Supporting Organizations (SOs) are a very specific subcategory of organizations exempt under Section 501(c)(3) of the Internal Revenue Code. They are treated as public charities for tax purposes, but they derive their “public” status from the organization(s) they support. This support can be either financial or operational, but the SO must be related or connected to the sponsored organization either through (1) organizational control, a Type I SO, (2), supervisory or management control, a Type II SO, or (3) responsiveness and integral part tests, a Type III SO. In order to maintain its public charity status, an SO cannot be controlled by certain disqualified persons. The proposed rules seek to define “control” in this context and clarify other existing requirements for Type III SOs.
Under current rules, Type I and Type III SOs are prohibited from accepting contributions or gifts from individuals who directly or indirectly control the governing body of their supported organizations, regardless of whether that control is exercised individually or in combination with related persons. This prohibition extends to persons related to any person holding such control (Reg. §1.509(a)-4(f)(5)). Related persons include family members and 35-percent controlled entities as described in Code Sec. 4958(f). The proposed regulations define a person who has “control” over a supported organization, for this purpose, as being someone who—alone or by aggregating his or her votes or positions of authority with related persons (as defined in Code Sec. 509(f)(2)(B)(ii)-(iii))—can require the governing body of the supported organization to perform any act that either significantly impacts its operations or prevents the governing body of the SO from so acting.
A second aspect of the proposed regulations is to clarify existing responsiveness and notification requirements for Type III SOs. The proposal states that the SO must deliver the required notification documents to each of its supported organizations by the last day of the fifth month following the end of the tax year in which the support it is reporting was provided. The proposed regulations also revise Reg. §1.509(a)-4(i)(3)(i) to clarify that a SO must be responsive to the needs and demands of each of its supported organizations in order to meet the responsiveness test.
Third, the proposals address the ways in which a Type III SO can be functionally integrated with its supported organizations, particularly in a parent-subsidiary relationship. The supported and supporting organizations must be part of an integrated system, and the supporting organization’s activities must be typical for the parent organization in an integrated system. There are also clarifications for SOs that support governmental entities.
Finally, the proposed regulations speak to how a Type III SO can meet the integral part test if it satisfies a distribution requirement and an attentiveness requirement. The proposed regulations revise Reg. §1.509(a)- 4(i)(5) (ii) to clarify that a supporting organization must make distributions as described in Reg. §1.509(a)-4(i)(6) to satisfy the distribution requirement. The proposed regulations revise and clarify the list in Reg. §1.509(a)-4(i)(6) of what counts toward the distribution requirement and make it an exclusive list, and also remove the provision in Reg. §1.509(a)-4(i)(5)(ii) (B) that reduces the distributable amount by the amount of taxes subtitle A of the Code imposed on a supporting organization during the immediately preceding taxable year. Of particular interest is the explanation of reasonable and necessary expenses as “(A) Administrative expenses paid to accomplish the exempt purposes of the supported organization, which do not include expenses incurred in the production of investment income or the conduct of fundraising activities, except as provided in paragraph (i)(6)(iii)(B) of this section; and (B) Expenses incurred to solicit contributions that are received directly by a supported organization, but only to the extent the amount of such expenses does not exceed the amount of contributions actually received by the supported organization as a result of the solicitation, as substantiated in writing by the supported organization.”