Nonprofit organizations have yet another hurdle to cross when applying for tax-exempt status.
A while back, a colleague of mine, a director of a nonprofit organization, applied for tax-exempt status in the United States. The IRS had questions for him, which was to be expected. What was not expected, however, was that after answering the IRS’ questions, his file was then forwarded to the Department of Homeland Security [DHS].
That’s right, the U.S. Government Department that oversees (no pun intended) counter-terrorism, border security, disaster response, and immigration is also an integral part of the tax-exempt approval process.
Why is the Department of Homeland Security Scrutinizing Charities?
The DHS investigating is no random act. As explained in a previous post:
The U.S. Internal Revenue Service (IRS) stresses that the risk that a grant will be used for non-charitable purposes increases drastically when dealing with foreign grant making and expenditures…intelligence information hinting “to the effect that international charities are the second principal source of money that underwrites terrorist activity”
Questions asked by Homeland Security
1. IRS Type Questions
Similar, if not exact repeats, of questions asked by the IRS.
2. Nature of Activities – Lobbying/Advocacy
The nature of the activities of the charities abroad that would be receiving the money. Specifically, if the receiving charity participates in lobbying and/or advocacy. In the United States, certain types of lobbying/advocacy label the organization 501(c)4 tax-exempt charity. Donations to (c)4 charities are not tax-deductible. If an organization is worried if they fit this category, they might want to look into the 501(h) test.
3. Control Measures
Control measures in place to ensure that the money will be used strictly for charitable purposes.
4. Legal Status of the Recipient Organizations
The DHS asked if the recipient charity is considered a 501(c)3 charity in its respective country. This question is a little tricky because countries have different definitions of what it means to be a nonprofit organization.
In Israel, for example, is the DHS referring to the Nihul Takin [Certificate of Proper Management] given out by the Registrar of Charities [Rasham Ha'amutot] or Seif 46a [Paragraph 46a] certification given out by the Tax Authorities [Mas Hachnasah]?
My colleague stressed that the DHS was very interested to know that the funds sent abroad were not limited to only one recipient. It is crucial for the IRS that the American entity be an independent, self-governing body that is not subservient to any other foreign or local individuals/organizations. And yes, this is a running theme in my blog posts. (A previous post, “Reasons Why Not to Establish an ‘American Friends Of’ elaborates on this Independence.)
What lessons can we learn from this organization’s experience?
1. Longer Process
US registered nonprofits who are applying for tax-exempt status can expect the process to take longer. This is not necessarily a must – maybe no red flags will be raised and it will be smooth sailing. However, I wouldn’t count on it.
2. Treat the DHS Seriously
Even though it might seem that the DHS shouldn’t be in the picture or that their questions are repetitive (maybe even ludicrous and pointless), don’t belittle their role. Whereas the IRS has control only over your tax-exempt status, the DHS can freeze your assets. The Patriot Act allows the U.S. Government to freeze assets first and ask questions second, if they should think that the accounts are connected to terrorism. As of today, the DHS has a big mandate. Don’t mess with them.
3. Adjust Accordingly
The right experts can help you write your By-Laws (including mission and mandate) in a way that raises less flags. I am not advocating lying, fibbing or stretching the truth. Just the opposite: Good charities shouldn’t suffer simply because they wrote their By-Laws in a way that doesn’t accurately describe the activities of the organization.
4. Plan in Advance
If you can theorize the types of questions that your organization’s application will elicit, then you should also being able to prepare answers in advance.
When fundraising, acquiring 501(c)3 tax-exempt status quickly can make-or-break attracting that big, elusive donor. Why unnecessarily lengthen the process?
Disclaimer: This blog houses my personal opinions and is for informational purposes only – not advice. As charity laws can be quite complex, please refer all questions to qualified and licensed professionals. Read the full disclaimer.