benefit to the participating sellers buyers realtors builders lenders in addition the organization’s officers and insiders benefited more than incidentally from org’s operations the benefits included sellers org’s dpa program benefited sellers by providing them with ready buyers enabling the sellers to sell for higher prices and allowing them to sell faster due to the larger pool of potential buyers thereby reducing the costs associated with real_estate remaining unsold for an extended period one of org’s promotional documents stated the advantage to the seller as the seller is able to sell their home in a timely manner without the need to reduce their price realtors the realtors are able to increase their business as more buyers and sellers are introduced into the program sales increases generate increased commissions builders the participating home builders in org’s dpa program received benefits similar to the home sellers in that their participation in org’s dpa program allowed them access a larger pool of homebuyers thereby allowing the home builders to sell homes faster and at a higher price lenders review of the transactions undertaken by org during the years under examination disclosed that the transactions in which dpa was provided were concentrated in a few lenders and a few contact persons the main bank is individuals from this bank whose names occur frequently on the closing papers like realtors lenders also benefit from increased sales in the form of increased commissions of the mortgages there are two or three bank which provided over ra-1 and his son ra-1 commingles the activities of his personal for-profit company with those of org three of the for-profit home builder companies participating in org’s dpa program are owned by either ra-1 or his son ra-1 owns co-1 a company specializing in residential construction and sales ra-1’s son owns two construction companies co-2 and co-3 which specialize in single family home construction as owners of these for-profit home construction companies ra-1 and his son benefit materially from form 886a department of the treasury - internal_revenue_service explanation of items name of taxpayer org ein ein schedule no or exhibit 990-pf year period ended 20xx12 20xx12 20xx12 20xx12 participating in org’s dpa program in 20xx co-1 owned by ra-1 contributed over dollar_figuredollar_figure to org and co-3 owned by ra-1’s son contributed over dollar_figuredollar_figure in all companies owned by ra-1 and son accounted for of org’s revenue in 20xx in 20xx co-3 contributed dollar_figuredollar_figure co-2s dollar_figuredollar_figure and ra-1 and ra-2 dollar_figuredollar_figure in total companies owned by ra-1 and son accounted for of org’s revenue in 20xx as discussed above the amounts contributed were circulated through org to homebuyers purchasing the homes constructed by these companies ra-2 as executive director ra-2 was responsible for the overall administration of org and its dpa program ra-2 and ra-1 were both signatories on the organization’s checking account however ra-2 wrote and signed the majority of the checks during the examination it was discovered that checks paid in irregular intervals and amounts and totaling dollar_figuredollar_figure were written to ra-2 during 20xx ra-2 admitted that she received the funds and that the funds were not used for org’s business purposes but rather for her own personal purposes the organization did not have an employment contract with ra-2 there was no written_agreement regarding compensation amount pay day or frequency of pay during the initial interview ra-1 org’s president alleged that ra-2’s annual compensation was dollar_figuredollar_figure this amount was recorded in the organization’s ledgers in 20xx as salary the 20xx form_990-pf line reported compensation of officers directors trustees etc as -0- and line other employee salaries and wages contained no entry in the chart on line of part viii of the 20xx form_990-pf where org listed its officers directors and foundation managers and their compensation org only listed ra-1 as director president secretary and treasurer with dollar_figure in - compensation it did not list the name of ra-2 or report that any compensation was paid to her in addition org did not file form sec_941 w-2 or with respect to any of its payments to ra-2 in 20xx or in any other year as noted above ra-2 received a total of dollar_figuredollar_figure during the year ending december 20xx org reported the difference between the total amount ra-2 received during the year dollar_figuredollar_figure and the amount alleged as her salary dollar_figuredollar_figure or dollar_figuredollar_figure as receivable due from officers directors trustee and other disqualified_person on the form_990-pf balance_sheet at the end of the year a promissory note the note for dollar_figuredollar_figure was prepared the amount listed on the promissory note was presumably an attempt to characterize the noncompensatory payments to ra-2 as a loan to her from org the note stated in relevant part the following the undersigned each as principal jointly and severally promise s to pay to the order of org at city state the sum of dollar_figuredollar_figure with interest thereon from december 20xx payable on december 20xx at the rate of percent per annum until payment hereof as follows dollar_figuredollar_figure annual payment each year commencing on december 20xx with interest december 20xx with interest payment in full on december 20xx with interest the amount reported on the note was dollar_figuredollar_figure less than the amount reported on the balance_sheet as receivable due from officer form 886a department of the treasury - internal_revenue_service explanation of items schedule no or exhibit year period ended name of taxpayer 20xx12 20xx12 org 20xx12 20xx12 ein ein 990-pf the note had an execution date of december 20xx and was signed by ra-2 only as follows ra-2 signature by ra-2 typed out title executive director no collateral was provided the transaction was reported on org’s 20xx and 20xx forms 990-pf at part ii balance sheets line receivables due from officers directors trustees and other disqualified persons in addition in part vii- b statements regarding activities for which form_4720 may be required of the 20xx form_990-pf org checked yes to the question during the year did the organization either directly or indirectly borrow money from lend money to or otherwise extend credit to or accept it from a disqualified_person org also checked yes in response to the question if any answer is ‘yes’ to 1a - did any of the acts fail to qualify under the exceptions described in regulations sec_53_4941_d_-3 the 20xx form pf contains identical or nearly identical information in addition to the information reported on the forms 990-pf org filed forms reporting the transactions these forms reported the transactions as a loan to a disqualified_person at the end of 20xx the receivables due from officers on the form_990-pf balance_sheet had a balance of dollar_figuredollar_figure which included dollar_figuredollar_figure reported as interest accrued for 20xx although org did not file forms 990-pf for 20xx and 20xx as of december 20xx the organization’s books_and_records continued to reflect the balance that existed at the end of 20xx dollar_figuredollar_figure ra-2 never made any payments on the loans org did not report the payments to ra-2 on forms w-2 or nor did the organization file form_941 employers quarterly federal tax returns for the years under examination in fact the organization has never filed any form sec_941 w-2 or org’s form_990-pf reported the following revenue expense balances for 20xx 20xx and 20xx total revenue total expenses excess or deficit 20xx 20xx 20xx dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure ‘ org’s form_990-pf showed the following balance_sheet balances for 20xx 20xx and 20xx assets cash - non interest bearing receivables due from disqualified persons other notes and loans receivable total assets 20xx 20xx 20xx dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure - dollar_figure dollar_figure dollar_figure dollar_figure liabilities mortgages other notes payable dollar_figure dollar_figure - form 886a department of the treasury - internal_revenue_service explanation of items schedule no or exhibit year period ended name of taxpayer 20xx12 20xx12 org 20xx12 20xx12 ein ein 990-pf unrestricted fund balance total liabilities dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure in 20xx org reported a profit of dollar_figuredollar_figure in 20xx org’s profits increased considerably to dollar_figuredollar_figure at year end 20xx the organization reported no outstanding receivables from disqualified persons however as org began showing more substantial profits in 20xx ra-2 received disbursements totaling dollar_figuredollar_figure dollar_figuredollar_figure of which it now alleges was a loan at year end 20xx org had total reported assets of dollar_figuredollar_figure of that amount dollar_figuredollar_figure or of org’s total assets was tied up in the alleged loan to ra-2 at year end 20xx org’s total assets were dollar_figuredollar_figure the alleged loan amount had risen to dollar_figuredollar_figure because of unpaid accrued interest thus at year end 20xx the alleged loan represented of org’s total assets c gao’s november 20xx report in november 20xx the government accountability office gao issued a report on seller-funded dpa from nonprofit_organizations see gao’s november 20xx report mortgage financing additional action needed to manage risks of fha-insured loans with down payment assistance gao-06-24 copy attached gao states that it found that because seller-funded dpa programs run by nonprofit_organizations require payments from home sellers to cover the amount of the down payment the dpa provided to the home buyers actually comes from the home sellers seller-funded nonprofit dpa transactions sold for about two to three percent more than comparable homes and had lower-than-average home appreciation rates also gao concluded that the fha loans issued pursuant to these types of dpa transactions had higher delinquency and insurance claim rates than similar loans not involving dpa assistance in addition gao found that houses purchased pursuant to ht law a issue whether org operated exclusively for charitable and other exempt purposes within the meaning of sec_501 sec_501 provides for the exemption from federal_income_tax of corporations described in sec_501 to be described in sec_501 an organization must be organized and operated exclusively for charitable educational or other exempt purposes and may not permit any of its net_earnings to inure to the benefit of any private_shareholder_or_individual sec_1_501_c_3_-1 provides that an organization operates exclusively for exempt purposes only if it engages primarily in activities that accomplish exempt purposes specified in sec_501 an organization must not engage in substantial activities that fail to further an exempt_purpose in 326_us_279 the supreme court held that the presence of a non-exempt purpose if substantial in nature will destroy the exemption regardless of the number single or importance of truly exempt purposes if a substantial part of an organization’s activities furthers form 886a department of the treasury - internal_revenue_service explanation of items schedule no or exhibit year period ended name of taxpayer 20xx12 20xx12 org 20xx12 20xx12 noncharitable purposes the organization is not operated for charitable purposes even though its other activities further charitable purposes see 477_f2d_340 4th cir cert_denied 413_us_910 ein ein 990-pf sec_1_501_c_3_-1 defines the term charitable for sec_501 purposes as including the relief of the poor and distressed or of the underprivileged and the promotion of social welfare by organizations designed to lessen neighborhood tensions to eliminate prejudice and discrimination or to combat community deterioration the term charitable also includes the advancement of education revrul_70_585 1970_2_cb_115 discussed four situations involving organizations that provided providing housing and whether each qualified as charitable within the meaning of sec_501 situation described an organization formed to alleviate a shortage of housing for moderate-income families in a particular community the organization planned to build housing to be rented at cost to moderate-income families the revenue_ruling held that the organization failed to qualify for exemption under sec_501 because the organization’s program was not designed to provide relief to the poor or further any other charitable purpose within the meaning of sec_501 and the regulations revenue_ruling on dpa organizations revenue_ruling 20xx-27 20xx-1 c b sets forth standards for determining when an organization that provides funds to home buyers for down payment or closing costs qualifies for exemption from federal_income_tax under sec_501 in situation an organization provides dpa exclusively to low-income individuals and families it offers financial counseling seminars and conducts other educational activities to help prepare potential low-income homebuyers for the responsibility of home ownership under the organization’s grantmaking procedures the staff considering a particular application knows the identity of the party selling the home to the grant applicant and may also know the identities of other parties such as real_estate agents and developers who may receive a financial benefit from the sale moreover in substantially_all of the cases in which the organization provides dpa to a homebuyer the organization receives a payment from the seller further there is a direct correlation between the amount of the dpa provided by the organization to the home buyer and the amount of the home seller’s payment to the organization finally the organization does not conduct a broad-based fundraising campaign to attract financial support rather most of the organization’s support comes from home sellers and real estate-related businesses that may benefit from the sale of homes to buyers who receive the organization’s dpa the revenue_ruling holds that the organization described in situation is not exempt from federal_income_tax under sec_501 because it finances its dpa activities with contributions from sellers and individuals that stand to benefit from the transactions the organization facilitates the fact that the organization relies on seller’s payments for most of its funding and in substantially_all of the transactions the payment from a home seller corresponds to the amount the organization gives to a home buyer indicate that the benefit to the home seller is a critical aspect of the organization’s operations and that the organization’s business_purpose overshadows any educational or charitable purpose rev_rul 20xx-27 also holds that the payments to home buyers in situation are not gifts but rebates or purchase_price reductions because sellers make the payments form 886a department of the treasury - internal_revenue_service explanation of items schedule no or exhibit year period ended name of taxpayer 20xx12 20xx12 org 20xx12 20xx12 ein ein 990-pf not out of detached and disinterested generosity but in response to an anticipated economic benefit namely the sale of their homes at higher prices and in less time in revenue_ruling 20xx-27 situation sec_1 and describe organizations that provide down payment and closing costs to qualified home buyers in a manner that could qualify for exemption from federal_income_tax under sec_501 in situation the organization’s purposes and activities relieve the poor distressed and underprivileged by enabling low-income individuals and families to obtain decent safe and sanitary homes in situation the organizations purposes and activities combat community deterioration in a specific economically depressed area that has suffered a major loss of population and jobs importantly these organizations conduct broad-based fundraising programs to attract gifts grants and contributions from several foundations businesses and the general_public and receive funding from government agencies their policies and procedures prevent the grantmaking staff from knowing the identities of the parties involved in the transaction and whether anyone related to the transaction had made or agreed to make a contribution operating for the benefit of private interests sec_1_501_c_3_-1gi provides that an organization is not organized or operated exclusively for exempt purposes unless it serves a public rather than a private interest to meet this requirement it is necessary for an organization to establish that it is not organized or operated for the benefit of private interests in 92_tc_1053 the tax_court held that an organization that operated a school to train individuals for careers as political campaign professionals did not exclusively serve purposes described in sec_501 because it also served private interests more than incidentally the court found that the organization was created and funded by persons affiliated with entities of a particular political_party and that most of the organization’s graduates worked in campaigns for the party’s candidates consequently the court concluded that the organization conducted its educational activities with the objective of benefiting the party’s candidates and entities although the candidates and entities benefited were not organization insiders the court stated that the conferral of benefits on disinterested persons who are not members of a charitable_class may cause an organization to serve a private interest within the meaning of sec_1_501_c_3_-1 in kj’s fund raisers v commissioner t c memo aff'd 166_f3d_1200 2d cir the tax_court held that an organization formed to raise funds for distribution to charitable causes did not qualify for exemption under sec_501 because the primary purpose of its activities was to attract customers to its founders’ private business the founders of the organization were the sole owners of kj’s place a lounge at which alcoholic beverages were served the founders served as officers of the organization and at times also controlled the organization’s board the tax_court found that the founders exercised substantial influence over the affairs of the organization the organization’s business consisted of selling lucky or similar instant win lottery tickets exclusively to patrons of kj’s place the lottery tickets were sold during regular business hours by the owners of the lounge and their employees the organization derived most of its funds from its lottery ticket sales the organization solicited no public donations from the proceeds of the sales of the lottery tickets the organization made grants to a variety of charitable organizations although supporting form 886a department of the treasury - internal_revenue_service explanation of items schedule no or exhibit year period ended name of taxpayer 20xx12 20xx12 org 20xx12 20xx12 ein ein 990-pf charitable organizations may be a charitable activity the tax_court nevertheless upheld the commissioner’s denial of exemption to the organization on the ground that the organization’s operation resulted in more than incidental private benefit to kj’s place and indirectly its owners the second circuit affirmed revrul_72_147 1972_1_cb_147 held that an organization that provided housing to low income families did not qualify for exemption under sec_501 because it gave preference to employees of business operated by the individual who also controlled the organization the ruling reasoned that although providing housing for low-income families furthers charitable purposes doing so in a manner that gives preference to employees of the founder’s business primarily serves the private interest of the founder rather than a public interest operating for a non-exempt commercial purpose sec_1_501_c_3_-1 provides that an organization that is organized and operated for the primary purpose of carrying on an unrelated_trade_or_business is not exempt under sec_501 even though its profits do not inure to the benefit of individual members of the organization in 283_fsupp2d_58 d d c 20xx the court relied on the commerciality doctrine in applying the operational_test because of the commercial manner in which the organization conducted its activities the court found that it was operated for a non-exempt commercial purpose rather than for a tax-exempt purpose as the court stated among the major factors courts have considered in assessing commerciality are competition with for-profit commercial entities extent and degree of below cost services provided pricing policies and reasonableness of financial reserves additional factors include inter alia whether the organization uses commercial promotional methods eg advertising and the extent to which the organization receives charitable donations see also 950_f2d_365 7th cir 19xx holding that a religious_organization that ran restaurants and health food stores in furtherance of its health ministry did not qualify for tax-exempt status because it was operated for substantial commercial purposes and not for exclusively exempt purposes in easter house v united_states cl_ct 19xx aff'd 846_f2d_78 fed cir the u s court of federal claims considered whether an organization that provided prenatal care and other health-related services to pregnant women including delivery room assistance and placed children with adoptive parents qualified for exemption under sec_501 the court concluded that the organization did not qualify for exemption under sec_501 because its primary activity was placing children for adoption in a manner indistinguishable from that of a commercial adoption agency the court rejected the organization’s argument that the adoption services merely complemented the health-related services to unwed mothers and their children rather the court found that the health-related services were merely incidental to the organization’s operation of an adoption service which in and of itself did not serve an exempt_purpose the organization’s sole source of support was the fees it charged adoptive parents rather than contributions from the public the form 886a department of the treasury - internal_revenue_service explanation of items schedule no or exhibit year period ended name of taxpayer 20xx12 20xx12 org 20xx12 20xx12 ein ein 990-pf court also found that the organization competed with for-profit adoption agencies engaged in substantial advertising and accumulated substantial profits in addition although the organization provided health care to indigent pregnant women it only did so when a family willing to adopt a woman’s child sponsored the care financially accordingly the court found that the business_purpose and not the advancement of educational and charitable activities purpose of plaintiff's adoption service is its primary goal and held that the organization was not operated exclusively for purposes described in sec_501 easter house cl_ct pincite private_inurement sec_1_501_c_3_-1 provides that an organization is not operated exclusively for one or more exempt purposes if its net_earnings inure in whole or in part to the benefit of private shareholders or individuals sec_1_501_a_-1 defines private_shareholder_or_individual as an individual having a personal and private interest in the activities of the organization such private shareholders or individuals are commonly referred to for convenience as insiders in 75_tc_127 the tax_court held that even though the statutory prohibition on inurement is stated in terms of net_earnings the inurement doctrine applies to unjust enrichment from an organization’s gross earnings as well in the 412_f2d_1197 ct_cl the court listed unexplained payments in the form of loans to and from insiders among the examples of inurement in that case the church made various payments to its founder--who one of the organization’s three trustees along with his wife--and his family that the church alleged were loans but for which it failed to produce documentation demonstrating that the loans were repaid or advantageous to the church given the absence of explanation regarding the alleged loans the court concluded that the logical inference can be drawn that these payments were disguised and unjustified distributions of plaintiff's earnings and that the family was entitled to make ready personal_use of the corporate earnings id pincite the court also noted that if in fact a loan or other payment in addition to salary is a disguised distribution or benefit from the net_earnings the character of the payments as inurement would not change even if the amounts if added to the recipient’s salary would result in a total amount of compensation that was reasonable id pincite finally the court stated that the very existence of a private source of loan credit from an organization's earnings may itself amount to inurement of benefit id in john marshall law school john marshall university v united_states ustc ct_cl the court upheld the service's revocation of two exempt schools on the ground that part of the net_earnings of the organizations inured to the benefit of the controlling officers and their families the inurement included a series of interest-free unsecured loans only some amounts of which had been repaid from one of the schools to its dean and payment by the other school of personal expenses of its president for travel health spa membership and entertainment the court noted that loans from an organization to insiders constitute prohibited inurement where the loans are without interest or even at rates more favorable than market and form 886a department of the treasury - internal_revenue_service explanation of items name of taxpayer org ein ein schedule no or exhibit 990-pf year period ended 20xx12 20xx12 20xx12 20xx12 without dates for repayment as a result the court concluded that the loans at issue resulted in inurement that warranted revocation see also 66_tc_850 concluding that a hospital did not qualify for exemption under sec_501 because some of its net_earnings inured to the benefit of the physician who was the organization's founder when most of the hospital's assets were loaned to a nursing home owned by the founder without security and at interest rates that were below-market given the level of risk involved and not repaid until nearly to years later 893_f2d_529 2d cir concluding that a nonprofit corporation taxpayer’s unsecured interest-free loans to another corporation formed by the taxpayer's three largest shareholders only part of which had been repaid resulted in inurement of the taxpayer's earnings causing the taxpayer to lose its exempt status in 826_fsupp_537 d d c aff'd 55_f3d_684 d c cir the court held that forgiveness of interest was a form of inurement a number of courts have held that unaccounted for diversions of a charitable organization's resources by one who has complete and unfettered control can constitute inurement see eg 365_f2d_792 8th cir 318_f2d_632 7th cir 823_f2d_1310 9th cir 19xx whether payments are a bona_fide loan the prohibition on inurement in sec_501 is absolute in founding church of scientology f 2d pincite the court concluded based on an examination of the statute and the decided cases that congress when conditioning the exemption upon ‘no part’ of the earnings being of benefit to a private individual specifically intended that the amount or extent of benefit should not be the determining factor id pincite accordingly the court determined that the fact t hat the benefit conveyed may be relatively small does not change the basic fact of inurement id pincite see also 222_fsupp_151 e d wash holding that the organization’s provision of goods services and refreshments to its members constituted inurement moreover for purposes of establishing that inurement occurs it is not necessary to calculate the precise amount of inurement as long as it is shown that the value of the transfer giving rise to inurement is not within a reasonable range of what could be considered fair_market_value see anclote psychiatric ctr v comm’ t c memo in livernois trust v commissioner 433_f2d_879 6th cir the court considered payments by corporations to a_trust that controlled them recorded as a loan and evidenced by unsecured notes bearing interest but on which no interest and no significant payments of principal had been paid to or demanded by the corporations in determining whether or not the payments in fact constituted a bona_fide loan the court noted that it is certain that the form of a transaction here the duly executed notes does not by itself control its nature as opposed to the intent of the parties as demonstrated by the facts id pincite in addition the court noted that wjhile in many cases various factors must be weighed in determining for income_tax purposes the true character of a purported loan there is one essential without which a transaction cannot be recognized as aloan the parties must have entered into the transaction with the intention that the money advanced be repaid id pincite internal quotation marks omitted as factors indicating such an intent of repayment the court listed n ormal security_interest and repayment arrangements or efforts to secure form 886a department of the treasury - internal_revenue_service explanation of items schedule no or exhibit year period ended name of taxpayer 20xx12 20xx12 org 20xx12 20xx12 ein ein 990-pf same id pincite finally the court noted that related_party transactions between a corporation and a party that controls it are subject_to the closest scrutiny id pincite given that the trust receiving the funds controlled the corporation the court noted that the parties’ testimony that they intended the loans to be repaid had to be viewed with some diffidence unless supported by other facts which bring the transaction much closer to a normal arms-length loan id pincite because the notes were unsecured and no interest or significant payments of principal had been paid to or demanded by the corporations the court affirmed the tax court’s determination that the notes did not represent bona_fide indebtedness in 431_f2d_511 2d cir the second circuit affirmed the tax court’s decision that amounts paid_by a subsidiary_corporation to a shareholder of the subsidiary’s parent_corporation who together with his wife wholly-owned the parent were not bona_fide loans the purported loans were nonetheless the court noted that the recorded on the company’s books and evidenced by promissory notes substance not the form of the transaction should dictate the result and concluded that the facts that the shareholder made no formal repayment until after the audit had begun and that the withdrawals were used for the shareholder’s personal purposes supported the tax court’s conclusion that the shareholder did not intend to repay the withdrawn amounts in van anda's 12_tc_1158 the tax_court considered a husband that advanced dollar_figure to his wife taking in exchange a promissory note in that amount secured_by shares of the capital stock of a cooperative apartment house although in form the transaction appear ed to have possessed every element necessary to establish a debtor-creditor relationship the court noted that t he giving of a note or other evidence_of_indebtedness which may be legally enforceable is not in itself conclusive of the existence of a bona_fide debt id pincite rather it must be clearly shown that it was the intention of the parties to create a debtor-creditor status id more specifically when the bona fides of promissory notes is at issue the taxpayer must demonstrate affirmatively that there existed at the time of the transaction a real expectation of repayment and an intent to enforce the collection of the indebtedness id internal quotation marks omitted the court also noted that i ntrafamily transactions are subject_to rigid scrutiny and transfers from husband to wife are presumed to be gifts id in analyzing whether or not the facts and circumstances indicated a debtor-creditor relationship was intended by the parties the court noted that the security available to the husband in the event of the wife's default would have been the homes in which he as well as the wife resided that there was no evidence that the husband ever demanded or requested payment from his wife and that in the 3-year period during which the note was outstanding there was but one payment made by the wife based in part on these factors the court concluded that the advances did not constitute bona_fide debt promoting improper charitable deductions sec_170 allows as a deduction subject_to certain limitations and restrictions any charitable_contribution as defined in sec_170 payment of which is made within the taxable_year sec_170 defines a charitable_contribution as a contribution or gift to or for_the_use_of an entity described in one of the paragraphs of sec_170 sec_170 describes certain entities organized and operated exclusively for religious charitable scientific literary or educational_purposes form 886a department of the treasury - internal_revenue_service explanation of items schedule no or exhibit year period ended name of taxpayer 20xx12 20xx12 org 20xx12 20xx12 ein ein 990-pf generally to be deductible as a charitable_contribution under sec_170 a transfer to a charitable_organization must be a contribution or gift a charitable_contribution is a transfer of money or property without receipt of adequate_consideration made with charitable intent 477_us_105 a payment generally cannot be a charitable_contribution if the payor expects a substantial benefit in return id pincite see also 449_f2d_413 ct_cl sec_1_170a-1 substantial benefits are those that are greater than those that inure to the general_public from transfers for charitable purposes which benefits are merely incidental to the transfer singer f 2d pincite substantial benefits for this purpose can include services that the taxpayer receives or expects to receive in exchange for the payment see eg arceneaux v comm’r t c memo finding that amount_paid to a religious_organization could not be deducted under sec_170 when payment was made in exchange for services in connection with an adoption sec_1_170a-1 providing the general_rule that no part of a payment that a taxpayer makes in consideration for services is a contribution or gift within the meaning of sec_170 sec_102 provides that the value of property acquired by gift is excluded from gross_income a gift proceeds from a ‘detached and disinterested generosity ’ ‘out of affection respect admiration charity or like impulses ’ 363_us_278 payments that proceed from the constraining forces of any moral or legal duty or from ‘the incentive of anticipated benefit’ of an economic nature are not gifts proceed primarily from the moral or legal obligations attendant to such transactions are not gifts id thus payments attendant to ordinary business or commercial transactions or that organizations that promote tax_avoidance schemes do not qualify for exemption under sec_501 as organizations described in sec_501 see church of world peace inc v commissioner t c memo aff'd 52_f3d_337 10th cir in church of world peace the church used its tax-exempt status to create a circular tax-avoidance scheme individuals made tax-deductible charitable donations to the church the church then returned the money to the individuals in the form of tax-free housing allowances and also reimbursed the individuals for church expenses that were in fact unrelated to church operations the church emphasized tax_advice in connection with this tax-avoidance scheme the tax_court held and the tenth circuit affirmed that the church did not comply with the requirements of sec_501 because by promoting a circular flow of funds from donors to the church and back to the donors and facilitating improper charitable_contribution deductions the church did not operate exclusively for exempt purposes enumerated in sec_501 b issue whether org’s tax-exempt status should be revoked retroactively an organization may ordinarily rely on a favorable determination_letter received from the internal_revenue_service sec_1_501_a_-1 rev_proc 20xx-4 20xx-1 ilr b dollar_figure cross-referencing dollar_figure et seq an organization may not rely on a favorable determination_letter however if the organization omitted or misstated a material fact in its application or in supporting documents rev_proc 20xx-9 20xx-2 lr b sec_11 in addition an organization may not rely on a favorable determination if there is a material_change inconsistent with exemption in the organization’s character purposes or form 886a department of the treasury - internal_revenue_service explanation of items schedule no or exhibit year period ended name of taxpayer 20xx12 20xx12 org 20xx12 20xx12 ein ein 990-pf methods of operation after the determination_letter is issued sec_601_201 i1 rev_proc 20xx-9 sec_11 the commissioner may revoke a favorable determination_letter for good cause sec_1 a - a revocation of a determination_letter may be retroactive if the organization omitted or misstated a material fact or operated in a manner materially different from that originally represented sec_601_201 rev_proc 20xx-9 sec_12 rev_proc 20xx-4 dollar_figure cross-referencing dollar_figure et seq iv the government’s position a issue org did not operate exclusively for exempt purposes within the meaning of sec_501 to be operated exclusively for purposes described in sec_501 only an insubstantial portion of the activity of an exempt_organization may further a non-exempt purpose as the supreme court held in better bus bureau u s pincite the presence of a single non-exempt purpose if substantial in nature will destroy the exemption regardless of the number or importance of truly exempt purposes org is not operated exclusively for exempt purposes described in sec_501 indeed it does not operate in furtherance of any charitable or educational_purposes rather like the organization described in situation of rev_rul 20xxx- it operates primarily for the private benefit of home sellers and other individuals and entities including entities owned by org president ra-1 and his son that stand to benefit from the real_estate transactions it facilitates and for non-exempt commercial purposes additionally the organization’s net_earnings inured to the benefit of its officers and other insiders in particular its executive director ra-2 finally org did not operate exclusively for purposes described in sec_501 because it promoted improper charitable_contribution deductions in connection with its dpa program org operates similarly the organization in situation of rev_rul 20xx-27 rev_rul 20xx-27 sets forth the service’s position on applicable rules and standards for determining whether organizations that provide dpa to home buyers qualify as tax-exempt organizations described in sec_501 a revenue_ruling is an official interpretation by the service that has been published to provide precedents to be used in the disposition of other cases and may be cited and relied upon for that purpose statement of procedural rules sec_601_601 v d revenue rulings other than those relating to the qualification of pension annuity profit-sharing stock bonus and bond purchase plans apply retroactively unless the revenue_ruling includes a specific statement indicating under the authority of sec_7805 the extent to which it is to be applied without retroactive effect statement of procedural rules sec_601_601 rev_rul 20xx-27 was based on existing legal principles and does not represent a change in the law and thus does not contain any statement limiting its retroactive effect situation of rev_rul 20xx-27 describes an organization whose activities exclusively further a charitable purpose and do not confer more than incidental private benefit and therefore qualifies for tax exemption situation describes an organization that does not qualify as a tax-exempt_organization because its activities do not exclusively further a charitable purpose and the substantial private benefit it confers on home sellers and its commercial focus overshadow any charitable purposes served org’s dpa activities lack even the form 886a department of the treasury - internal_revenue_service explanation of items schedule no or exhibit year period ended name of taxpayer 20xx12 20xx12 org 20xx12 20xx12 ein ein 990-pf favorable elements described in both situation sec_1 and and include all of the problematic elements flagged by situation therefore org does not qualify for tax exemption in both situation and situation the organizations were conducting the following activities which are consistent with tax-exempt status but which org failed to perform making assistance available exclusively to low-income individuals org’s program is open to everyone regardless of their income or assets using a standard for example the standards set by federal housing statutes and administered by the department of housing and urban development hud to determine who is a low-income individual org’s program does not screen the home buyers participating in its dpa program using hud definitions of low-income individuals rather it is open to everyone regardless of their income or assets providing assistance to low-income individuals who have the employment history and financial history necessary to qualify for a mortgage and would so qualify but for the lack of a down payment org does not limit its assistance to low-income individuals offering financial counseling seminars and conducting other educational activities to help prepare potential low-income home buyers for the responsibility of home ownership org does not offer financial counseling seminars and does not conduct other educational activities to help prepare potential low-income home buyers for the responsibility of home ownership establishing that a home purchased through the program meets standards for habitability by requiring a home inspection report org does not attempt to establish that a home purchased through the dpa program is habitable and does not require a home inspection report in the areas where situation sec_1 and differ org lacks all of the favorable elements described in situation and goes beyond the negative elements described in situation in situation x organization conducted a broad based fundraising program that attracted gifts grants and contributions from several foundations businesses and the general_public to fund its dpa program and other activities in situation y organization did not conduct a broad based fundraising campaign to attract financial support but rather was supported mostly from the home sellers and real estate-related businesses that may benefit from the sale of homes to buyers who received y’s dpa like y org does not conduct a broad based fundraising program that attracts gifts grants and contributions instead it relies almost exclusively on payments from its client home sellers which are contingent on the sale of particular properties in situation x organization structured the grantmaking process in a way to ensure that its grantmaking staff did not know the identity of the party selling the home to the grant applicant or the identities of any other parties such as real_estate agents or developers who may receive a financial benefit from the sale and also did not know whether any of the interested parties to the transaction had been solicited for contributions or had made pledges or actual contributions to the organization in situation y organization's staff considering an application_for dpa knew the identity of the party selling the home to the applicant and sometimes also knew the identities of other parties such as real_estate agents and developers who may receive a financial benefit from the sale even worse than form 886a department of the treasury - internal_revenue_service explanation of items year period ended 20xx12 20xx12 20xx12 20xx12 name of taxpayer org ein ein 990-pf schedule no or exhibit e situation org’s staff not only knew the identity of the party selling the home to the dpa applicant and the identities of other parties who may receive a financial benefit from the sale it contractually required such interested parties to make payments to the organization that would cover the assistance provided to the buyer plus org’s service fees in situation x organization did not accept any contributions contingent on the sale of a particular property or properties in situation in substantially_all of the cases in which y organization provided dpa to a home buyer y received a payment from the home seller and there was a direct correlation between the amount of the dpa provided by y and the amount of the home seller's payment to y even worse than situation in every situation where org transfers funds to a buyer it has previously contractually required the home sellers to make a payment that would cover the assistance provided plus org’s service fees in rev_rul 20xx-27 situation the service concluded that y organization did not qualify for exemption from federal_income_tax as an organization described in sec_501 are even further removed from being charitable than those described in situation thus org does not qualify for exemption from federal_income_tax as an organization described in sec_501 as described above org’s operation sec_2 org does not further charitable purposes org does not qualify as an organization described in sec_501 because its sole activity the operation of a dpa program does not exclusively serve any exempt_purpose described or enumerated in sec_501 and the regulations thereunder charitable purposes include relief of the poor and distressed or of the underprivileged see sec_1_501_c_3_-1 however to provide relief of the poor and distressed or underprivileged a charity’s activities must be directed at such a charitable_class because org has no income or any other meaningful limitations for participation in its dpa program and the program is open to anyone who otherwise qualifies for a mortgage org’s dpa program does not serve the poor and distressed or any other charitable_class although some down payments and closing cost grants may be made to low income individuals any such results are merely an accidental incidental consequence of org’s operations and not the intended object or purpose of the organization in addition org has not demonstrated that its dpa program actually relieves the poverty or distress of any low-income homebuyers that the program happens to assist indeed as discussed above a report from the gao found that houses purchased through seller-funded dpa transactions such as org’s dpa program sold for about or percent more than comparable homes giving the buyers smaller equity stakes had higher delinquency and claim rates and tended to have lower-than-average house price appreciation rates see u s gov’t accountability office mortgage financing additional action needed to manage risks of fha-insured loans with down payment assistance nov 20xx if org’s low-income beneficiaries receive an overpriced home and a mortgage they cannot afford it is questionable whether they are helped at all charitable purposes also include the promotion of social welfare by organizations designed to lessen neighborhood tensions eliminate prejudice and discrimination or combat community deterioration sec_1_501_c_3_-1 however org has not taken any steps to target or limit its assistance to homes form 886a department of the treasury - internal_revenue_service explanation of items schedule no or exhibit year period ended name of taxpayer 20xx12 20xx12 org 20xx12 20xx12 ein ein 990-pf located in geographic areas experiencing economic depression deterioration or to neighborhoods undergoing racial tensions instead org makes dpa available for any property so long as the homebuyer is able to qualify for a mortgage and the seller or homebuilder agree to remit the amount corresponding to the amount org transfers to the homebuyer and pay the service fee arranging or facilitating the purchase of homes in a broadly defined geographic area without targeting such activity to areas suffering adverse conditions does not combat community deterioration or serve any other social welfare objectives within the meaning of sec_501 by merely facilitating real_estate transactions through the transfer of cash from home sellers to homebuyers without any meaningful limitations org does not operate in furtherance of any charitable or other exempt_purpose enumerated in sec_501 and hence does not qualify for exemption under sec_501 org operates primarily for the private benefit of home sellers an organization is not organized or operated exclusively for one or more charitable purposes unless it serves a public rather than a private interest sec_1_501_c_3_-1 to meet this requirement it is necessary for an organization to establish that it is not organized or operated for the benefit of private interests id that serve private interests am campaign acad v comm’r t c pincite in general providing a product or service in return for a market rate fee furthers the private purpose of persons purchasing the product or service see am ass’n of christian schools voluntary employees beneficiary ass’n welfare plan trust by janney v united_states 850_f2d_1510 11th cir private benefit has been defined as nonincidental benefits conferred on disinterested persons org’s activities promotional materials and marketing strategies make clear that org confers nonincidental benefits that serve the private interests of the home sellers home builders lenders and real_estate professionals participating in its program org’s promotional materials note that its dpa program helps realtors increase their business and avoid the need to cancel a sale due to lack of down payment resources and allows sellers to sell their home in a timely manner without the need to reduce their price home sellers’ and builders’ willingness to pay a fee for org to act as conduit between them and homebuyers to facilitate home sales further demonstrates their belief that they derive substantial benefits from the transactions see am ass’n of christian schools f 2d pincite sellers and builders who participate in org’s dpa program benefit from achieving access to a wider pool of buyers thus enabling them to sell their homes faster and for a higher price among these sellers and builders participating in org’s dpa program are three companies owned by org president and sole director ra-1 or his son together these companies accounted for about and of the fees from home sellers and builders that org received in 20xx and 20xx respectively program from real_estate brokers to escrow companies also benefit from increased sales volume and the attendant increase in their compensation and intentionally result in a substantial private benefit to real_estate professionals generally and to its president sole director and his son in particular org does not qualify for exemption under sec_501 as org’s operations are structured in a way that they necessarily other real_estate professionals who participate in org’s dpa org’s operations constitute a trade_or_business which is not in furtherance of exempt purposes form 886a department of the treasury - internal_revenue_service explanation of items schedule no or exhibit 990-pf ein ein name of taxpayer org year period ended 20xx12 20xx12 20xx12 20xx12 an organization may meet the requirements of sec_501 although it operates a trade_or_business as a substantial part of its activities only if the operation of such trade_or_business is in furtherance of the organization’s exempt_purpose s and the organization is not organized or operated for the primary purpose of carrying on an unrelated_trade_or_business as defined in sec_513 sec_1_501_c_3_-1 serving as a conduit between seller and buyer to facilitate a financing_arrangement is normally an activity undertaken by commercial for-profit entities the operation of such a trade_or_business is org’s predominant activity and for the reasons explained above and below it does not further an exempt_purpose thus org does not qualify for tax-exempt status in looking to whether organizations are operating a trade_or_business for a commercial purpose rather than for charitable purposes courts have looked to the following factors each of which indicates that org has a substantial non-exempt business_purpose whether the organization advertises and uses promotional materials and commercial catch phrases to enhance sales org promotes its program through solicitation of real_estate agents mortgage lenders loan officers title insurers sellers buyers and builders through materials that promise an increase in business and more timely sales that will help avoid the need for price reductions whether the organization is funded entirely by fees virtually all of org’s funds come from payments it receives from its client home sellers whether the organization receives charitable_contributions org does not receive any charitable contributions the payments it collects do not arise from disinterested generosity but are payments for facilitating real_estate transactions whether the organization has commercial activities as part of its overall activities or as its sole activity org’s commercial activities are its sole activity see eg airlie found v internal_revenue_service f_supp 2d pincite living faith inc f 2d pincite 285_f2d_800 ct_cl 302_f2d_934 ct_cl 263_fsupp_924 n d ind easter house v united_states cl_ct pincite org does not engage in widespread fundraising as mentioned above rulings and the courts consider an organization’s source of financing to be a very important factor in determining whether an organization qualifies for tax-exemption in 70_tc_352 for example the organization relied exclusively on fees for consulting services and did not solicit or receive voluntary contributions from the general_public the court determined that the organization’s primary purpose was neither educational scientific nor charitable but rather commercial in part because the organization’s financing did not resemble that of a typical sec_501 organization id pincite likewise in 88_tc_1 19xx the court found that a key factor in determining whether the organization qualified for exemption was its source of revenues petitioner does not solicit or receive voluntary contributions from the public rather its source of revenue is from the form 886a department of the treasury - internal_revenue_service explanation of items schedule no or exhibit year period ended name of taxpayer 20xx12 20xx12 org 20xx12 20xx12 members whom it serves petitioner thus lacks this normal trait of a sec_501 organization or more specifically an organization which operates primarily for a public interest id pincite similarly org’s source of support is from the fees its client home sellers pay and it receives no contributions from the general_public that proceed from disinterested generosity ein ein 990-pf in addition org’s business has a distinct commercial hue see airlie found f_supp 2d pincite by facilitating real_estate transactions for any seller or buyer willing to adhere to the dpa program’s terms and promoting its dpa program to realtors and sellers as means to increase business and achieve more timely sales org maximized the number of transactions between its client home sellers and home buyers and maximized the amount of fees it could generate similar to a commercial real_estate enterprise in exchange for real_estate services org charged contingent fees and made significant revenues org did not facilitate a dpa transaction unless it was assured that a home seller would cover the amount of the down payment and pay org the required service fee thus org structured and operated its dpa program like a commercial business accordingly org operates its dpa program primarily for the non-exempt purpose of operating a commercial business and hence does not qualify for exemption under sec_501 a substantial portion of org’s net_earnings inured to the benefit of its insiders in addition beginning in 20xx a substantial portion of org’s net_earnings inured directly or indirectly to in 20xx a year the benefit of org’s officers and insiders in particular to org’s executive director ra-2 in which its profits increased substantially org made payments to ra-2 totaling dollar_figuredollar_figure org claims that dollar_figuredollar_figure of this amount represents compensation_for ra-2’s services as for the remaining dollar_figuredollar_figure of the dollar_figuredollar_figure org alleges that these payments represented a loan from the organization to ra-2 that was documented by the note in the amount of dollar_figure however ra-2 did not make a single payment on the note and was not required to provide any in addition org stopped accruing interest on the note by the end of 20xx and collateral as security for it has provided no evidence that it took any steps to demand or enforce repayment of any of the amount owed org also did not make the advances totaling dollar_figuredollar_figure according to any pre-existing agreement but rather in irregular amounts and intervals that presumably corresponded to ra-2’s personal needs and the organization’s increased profits by enacting the note at the very end of 20xx furthermore the transfers that allegedly constituted a loan were from the organization to an individual that controlled it together with her husband and are therefore subject_to the closest scrutiny livernois trust f 2d pincite see also van anda's estate t c pincite 43_tc_580 w here the withdrawing party is in substantial control of the corporation such control invites a careful scrutiny of the situation these facts and circumstances taken together indicate that the transfers of dollar_figuredollar_figure were not made to ra-2 with any intention that they be repaid an intention that is essential for a transaction to be characterized as a loan see livernois trust f 2d pincite lack of security and significant payments of principal or interest or efforts to secure such payments were sufficient proof of a lack of intent for advances to be repaid in a related_party transaction notwithstanding existence of duly executed notes bearing interest consequently the note does not evidence a bona_fide indebtedness and hence the dollar_figuredollar_figure in excess payments in 20xx were simply gratuitous org only attempted to characterize these transfers as a loan after-the-fact form 886a department of the treasury - internal_revenue_service explanation of items schedule no or exhibit year period ended name of taxpayer 20xx12 20xx12 org 20xx12 20xx12 ein ein 990-pf disbursements of org’s profits to ra-2 an insider of the organization both by virtue of her position as its executive director and her marriage to its sole director president treasurer and secretary moreover org’s net_earnings inured to the benefit of ra-2 even if the alleged loan is respected as bona_fide indebtedness org has provided no evidence that a third party commercial lender would have been willing to lend ra-2 more than dollar_figure without any collateral at an interest rate of in 20xx and clearly a commercial lender would not stop accruing interest on a loan only one-year into a four-year term and permit ra-2 to make none of her required_payments on the loan without demanding repayment or trying to enforce collection accordingly to the extent the alleged loan is respected as bona_fide debt it was a loan with terms that ra-2 could not have secured on the market from a third party thus to the extent the dollar_figuredollar_figure transfer was a loan at all it was an unsecured below-market_loan that bestowed a significant financial advantage on an insider marshall ustc lowry hosp assoc t c pincite orange county agric soc’y t c memo the courts have consistently held that such loans constitute prohibited inurement see eg john indeed the courts have opined that even the very existence of a private source of loan credit from an organization’s earnings may itself amount to inurement of benefit founding church of scientology f 2d pincite john marshall ustc thus the mere fact that ra-2 was using org’s earnings as a private source of loan credit - not to mention the unreasonably favorable terms of the credit and the fact that ra-2 never repaid the amounts advanced - may itself constitute prohibited inurement finally even if one respects the note as a bona_fide debt such a favorable assumption would still leave dollar_figuredollar_figure in receivables unaccounted for unaccounted for diversions of a charitable organization’s resources by one who has complete and unfettered control generally constitutes inurement church of scientology 823_f2d_1319 and the service has the authority to revoke an organization’s exempt status for inurement regardless of the amount of inurement involved founding church of scientology f 2d pincite thus ra-2’s receipt of the dollar_figuredollar_figure not documented in the note would alone justify revocation of org’s exempt status thus the net_earnings of org inured to the benefit of ra-2 and as such org does not qualify for exemption under sec_501 org promoted improper charitable deductions org is also not entitled to exemption under sec_501 because it promoted improper charitable_contribution deductions a payment of money generally cannot be deducted as a charitable_contribution if the payor expects to receive a substantial benefit in return am bar endowment u s pincite singer f 2d pincite sec_1_170a-1 a seller’s payment to org is not tax deductible as a charitable_contribution under sec_170 because the seller receives valuable consideration in return for the payment - namely services that facilitate the seller’s sale of a home furthermore the payments from the home sellers to org also do not qualify as gifts under sec_102 the payments from the home sellers do not proceed from detached and disinterested generosity but rather in response to an anticipated economic benefit which again is the facilitation of the sale of the seller’s home under commissioner v duberstein u s such payments are not gifts for purposes of sec_102 form 886a department of the treasury - internal_revenue_service explanation of items schedule no or exhibit year period ended name of taxpayer 20xx12 20xx12 org 20xx12 20xx12 ein ein 990-pf an organization that promotes an abusive tax_avoidance scheme is not entitled to exemption as an organization described in sec_501 see church of world peace inc t c memo org used the prospect of a charitable_contribution_deduction as an inducement for sellers to participate in its dpa program in claiming that the seller-participants in its dpa program would be entitled to a charitable_contribution_deduction org falsely misrepresented the quid pro quo nature of these payments because org has promoted improper charitable_contribution deductions in connection with its dpa program org does not operate exclusively for exempt purposes enumerated in sec_501 and does not qualify for exemption as an organization described in sec_501 analysis conclusion org is not operated exclusively for purposes described in sec_501 because its primary activity does not exclusively serve any exempt purposes within the meaning of sec_501 it primarily operates for the benefit of home sellers other individuals and entities connected to the real_estate transactions including the organization’s president ra-1 its executive director ra-2 and their son its primary purpose was the operation of a business for a commercial purpose a substantial portion of its net_earnings inured to the benefit of the organization’s officers and other insiders in particular ra-2 and it promoted improper charitable_contribution deductions b issue org’s tax-exempt status should be revoked retroactively an organization may not rely upon a determination_letter or ruling recognizing exemption if there is a material_change inconsistent with exemption in the character the purpose or the method of operation of the organization or if the determination_letter was based on any inaccurate material factual representations rev_proc 20xx-9 at sec_11 the commissioner may revoke a favorable determination_letter for good cause sec_1_501_a_-1 and such revocation may be retroactive if the organization omitted or misstated a material fact or operated in a manner materially different from that originally represented rev_proc 20xx-9 at sec_12 the examination of org’s operations revealed that org omitted or misstated material facts in its form_1023 and that the organization operated in a manner materially different from the representations the organization made to the service on its form_1023 and subsequent filings org has never operated according to the representations on its form_1023 application_for exemption in its form_1023 application org stated that its ultimate goal was to assist in the construction of a community center for the city of city the organization’s form_1023 does not indicate that the organization’s actual or planned activity would be the operation of a seller-funded dpa program in the manner conducted by org however since january 19xx the organization’s operations have consisted solely of its dpa activities after starting the operation of the dpa program org never notified the irs of the change in its activities funding and operations accordingly it is appropriate to revoke org’s determination_letter recognizing it as a tax-exempt_organization described in sec_501 back to the date it began operating its dpa program on january 19xx form 886a department of the treasury - internal_revenue_service schedule no or explanation of items exhibit year period ended name of taxpayer 20xx12 20xx12 org 20xx12 20xx12 ein ein 990-pf v conclusions issue org is not operated exclusively for purposes described in sec_501 and therefore its tax-exempt status is revoked issue org’s tax-exempt status is revoked retroactively to the date it began operating its dpa program january 19xx because that is when it began operating in a manner that is materially different from its representations on form_1023 by operating a dpa program without having notified the government of the change in its operations vi taxpayer’s position the government is unaware of org’s position org will be allowed days to review this report and respond with a protest