Compliance Guidelines for Tax-Exempt Organizations

On February 2, 2007, the Chief of the IRS Exempt Organizations Technical Branch, Office of Rulings and Agreements, announced a set of voluntary guidelines, or "good governance practices," that the IRS intends to recommend to managers of tax-exempt organizations to help them maintain regulatory compliance.

The IRS has been considering these guidelines for almost six years, but has not issued them because it lacks the authority to impose mandatory corporate governance standards. The IRS has now proposed the following good governance practices, which it will formally adopt after receiving public comment, because it believes that the suggested practices will enhance tax compliance by exempt organizations. The new guidelines suggest that all tax-exempt organizations include the following practices in their governance structure:

1. Mission Statement - Adoption by the organization's board of directors of a clearly articulated mission statement explaining the organization's purpose and serving as a guide to its work (i.e., what the organization hopes to accomplish, what activities it will undertake, where and for whom).

2. Code of Ethics and Whistleblower Policies - Adoption and regular evaluation by the board of a code of ethics for the organization describing behavior to be encouraged and behavior to be discouraged. The code of ethics should be used in communicating to all personnel the organization's strong culture of legal compliance and ethical integrity and should include adoption of a policy and establishment of procedures allowing employees to report in confidence complaints concerning suspected impropriety or misuse of the organization's financial resources.

3. Due Diligence - Exercise of due diligence by board members to insure they are sufficiently well-informed of the organization's activities and finances to permit them to fulfill their duty of care in acting in the organization's best interests.

4. Duty of Loyalty - Adoption by board members of (and ensuring compliance with) an appropriate conflict of interest policy (and related measures or procedures) as well as assuring compliance with the policy so all covered persons are encouraged to act only in the best interest of the organization and without regard to any personal interests.

5. Transparency - Procedures to be adopted and monitored by the board of directors insuring that the organization's tax returns (Forms 990), annual reports, and financial statements are complete and accurate, and made available to the public upon request (and possibly posted on the organization's Web site).

6. Fundraising Policy - The board of directors should adopt and monitor compliance with a fundraising policy to ensure that all solicitations comply with federal and state law requirements and are accurate and candid, and that any paid fundraisers are subject to proper oversight.

7. Financial Audits - To ensure that the organization's financial resources are used to further its charitable purposes, requiring receipt and review by the board on a regular basis of up-to-date financial statements, Forms 990, auditor's letters, and financial and audit committee reports. If the organization has substantial assets or revenue, the board should (1) insure that an independent auditor conducts an annual audit, (2) establish an independent audit committee to select and oversee the independent auditors, and (3) possibly cause the auditing firm to be changed periodically (e.g., every five years) to ensure that a fresh look is taken at the organization's financial statements. For organizations without substantial assets or revenue, the board should at least ensure that an independent annual audit is conducted.

8. Compensation Practices - Charitable organizations generally should not compensate for service on the board (other than reimbursement of expenses). In determining reasonable compensation for officers and employees, reliance on the rebuttable presumption of reasonableness in the "intermediate sanctions rules" is recommended. (The intermediate sanctions rules operate to penalize the person who benefited from an excess-benefit transaction instead of penalizing the exempt organization. The IRS can also punish managers of exempt organizations who approved an excess-benefit transaction.)

9. Document Retention Policy - Adoption by the board of a written policy establishing standards for document integrity, retention and destruction, and guidelines for handling electronic files, backup procedures, archiving of documents, and regular checkups on the reliability of the system.

The IRS is soliciting comments on the proposed good governance practices. It plans to finalize these guidelines by the end of 2007 and include them as part of the IRS' online "cyber assistant" program to aid exempt organization compliance efforts.