WE ARE A LOT LIKE OUR
by C. Yvonne Chenier Q.C.
Recently I had opportunity to attend an American Bar Association Section of Taxation 2014 meeting with many of my American colleagues who also practice what we call “charity and not-for profit law” and they call “tax exempt organization law.” After being immersed in their issues over a few days in a spectacular location in the sunny south, it struck me that challenges that we have in our country advising charitable and not-for profit clients are a lot like the ones described by our neighbors to the south as they deal with and how best to advise their tax-exempt organization clients. We have the CRA Charities Directorate (the “CRA”). They have the Internal Revenue Service (the “IRS or the “service” as they affectionately refer to it). They must talk to each other.
As the CRA is in Canada, the IRS is dealing with how best to manage political activities by tax-exempt organizations. At the end of 2013 the IRS released proposed regulations seeking to define the activities and expenditures that will be treated as political within the meaning of their laws. They are in the process of receiving comments from those interested. Basically the proposed regulations are trying to distinguish political from social welfare activities. The promotion of social welfare would exclude “candidate related political activity” such as intervention in voter registration, publication of voter guides, voter polling, voter education, and other activities that appear to support or oppose a candidate. These are similar activity targets to those that we see from our Canada Revenue Agency Charities Directorate (or may see in the future). The CRA presumes activity to be political if a charity is explicitly seeking to change a government policy or decision, and within the last few years, even if it makes a gift to another qualified donee to support political activities.
Initial Classification of Exempt Applications
Pending the political regulations being finalized, the IRS has issued a memo with their guidance on initial classification of exemption applications and how they are reviewed when possible political campaign intervention is identified. They are trying to be more transparent in the application reviews. No doubt this has to do with some of the political interference that was publicized about this department in the last few years. Indeed, there is proposed legislation in the US entitled the “Stop Targeting Of Political Beliefs By IRS Act of 2014” to prohibit Treasury and the IRS from issuing or finalizing these proposed regulations for one year. We do not have any such thing in Canada nor have any similar problems been reported. Yet.
The interaction between the regulator and the legal advisors to the sector is similar. They also have frustrations with their interactions with the regulator that sound familiar to what we sometimes experience with our regulator. In the US, apparently it is not uncommon for the IRS to not even respond to correspondence regarding the creation of tax-exempt organizations for more than a year, which makes our six month response time in Canada for CRA to review and respond to a regular application for charitable registration look quite speedy by comparison. Another interesting development, besides all the revenue procedures and notices , similar to the guidance missives issued by our regulator, the IRS is also striking an exempt organization emerging issue committee, to help with the complex or sensitive issues involving abusive transactions, fraud, anti-terrorism and large cases.
Other issues they are grappling with in the US arise from the President’s Budget Proposals such as a proposal to replace the two tier system of private foundation excise tax with a flat 1.35% excise tax and, perhaps controversially, the denial of deduction for certain conservation easements such as those for golf courses and air rights for upward expansion. Other proposed legislation in the USA purports to tinker with the thresholds on rollovers to charities form an IRA (similar to our registered retirement savings plan), looks to expand the charitable deduction for contributions of food inventory and perhaps very controversially, eliminating the tax exemption for pro sports.
There was a fascinating discussion on “earmarking” e.g. funders requiring charities to direct funds to a specific location, person or project. There is a quite developed set of tools for classification of earmarking to help decide when it is or is not a problem. Everything from a donor’s deduction of earmarked gifts when earmarked for individuals, foreign organizations or for lobbying to the private foundation grant making issues that arise for individuals and non-charitable organizations are in full discussion. Anyone looking for a discussion point for this subject of private benefit in Canada would be well advised to look at the voluminous information on the earmarking topic from our neighbors to the south.
The one that I found the most interesting due to the work I am doing in the area of social enterprise is the discussion on what the Americans call UBIT (unrelated business income tax) and UBTI (unrelated business taxable income). This is the tax paid on income by a tax exempt organization from a trade or business which is not substantially related to the tax exempt organizations exempt purpose. How the Americans treat the whole issue of unrelated business and the profits from the unrelated business is simple in theory. They have a formula (UBI- Directly Connected Expenses = UBTI). However in practice, there is lots of misunderstanding about the rules it seems.
Similar to the project undertaken by the CRA in Canada recently where many non-profit organizations were audited for compliance with the Income Tax Act, the IRS also undertook an expansive project looking for UBTI. They found a lot. One of the figures that was discussed was the IRS found UBTI totaled $90 000 000, as nearly 40% of the organizations looked at had misclassified unrelated activities as tax exempt. These adjustments came from disallowance of deductions, errors found and reclassification of activities from areas such as “advertising and exclusive provider arrangements, sports management agreements, facility rentals, arenas, food services, golf courses, hotels, recreation centers and programs, parking lots, commercial research and bookstores”.
There are difference between how Canada in our Income Tax legislation treats nonprofits and specifically charities that are carrying on non-related business. Charities simply are not allowed to carry on unrelated business in Canada. Nonprofits can do certain things, as long as they don’t intend to profit. This whole issue is currently a subject of discussion in Canada. How we end up dealing deal with it might be found in the US experience. It is a fascinating discourse for sure. In the meantime a commercial for an upcoming webinar in our firm:
DEMYSTIFYING SOCIAL ENTERPRISE
If your organization is a social enterprise or considering one this session will explain what your organization needs to know.
DATE: February 24, 2014
We will discuss the Canadian Income Tax Act and legal implications for charities and not for profits that are getting involved in an enterprise. We hope that the Government of Canada does not move quickly to imitate what is going on in the USA, our neighbors to the south before the day of the seminar. But there is that budget coming up on February 11th…