Recent press reports speculating that President Trump will take action to revoke the tax-exempt status of some environmental organizations – coupled with his public statements advocating for the revocation of Harvard’s tax-exempt status – has nonprofit leaders on edge about their exempt status.
How Does Revocation Happen?
Generally, there are several ways an organization’s determination letter recognizing its exempt status can be revoked, none of which provide the president with direct authority to do so. It is highly unlikely that a presidential attempt to revoke the tax-exempt status of an individual organization or an entire category of organizations by Executive Order or similar pronouncement would be legal and withstand judicial scrutiny.
While public policy can change (as it has, for example, around diversity, equity and inclusion initiatives), the basis for a tax-exempt status for most charitable organizations is based on federal statute, regulations, and longstanding IRS rulings and court cases that take more than a swipe of a presidential pen to undo. Even if the law were to change through Congressional action, a change in IRS regulations or a U.S. Supreme Court decision, actual revocation of organizations affected by that change in law requires action by the IRS against each individual organization, which in turn triggers due process and appeal rights for each affected organization.
The most common way for an organization to have its determination letter revoked by the IRS is when it no longer engages in its exempt purpose. In the case of charitable organizations, they may also lose their tax-exempt status for engaging in impermissible political activity, too much lobbying activity, too much unrelated trade or business activity, or providing an impermissible private benefit.
Revocation by the IRS typically requires notice to the organization of the proposed revocation that includes the reasons for the proposed revocation, as well as information about the organization’s right to protest and ultimately appeal. An organization has 30 days from the date of the notice to submit a protest of the revocation. If the organization is not successful in its appeal of the revocation with the IRS, it may then seek a declaratory judgment from a federal court with jurisdiction over the matter to overturn the IRS’s determination. The actual revocation is not normally effective until the organization has waived or exhausted its appeal rights with the IRS.
The IRS maintains a public listing of organizations that have been recognized as tax-exempt (see the IRS Tax Exempt Organization Search, Pub. 78 data). Importantly, donors are normally entitled to rely on the organization’s appearance on this listing until there is a public notice of the revocation and its listing is changed. Additionally, such public notice normally does not occur until a revocation is finalized – meaning that while an appeal is pending, donors can continue to make deductible contributions and foundations can continue to make grants.
What This Could Mean
By contrast, when a revocation is finalized, the organization will be treated as a taxable entity from the effective date of revocation. This may or may not be a significant financial expense depending on the type of organization and the treatment of the organization’s income and expenses under the for-profit income tax rules.
Further, a revocation of tax-exempt status only affects the organization’s tax status, not its corporate existence. This means that it could continue to operate, just as a taxable entity rather than a tax-exempt one. It would be required to file federal and state corporate tax returns and pay the associated tax on its net income. State and local exemptions for property and sales/use tax may be unavailable with the change in tax-exempt status. Donors could continue to make contributions, but they would not be deductible as charitable contributions. Similarly, foundations may also be able to make grants if the grant is for charitable purposes and the foundation exercises expenditure responsibility or similar oversight.
What You Can Do
Organizations concerned about being the target of an attempt at revocation of their exempt status by Executive Order or similar presidential action should have their team ready for a response, including lining up legal counsel, the internal team, and a communications strategy to answer questions from employees, donors and allies. Organizations should also monitor the mail carefully and regularly check the IRS Tax Exempt Organization Search (Pub. 78 data) website. Organizations concerned about being designated as terrorist organizations under the current administration’s position that certain protest and advocacy activities constitute terrorism, should also monitor the OFAC terrorist designation lists and the IRS’s list of organizations that have had their exempt status suspended for such designation.
If what we see instead of revocations are pronouncements about types of environmental advocacy activities the administration considers “illegal” – along the lines of what has already happened with respect to diversity, equity and inclusion programs – any impacted organization should consider undertaking an individualized audit of its practices, including a review of the original exemption application and whether any material changes in its activities have been disclosed to the IRS. Ideally, this review will be done with the assistance of legal counsel in privileged communications – to identify anything that may be illegal or at high risk given the pronouncements, and to develop a mitigation plan.
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