IRS Tax-Exempt and Government Entities Division Commissioner Steven Miller recently announced at an educational conference on tax-exempt organizations that the IRS intends to begin applying the “commensurate” test to monitor the efficiency and effectiveness of charitable organizations. This new program will be headed by Lois Lerner, the IRS director of exempt organizations, and will be developed over an 18 month period.
The commensurate test was developed in an IRS revenue ruling issued in 1964 and is an outgrowth of the operational test of Internal Revenue Code section 501(c)(3). In Revenue Ruling 64-182, the IRS examined the activities of a charitable corporation that derived its income primarily from the rental of space in a large commercial building owned by the corporation. The corporation made grants to other charitable organizations selected by the corporation’s governing body. The IRS held that the organization was entitled to exemption under Internal Revenue Code section 501(c)(3) “where it is shown to be carrying on through such contributions and grants a charitable program commensurate in scope with its financial resources.” An organization that fails to meet the commensurate test will not qualify for exemption under Internal Revenue Code section 501(c)(3).
In the past, the IRS has not used the commensurate test on a regular basis. But Mr. Miller’s announcement follows on the heels of the highly publicized investigation by Senator Charles Grassley and the Senate Finance Committee of the use being made by major educational institutions of their endowments. The specific focus of this investigation was whether colleges and universities with large endowments were using a sufficient amount of their resources towards tuition relief for students. While additional guidance will likely be forthcoming regarding the application of the commensurate test, all organizations should monitor these developments within the regulatory scheme and also review their activities to ensure that they are carrying out the purposes for which they were granted exemption in an efficient and effective manner.
McGuireWoods LLP routinely represents tax-exempt organizations in a variety of legal matters. If you have any questions, please do not hesitate to contact us at your convenience.
McGuireWoods’ Nonprofit and Charitable Advisory Services
McGuireWoods’ Nonprofit and Charitable Advisory Services provides advice and guidance that enables charities and other nonprofits to operate successfully in the increasingly complicated, regulated, and competitive environment facing nonprofits today.