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Proposed IRS Regulations for 501(c)(4)s: Sooner Than Expected, But Probably Too Late

Posted in Tax

Yesterday evening the Treasury and the IRS released, sooner than expected, proposed regulations that could fundamentally change the playing field for 501(c)(4) organizations active in politics.  The proposed regulations will be published in the Federal Register on Friday, November 29.  The pre-publication version is here.

Highlights

The proposed regulations mirror the approach first taken by Treasury and the IRS in the recent expedited procedures for certain 501(c)(4) organizations.

Most importantly, the proposal would replace the existing “facts and circumstances” test that applies to political campaign intervention by 501(c)(4) social welfare organizations with a bright line rule drawn from existing FEC regulations.

Under the new standard, electioneering communications within the 60/30 day time periods before a general/primary election and any communication that triggers reporting to the FEC would be considered “candidate-related political activity” that is not social welfare activity.

Although the preamble to the proposed regulations states expressly that the fact that an activity is not candidate-related political activity under the proposal does not mean that the activity promotes social welfare, there seems little doubt that the exempt organization community will treat the new rules as bright lines for tax purposes in the same manner as they are under FEC rules.  There are two likely consequences:

  • One, 501(c)(4) organizations will largely cease to be the vehicles of choice for traditional election year advertising that features candidates and airs close to elections.
  • Two, 501(c)(4) organizations may, perhaps ironically, be able to engage in more politically motivated speech under the new rules (but outside the 60/30 day windows) than they could have under existing rules.  Activity that might have seemed risky as an election year activity before the proposed regulations, may now be permissible if conducted outside the 60/30 windows.

In an unexpected move, the proposed regulations’ definition of candidate-related political activity also includes non-partisan GOTV, voter registration, voters’ guides, and ballot initiatives to recall specific candidates, regardless of when they occur.  This would be a significant change because there are many organizations on both sides of the aisle that currently engage in such activities.  This may be modified, or even eliminated, before final regulations are issued if there is significant push-back by social welfare organizations.

Finally, in another significant departure from existing rules and practice, the proposed regulations propose that candidate-related political activity would include any grant or contribution—which is defined broadly to include both in-kind donations and other support, such as volunteer hours and free or discounted rentals of facilities or mailing lists—to another 501(c) organization if the recipient organization engages in any candidate-related political activity.  Under the proposal, a grant-making entity could rely on a grantee’s representation that none of the contributed funds would be used for candidate-related political activity only if the grantee also represents that it engages in no such activity.  This proposed rule is more restrictive than any other rule relating to grants and contributions in the Treasury regulations, indicating perhaps a deep unease occasioned by numerous press reports alleging that “dark money” flows through numerous exempt entities before finally being spent.

Is It All Too Late?

The proposed regulations are being viewed by some as a laudable attempt to establish some clarity in the rules governing political campaign activities by social welfare organizations so that the rules can be more easily complied with by organizations and more easily enforced by the IRS.

Perhaps significantly, however, the uncertainty of the existing rules has already caused many risk-averse organizations to flee the exempt organization universe entirely.  These organizations have, over the past few years, steadily but slowly, been moving away from tax-exempt organizations and into more creative structures that involve taxable entities.  Ironically, this trend is likely to accelerate if these proposed changes are adopted, as the relative advantages of taxable entities over IRS-regulated tax-exempt organizations become more readily apparent.

What Comes Next

The proposal calls for a 90 day period during which comments may be submitted on the proposed regulations.  We expect numerous comments will be submitted because there is already vigorous discussion about the proposal.

In addition, Treasury has specifically requested comments on multiple topics, including two topics that are not addressed by the proposal and that are hot button issues for many:

  1. Should the proposed regulation also apply to 501(c)(5) labor unions and 501(c)(6) trade associations?
  2. How much “candidate-related political activity” can an organization engage in and still satisfy the requirement that it operate primarily for exempt purposes?

Covington’s Election and Political Law Practice Group will address all of these issues in more detail at its February 6, 2013, all-day conference on Corporate Political Activity and Government Affairs Compliance.