TrimnerBeckham, based in the Washington DC metropolitan area, provides tax consulting and compliance solutions to nonprofit organizations. We help tax-exempt organizations file accurate and complete tax returns that enhance their public image.
Supreme Court Finds California Schedule B Requirement Unconstitutional
On July 1, 2021, the Supreme Court ruled 6-3 that California can not demand a copy of Form 990 Schedule B including the names and addresses of donors from charitable organizations. For the sake of full disclosure, we have been arguing since 2010 that our nonprofit clients should not be forced to provide Schedule B to California in order to register with the Attorney General. We are pleased with the Supreme Court’s ruling. Nearly 300 organizations filed or signed on to “friend-of-the-court” briefs opposing California’s requirement, including the ACLU, the NAACP, PETA, and the Human Rights Campaign.
Since 2001, California regulations have required registering charities to provide a complete Form 990 Schedule B. Similar requirements exist in New York and New Jersey. Prior to 2018, we had been advising our clients to continue to provide redacted copies of Form 990 Schedule B, removing the names and addresses of donors. In 2010, California threatened many charities with fines and suspension. The Americans for Prosperity Foundation and the Thomas More Law Center (the petitioners) sued the state, alleging that the requirement violated their rights, the rights of their donors, and the rights of all other affected nonprofits. In 2016, the District Court concluded that the requirement was not narrowly tailored to the state’s interest in investigating misconduct created an unconstitutional burden on the freedom of association rights of donors. However, in 2018 the Ninth Circuit reversed the District Court and upheld California’s right to require the information as long as it was not publicly disclosed.
In arguments before the Supreme Court, the California Attorney General’s Office contended that the up-front collection of the names and addresses of major donors was useful for identifying potential fraud, self-dealing, and other misconduct. Alternative means of obtaining Schedule B information, such as audits and subpoenas, are less efficient and effective than up-front collection, and a targeted request for donor information could cause a charity engaged in fraud to hide or tamper with evidence. There is no basis on which to conclude that California’s requirement results in any broad-based chill since the information is kept confidential. Most charities are noncontroversial, and publicity does not deter donations. Donors often welcome the publicity that comes from being a major supporter of a cause they believe in. In fact, some charities sell the names and addresses of donors to other organizations. Since the information is already being gathered and sent to the IRS, California’s requirement created no additional burden.
The petitioners argued that Form 990 Schedule B disclosure makes donors less likely to contribute and subjects those donors to the risk of reprisals. The Americans for Prosperity Foundation CEO testified that a technology contractor working at the organization’s headquarters posted online that he “could easily walk into [the CEO’s] office and slit his throat.” The Thomas More Law Center introduced evidence that it had received “threats, harassing calls, intimidating and obscene emails, and even pornographic letters.” Both organizations and their supporters had been subjected to bomb threats, protests, stalking, and threats of physical violence. California has a history of failing to ensure the confidentiality of donors’ information, posting the confidential information of nearly 2,000 nonprofit organizations to the Attorney General’s website. California officials rarely used Schedule Bs to audit or investigate charities and such information was easily obtained by other means.
Six of the Justices agreed that it makes no difference if there is no disclosure to the public, if some donors do not mind having their identities revealed, or if the relevant donor information is already disclosed to the IRS. California’s disclosure requirement imposes a widespread burden on donors’ associational rights, and this burden cannot be justified on the ground that the regime is narrowly tailored to investigating charitable wrongdoing, or that the State’s interest in administrative convenience is sufficiently important. The Attorney General may well prefer to have every charity’s information close at hand, but the prime objective of the First Amendment is not efficiency. Administrative convenience does not remotely reflect the seriousness of the actual burden that the demand for Schedule Bs imposes on donors’ association rights. Disclosure requirements can chill association even if there is no disclosure to the general public. While assurances of confidentiality may reduce the burden of disclosure to the State, they do not eliminate it. It does not matter that the IRS already collects the information that California is seeking, because each governmental demand for disclosure brings with it an additional risk of chill. The IRS has a nationwide role to determine exemption from federal income tax, which California does not.
However, there was disagreement among the majority regarding the basis on which requirements such as California’s should be scrutinized. Justices Roberts, Kavanaugh, and Barrett write that the appropriate standard of review is “exacting scrutiny, which means that there must be a substantial relationship between the disclosure requirement and a sufficiently important governmental interest. Exacting scrutiny does not require that disclosure regimes be the least restrictive means of achieving their ends, only that they be narrowly tailored to the government’s asserted interest. Justice Thomas disagreed, stating that the appropriate standard should be “strict scrutiny,” meaning that the government must adopt the least restrictive means of achieving its interest. Justices Alito and Gorsuch did not see the need to decide which standard should be applied, nor do they believe that the same standard must apply in all cases.
In a dissent written by Justice Sotomayor and joined by Justices Breyer and Kagan, Justice Sotomayor expresses concern that the majority opinion could endanger other forms of reporting and disclosure, such as political campaign contributions. It states, “All disclosure requires some loss of anonymity, and courts can always imagine that someone might, for some reason, prefer to keep their donations undisclosed. If such speculation is enough (and apparently it is), then all disclosure requirements ipso facto impose cognizable First Amendment burdens.” The dissent notes that the ruling overturns California’s disclosure requirement “even if a plaintiff demonstrates no burden at all. The same scrutiny the Court applied when NAACP members in the Jim Crow South did not want to disclose their membership for fear of reprisals and violence now applies equally in the case of donors only too happy to publicize their names across the websites and walls of the organizations they support.”
The California Association of Nonprofits complained that the ruling will weaken public trust in the nonprofit sector. California Attorney General Rob Bonta (D), stated, “Stripping our office of confidential access to donor information — the same information about major donors that charities already provide to the federal government — will make it harder for the state to fight fraud and prevent the misuse of charitable contributions.” In contrast, over 120 organizations wrote that “With the political winds of state attorney general offices shifting from term to term, fears of threats, harassment, reprisals, and even political targeting by government for advocacy on issues of social, economic, religious, and political importance shift as well, and such risks are especially worrisome for controversial issues unpopular at the time.”
The consolidated cases are Americans for Prosperity Foundation v. Bonta and Thomas More Law Center v. Bonta, citation is 127 AFTR 2d 2021-XXXX.
REMINDER: Next Major Nonprofit Tax Deadline: August 15, 2021.
Organizations using a December year-end: Return was due May 15, 2021, extended due date is November 15, 2021.
Organizations using a March year-end: Return is due August 15, 2021, extended due date is February 15, 2022.
Organizations using a June year-end: Return is due November 15, 2021, extended due date is May 15, 2022.
Organizations using a September year-end: Return was due February 15, 2021, extended due date is August 15, 2021.
New Provisions for PPP Loans and EIDL Advances That Affect Nonprofits.
Under the CARES Act passed in Spring 2020, an eligible organization could obtain a Paycheck Protection Program (PPP) loan for 2.5 times its average monthly payroll (“Draw I”). As long as the organization spent at least 75% on payroll and employee benefits and the remaining 25% on eligible expenses such as mortgage interest, rent, and utilities during an 8-week period (“the 75/25 rule”), the loan could be forgiven. A subsequent law called the Paycheck Protection Flexibility Act of 2020 extended the period from 8 to 24 weeks and reduced the rule o expenses from 75/25 to 60/40.
Then on December 27, 2020, President Trump signed the $2.3 trillion Consolidated Appropriations Act, 2021 ( relevant portions referred to as “COVIDTRA”). It is one of the longest bills ever passed by Congress at 5,593 pages, and it includes roughly $900 billion in economic stimulus provisions. It did not address two of the most contentious issues during negotiations: funding for state and local governments, and liability protections for businesses.
In addition to direct payments for individuals and expanded unemployment benefits, COVIDTRA contains several provisions that affect nonprofit organizations:
Final Regs Provide Details on “Siloing” UBI
When reporting separate unrelated trades or businesses on Form 990-T, nonprofits should choose the 2-digit NAICS code that most accurately describes the unrelated activity, not the code that describes the exempt purpose. For example, a social club that earns unrelated business income (UBI) from operating a golf course and a restaurant should not use the codes for its exempt activity (operating a golf course or a country club), but instead should use codes that describe the sale of merchandise, food, and beverages.
An exempt organization that decides to use a different 2-digit NAICS code for an unrelated trade or business must provide:
Changing the code used in a prior year would be unusual. Examples include partnership interests that no longer meet the requirements to be treated as a qualifying partnership interests (QPI), or activities that were improperly combined. However, simply switching from a 6-digit NAICS code to a 2-digit NAICS code is not considered a change if the first two digits of the old 6-digit code match the two digits of the new 2-digit code. For example, advertising in a periodical, on the website, in a convention program, and by direct mail all have different 6-digit NAICS codes and therefore may have been treated as separate trades or businesses in the previous year. However, they all use the same 2-digit NAICS code and therefore are a single trade or business.
Nonprofits may amend their prior year returns to combine trades or businesses and their associated net operating loss (NOL) carryforwards as long as they previously used 6-digit codes with the identical first two digits. However, an NOL from a trade or business that changes to a different 2-digit NAICS code will be suspended and can only be used if a future activity utilizes the original NAICS code unless the organization can establish that the previous code was used in error and that there has been no material change in the unrelated trade or business.
Certain separate unrelated trades or businesses do not have NAICS codes, such as income from a controlled subsidiary, income from investment activities, certain amounts derived from a controlled foreign corporation, and nonqualified interests in an S corporation. The IRS 2020 Instructions for Form 990-T provide a list of Non-NAICS Business Activity Codes.
Payments of interest, annuities, royalties, and rent from a controlled entity are reported as a separate unrelated trade or business to the extent that they reduce the net taxable income (or increases the net taxable loss) of the controlled entity. Such payments received from a single controlled entity are aggregated and reported as a single separate unrelated trade or business using the Non-NAICS Business Activity Code 903001. An organization that receives such payments from more than one controlled entity must report the payments from each additional controlled entity as a separate trade or business using the Non-NAICS Business Activity Code 903002, 903003, etc. The income is not combined with other investment or rental income.
Rent from debt-financed property is not combined with rental income from personal property or rental income from a controlled subsidiary. All unrelated business income from debt-financed property is grouped together as a single unrelated trade or business using the Non-NAICS Business Activity Code 901101.
Social clubs and VEBAs that are taxed on gross income other than exempt function income should use Non-NAICS Business Activity Code 901101. For these organizatios, taxable interest, annuities, royalties, and rent are combined and reported as a single separate trade or business. The taxable rent income of a social club is not combined with other taxable rent income it may have, such as rent income from debt-financed property or rent income from a controlled subsidiary.
Siloing is required for NOL Carrybacks
The CARES Act signed in March 2020 permits a five-year carryback for NOLs generated after 12/31/17 and before 1/1/21.
The IRS issued an FAQ that explains how the siloing rules (IRC Sec. 512(a)(6)) must be applied to such carrybacks. The FAQ explains that an NOL carried back to a tax year that began before 12/31/17 can be applied against the aggregate UBI from that year, but an NOL carried back to a tax year that began after 12/31/17 can only be applied to net income from the same silo.
Employee Retention Tax Credit
The employee retention tax credit has been extended through June 30, 2021. The credit rate for the first two quarters of 2021 increases from 50% to 70%, and the wage limit is raised from $10,000/year to $10,000/quarter. The maximum credit is $5,000/employee in 2020 and $14,000/employee in 2021. The refundable credit is available to an employer when its gross receipts fall by 20% rather than the previous 50%. Employers that receive PPP loans may claim the credit only for wages not paid with forgiven PPP loan proceeds.
Increase in Corporate Charitable Contribution Limit Does NOT Apply to Form 990-T
For cash contributions made to qualifying organizations during calendar year 2020, the CARES Act increased the charitable contribution deduction limit for corporations from 10% to 25% of taxable income. Subsequent legislation extends this provision through calendar year 2021. However, IRC Sec. 512(b)(10) has not been amended, so exempt organizations must continue to use the 10% limit, not the 25% limit, when deducting charitable donations from unrelated business taxable income on Form 990-T.
Changes to Standard Mileage Rates for 2021
Standard mileage rates used to calculate the deductible costs of operating an automobile are: