Michigan Business Lawyer Blog

One of the perks of obtaining nonprofit status is getting tax breaks. Not only can charitable institutions get federal and state income tax breaks, they can also get real estate property tax breaks.

The requirements that must be satisfied in order to get a property tax exemption are contained in MCL 211.7o(1). These requirements include the provision that the real estate be "owned and occupied" by the nonprofit charitable institution. While that may seem easy enough, it was enough to trip up the Liberty Hill Housing Corporation in its recent Michigan Supreme Court case.

The case arose out of Liberty Hill's request to the City of Livonia for a property tax break. The City declined Liberty Hill's request. All parties agreed that Liberty Hill owned the property in question. The request was denied because the City didn't believe that Liberty Hill actually occupied the property. Liberty Hill leased to the property to disabled and low income individuals for their own personal use as housing. Liberty Hill mounted unsuccessful appeals to the Michigan Tax Tribunal and the Michigan Court of Appeals.

In its decision, the Michigan Supreme Court affirmed the lower tribunals, ruling that "to occupy property under MCL 211.7o(1), the charitable institution must at a minimum have a regular physical presence on the property." Leasing the property disqualifies it from being eligible for a tax break even though such activity is in furtherance of Liberty Hill's charitable purpose.

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Excise taxes are the bane of private foundations everywhere. These tax rules and restrictions are much more onerous for private foundations than what public charities face. As such, unless there is some personal or business reason why someone would want to conduct their charitable activities through a private foundation, from a pure tax adminstration angle, obtaining public charity status is usually preferable to being classified as a private foundation.

There are a number of excise tax provisions that are imposed on private foundations and its managers to make sure the foundation is operated properly:

Continue reading "The Basics of a Michigan Private Foundation (Part 5) -- Excise Tax Issues" »

Posted by Michael J. Hamblin | Permalink | Email This Post

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A private foundation is a separate legal entity that is recognized as a charitable organization by the Internal Revenue Service. Generally, most private foundations are set up as nonprofit corporations, although it is possible to set up a private foundation as a trust. A corporation is formed by filing the required paperwork with the designated state agency. In Michigan, that paperwork is called the "Articles of Incorporation" and the state agency to which the Articles must be submitted is called the Michigan Department of Labor and Economic Growth. Certain "magic" language must be included in the Articles regarding the foundation's charitable purpose in order for it to be able to qualify as a recognized private foundation under IRS rules.

After a trust or non-profit corporation is created, the foundation's purpose clause is further developed in the Bylaws. The Bylaws contain the internal rules for governing the foundation and adminstering it so that it accomplishes its charitable purposes. The Bylaws cover many topics, such as selection and operation of the Board of Directors and appointing officers to oversee the foundations day-to-day activities. As with any enterprise, it is important to carefully designate a Board of Directors and develop a succession plan.

Once these items have been taken care of, Michigan private foundations must file the Charitable Solicitation Questionnaire with the State of Michigan to inform the Attorney General whether the foundation intends to solicit funds from the public. An Application for Recognition of Exemption/Form 1023 is then submitted to the IRS. It takes approximately 3 months for the IRS to grant written approval of the foundation as a tax-exempt organization. Annually, Form 990PF must be submitted to the IRS to report financial information, including contributions received, income and expenses.

My next (and last) post on this subject will go over some of the excise tax issues that private foundations must deal with.

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Generally speaking, contributions to public charities receive better tax treatment than contributions to private foundations. Federal tax law draws a distinction between the two because Congress considered private foundations in need of more regulatory oversight, and also considered donors to private foundations to be deserving of a somewhat less attractive deduction for their contributions.

The reason for this is that, in general, public charities receive funds from a broad group of donors and have boards that are responsive to such donors, while private foundations are often funded and controlled by one person or family. For example, the United Way and American Cancer Society are public charities because they receive substantial support from the general public. The Ford Foundation is a private foundation because it receives its funding from a single family.

However, it is possible to bridge the gap between these two type of charitable organizations and use a private foundation to reap almost all of the tax advantages that would normally be associated only with public charities. This is accomplished by using what is called a "pass-through private foundation."

Those who want to enjoy the benefits of a private foundation and also want to take advantage of the more favorable deduction limits of a public charity can annually elect pass-through status. A pass-through foundation must distribute its tax deductible contributions no later than the 15th day of the 3rd month after the close of the foundation's taxable year in which contributions are received by the foundation.

In my next post on this subject, I'll give a general overview of the mechanics of setting up a private foundation.

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Private foundations receive favorable tax treatment. Donors receive an income tax deduction for lifetime contributions and an unlimited estate tax deduction for bequests at death. In addition, the earnings grow tax free. The income tax deduction on contributions to private foundations is subject to certain percentage limitations against adjusted gross income and is dependent upon whether the gift is cash or appreciated property.

Below is a comparison of the tax advantages of private foundations versus public charities:

Cash. A donor can deduct cash gifts to a private foundation up to 30% of adjusted gross income. Cash gifts to a public charity are deductible up to 50%.

Appreciated Property. Gifts of appreciated property to a private foundation (stock, real estate) are deductible up to 20% of adjusted gross income. The amount of the deduction is generally limited to basis. By contrast, the fair market value of appreciated property donated to a public charity is deductible up to 30% of adjusted gross income. The Taxpayer Relief Act of 1997 granted private foundations favorable tax treatment (deduction equal to fair market value vs. basis) if publicly-traded stock is contributed to a private foundation by June 30, 1998.

Carryover. The donor is entitled to a 5-year carryover in excess of the percentage limitations following the year of contribution.

In my next post on this subject, I'll discuss a nifty exception to these tax rules that allows you to set up a private foundation, with all of the tax advantages of a public charity.

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From time to time, I am asked about private foundations and how they can be used to further charitable goals. A private foundation is a separate legal entity that is recognized as a charitable organization by the Internal Revenue Service. The foundation is created for charitable purposes specified by the donors (example: grants for cancer research, scholarships for the needy, support of religious goals).

There are a number of benefits to setting up a private foundation for charitable purposes. These benefits include control of your money, flexibility in making distributions, potential for your family to have involvement with the foundation, continuity of your philanthropic activities, and possible tax advantages.

Control. The donors maintain control over their charitable giving by specifying the purposes of the foundation and then making grants consistent with its charitable purposes. For example, the foundation may be established to advance medical treatment for the poor. Beneficiaries of such grants are then determined by the foundation's Board of Directors, which would include the donors and their family. The Board of Directors is also responsible for investing the foundation's assets.

Flexibility. A foundation provides flexibility in making distributions since gifts are made in accordance with its charitable objectives rather than pre-selecting named charities which may not be in favor or in existence at the time of death. When the foundation receives its funds, the Board of Directors would then determine which recipients qualify to receive a distribution.

Family Involvement. Many clients find it important to encourage family involvement in their charitable goals. With a foundation, family members could serve on the Board of Directors. The family participates in implementing the charitable objectives and continues the family's role in the community. Family members may even receive compensation for their services.

Continuity. By establishing a foundation, the donors' charitable goals continue. The donors' name is associated with the foundation's charitable purposes in perpetuity.

My next post on this subject will deal with some of the tax advantages private foundations offer.

Posted by Michael J. Hamblin | Permalink | Email This Post

Posted In: Nonprofit Organizations

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