Filed under: Tax Compliance & Planning
By Karen Dunn, JD, LLM
On February 22, 2017, the IRS released data regarding organizations that utilized the 1023-EZ from its inception in July of 2014, through December of 2016.
To conduct their research, the IRS employed a streamlined, online process, which allowed them to collect data from over 105,000 organizations. The 1023-EZ data the IRS collected, however, has raised some questions.
The simplified application process does not require organizations to file supporting documentation with the IRS, such as articles of incorporation or bylaws.
Further, the Form 1023-EZ does not require a narrative of the organization’s activities, financial data, or any other substantiating documents or explanatory material. The IRS gathers all information for its determinations through the attestations individuals supply when completing the application.
The IRS stated it will conduct compliance follow-ups on attestations made during the application process. During their follow-ups, the IRS will conduct examinations to ensure that eligible organizations used the Form 1023-EZ properly.
Eligible organizations include those that reasonably expect to be under the $50,000 gross revenue threshold and are categorically eligible. Organizations that are not eligible to use the Form 1023-EZ include organizations such as churches.
In 2015, the Taxpayer Advocate Service (TAS) conducted a study of a representative sample of corporations in 20 states. TAS’ Fiscal Year 2017 Objectives Report to Congress notes that, of those whose Form 1023-EZ was approved, 37% did not satisfy the organizational test for qualifying for exemption.
While TAS brought this finding to the IRS’ attention, discussions with the then-Acting Director of Exempt Organizations, and a follow-up approximately six months later, showed that all but seven of the 149 noncompliant organizations remained exempt.
One online blogger ran a query on the data released in February and noted that, of the 105,000 approved organizations, 623 had the word “church” in the name. This indicates a high likelihood of these organizations using the 1023-EZ impermissibly.
We conducted an informal analysis of the TAS’ 2016 data and agree with the blogger. It is likely that most of these organizations are churches. The real question is, why did the IRS not screen out these applications based on name and stated purpose, which are part of the online application process?
In our 30+ years of assisting organizations with the application process, it is clear that most organizations would benefit from professional advice when setting up their organizational structure and operations to meet the organizational and operational tests required for exemption under Code Section 501(c)(3). Many organizations do not understand the questions in the Form 1023 (or 1023-EZ).
Before the Form 1023-EZ, the complexity of the Form 1023 prompted many organizations to seek professional advice in the application process.
The overall benefit to the industry was that organizations were able to receive advice on organizational structure, private foundation status, proper exemption code section, and even advice as to whether they would be better off operating as a taxable non-profit.
The tax and legal professionals in the industry thus provided a first-level review of organizations before the IRS received their applications. Now, however, many organizations are filing the Form 1023-EZ without seeking legal or tax advice from a professional.
The Taxpayer Advocate Service Report to Congress at least appears to agree there is a problem that needs to be addressed. For fiscal year 2017, TAS will continue to evaluate and report based on:
- the results of IRS’ post-determination audits of Form 1023-EZ filers,
- the extent of noncompliance, and
- whether simple revisions to Form 1023-EZ could alleviate identified problems.
Though the IRS consistently states that the 1023-EZ effectively improves processing times for applications for exemption, its 2017 Work Plan includes consideration of future adjustments to the application, instructions, and pre-determination program. This appears to acknowledge the age-old rule that you can achieve only two of the following qualities: good, fast, and cheap. You cannot have all three at once.
If you have questions on this matter, or another matter related to application for exemption, please contact the authors or your Clark Nuber tax team members.
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