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Indiana University

The IRS's Charity Purge

June 23, 2011
Bloomington, Indiana --

Small nonprofits don't need more paperwork assignments from Washington.

By SUZANNE GARMENT AND LESLIE LENKOWSKY

As it appeared in The Wall Street Journal | OPINION

The Internal Revenue Service announced this month that 275,000 nonprofit groups—around 18% of the country's tax-exempt organizations—have lost their federal exemptions because they failed to file Form 990s. The announcement was a long time in the making, but it'll take even longer for the IRS to dig itself out of the administrative and policy mess that it represents.

Until 2006, nonprofits with annual revenues under $25,000 generally did not have to file information returns with the IRS. But a provision in the 2006 Pension Protection Act required them to file an abbreviated form beginning in 2007. If they did not file for three consecutive years after that, their exemptions would be revoked. Their deadline was May 17, 2010.

The IRS and enlightened opinion in the nonprofit sector liked the change. As the president of Independent Sector, a coalition of 550 charities, put it: "How can you manage a system if you don't know who's in or out of it?"

But a nonprofit that loses its exemption has to go through a complicated and expensive refiling process, and while it waits for reinstatement it could be liable for income taxes and unable to get tax-deductible donations. Among the hundreds of thousands of small nonprofits put at risk were many effective but bureaucratically naive outfits like the Fraternal Order of the Eagles and the Boys and Girls Clubs.

The new filing rule caused a massive political and administrative headache. So the IRS sprang into concerned-outreach mode. In 2007, it sent 665,000 warning letters to small nonprofits. It enlisted news media in getting the word out. But when the May 17, 2010, deadline passed, more than 300,000 organizations had not filed.

The IRS extended the deadline until Oct. 15 and pleaded, "If you are a volunteer, member, or just a friend of an organization at risk of losing its exemption, please alert the organization." It said it would delay publishing the list of revocations until January 2011 to give small nonprofits another chance. But this month, when the list was finally published, 275,000 organizations had lost their exemptions.

It turned out—how could it be otherwise?—that there were mistakes. The George Washington University was wrongly listed as having lost its exemption. There were mix-ups with tax identification numbers. And the list could record only so many characters in a group's name. So if a local post of the American Legion had closed its doors years ago or simply neglected to file, it often showed up simply as "American Legion," tainting all Legionnaires nationwide.

Many, perhaps most, organizations on the list are probably defunct. Many others just didn't get the memo. "This is news to me," said an American Federation of State, County and Municipal Employees official when informed that 18 locals were on the list. "First I've heard of it," said an officer of the Summit North Yacht Club. "I'll have to bring this up with the group."

The IRS announced a reduced refiling fee and retroactive exemptions for small organizations that could show good reason for not having filed. It will now release a list of new revocations every month.

Before 2007, small nonprofits didn't have to file because there was no money in it for the public. They didn't have much potentially taxable income. They weren't paying high salaries to their employees, if they had any. And they weren't giving donors huge tax deductions.

There is still no money in it for the public. But there is a federal desire to make civil society more visible to government. This desire, defensible or not, has to be balanced against the costs of the new rule. Many organizations will have to refile for exemption. Even with reduced filing fees, they will bear costs in time, complexity and lawyers. Some will never refile, thus subverting the goal of increasing visibility. And the IRS, having devoted still-unpublicized amounts of resources to its outreach effort, will now devote more resources to the refiling process.

Apart from its costs, this process is at odds with the idea that nonprofits are essentially private organizations whose value lies in their ability to contribute to public life without being controlled by government. It's long been acceptable to require them to disclose enough information to keep them from abusing the public's trust. But this effort is part of a larger campaign to make the nonprofit world amenable to more central management. That's a recipe not just for an administrative mess, but for making nonprofits less independent from government.

Ms. Garment, a tax attorney, is the author of "Scandal: The Culture of Mistrust in American Politics" (Random House, 1991). Mr. Lenkowsky is professor of public affairs and philanthropic studies at Indiana University.

http://online.wsj.com/article/SB10001424052702303936704576397482909877032.html?mod=WSJ_Opinion_LEFTTopOpinion#articleTabs%3Darticle