• IRS Focuses on Effectiveness and Efficiency
  • August 19, 2008 | Author: Adam C. Shields
  • Law Firm: Krieg DeVault LLP - Indianapolis Office
  • The IRS recently announced plans to continue its aggressive approach in evaluating the effectiveness and efficiency of charitable organizations.  In addition to the redesigned Form 990 (Return of Organization Exempt from Income Tax), the IRS may begin using what is known as the "commensurate test" to evaluate the effectiveness and efficiency of charitable organizations to ensure that charitable organizations spend in proportion to their resources. The IRS plans to first focus on higher education institutions and to then devise a method to apply the "commensurate test" to other types of charitable organizations over the next 18 months.

    The "commensurate test" is a factual determination as to whether a charitable organization performs charitable activities in proportion with its financial resources.  Commentators note that the "commensurate test" is currently not a black and white test with specific mathematical formulas or percentages.  Instead, outcomes under the "commensurate test" could vary from case to case, as the IRS must consider the facts and circumstances for each examination.

    The "commensurate test" was first described in a two-paragraph ruling in 1964 (Revenue Ruling 64-182).  The ruling did not provide clear guidance on the test, and the IRS has only attempted to utilize this test one time in an attempt to revoke the charity status of United Cancer Council, a small Indianapolis health charity.  Ultimately, the case with United Cancer Council was settled and the IRS backed away from its use of the test.

    Through the use of the test, the IRS hopes to ensure that charitable organizations (i) are not hoarding or wasting money and (ii) are making appropriate use of their resources to accomplish the charitable purposes for which they receive the benefit of tax-exemption.  Furthermore, by utilizing this test, the IRS hopes to force underperforming charities to complete more charitable activities for which they receive donations.  In the event a charity is not performing sufficient charitable activities, the IRS may revoke the charity's tax-exempt status.

    The IRS announcement is likely related to the recent scrutiny the IRS has received from several key members of Congress.  Recent Congressional hearings and investigations have been conducted regarding charitable organizations and the use of their contributions, including hearings focused on universities and veterans organizations.