Section 501(c)(3) and the relevant provisions of the Treasury Regulations state explicitly that an organization does not qualify for a tax exemption if it is operated in whole or in part for the benefit of persons with a private and personal interest in the activities of the organization. [FN1] In the context of journalism non-profits, this issue is ordinarily addressed through the four-part test set forth in Revenue Ruling 67-4, the fourth part of which asks whether a journalism or publishing non-profit operates in a manner "distinguishable from ordinary commercial publishing practices." [FN2]
A complicating factor is that journalism non-profits often collaborate with for-profit businesses or work through for-profit channels to achieve their exempt purposes. For example, a non-profit news outlet might distribute its content to a regular commercial broadcaster for dissemination. Such interaction with for-profit businesses will not automatically disqualify a non-profit for exemption, but the non-profit should be careful to keep the line between its operations and those of its partners clear.
In 1980, the U.S. Tax Court clarified that some partnerships with for-profit organizations are appropriate. In Plumstead Theatre Society, Inc. v. Commissioner of Internal Revenue, [FN3] the Tax Court reviewed a limited partnership between Plumstead Theatre Society (a non-profit theater production company), two individuals, and a for-profit corporation to produce a theatrical show at the Kennedy Center, after the IRS denied Plumstead a tax exemption. The Tax Court reversed the IRS ruling, finding that Plumstead had kept its charitable operations distinct from the profit motives of its partners:
After entering into an agreement with the Kennedy Center, petitioner [Plumstead] discovered it was in need of funds for its share of the capitalization costs of [the show]. The record shows that in an arm's-length transaction, it obtained those funds by selling a portion of its interest in the play itself, for a reasonable price. Petitioner is not obligated for the return of any capital contribution made by the limited partners from its own funds, and the partnership has no interest in petitioner or in any other plays it is planning to produce. The limited partners have no control over the way petitioner operates or manages its affairs, and none of the limited partners nor any officer or director of [the for-profit company] is an officer or director of [the non-profit]. [FN4]
Similarly, in 2001 the IRS determined that a non-profit producer of educational media could carry out its purposes by syndicating its content to both non-profit and for-profit broadcasters:
In 2004, in a case involving the dissemination of teacher training seminars through partnership with a for-profit company specializing in interactive video training, the IRS confirmed that such partnerships are acceptable so long as they do not compromise the non-profit's tax-exempt purpose:
The Service has also accepted the view that organizations ... exempt under section 501(c)(3) of the Code may carry out their charitable purposes through other organizations, including organizations not exempt under section 501(c)(3).
Through [the non-profit] 's video production and satellite uplink transmission services, [the non-profit] will be providing the general public with the opportunity to view programs of an educational, cultural, and informative nature on public access channels and commercial network news television programs. The service contributes importantly to the accomplishment of [the non-profit]'s educational purposes within the meaning of sections 1.501(c)(3)-1(d)(3) and 1.513-1(d)(2) of the regulations. [FN5]
A § 501(c)(3) organization may form and participate in a partnership and meet the operational test if 1) participation in the partnership furthers a charitable purpose, and 2) the partnership arrangement permits the exempt organization to act exclusively in furtherance of its exempt purpose and only incidentally for the benefit of the for-profit partners. [FN6]
However, the IRS will deny an exemption where it cannot distinguish between the operations of a non-profit and a related for-profit. In 2010, the IRS ruled that an online social networking service that was formed to encourage charitable activity did not qualify for a section 501(c)(3) exemption, because its operations were indistinguishable from those of its for-profit subsidiary. The IRS explained its decision to the non-profit as follows:
[Y]ou will operate for the more than insubstantial non-exempt purpose of benefitting your proposed for-profit subsidiary. ... Your actual activities consist of aggregating news articles from online sources through your website and then linking them to a variety of needs posted by organizations exempt under section 501(c)(3) of the Code. ... [I]t is difficult to distinguish between your activities and the activities of your proposed for-profit subsidiary. ... [I]t appears that both you and your for-profit subsidiary will assist non-profit organizations and news organizations and connect them both to the general public, while using your technology. While your for-profit may also provide additional services (e.g., B-to-B services), there is little meaningful separation between the activities you and your for-profit subsidiary will engage in. ... Further, a comprehensive review of the facts indicates that your for-profit subsidiary will benefit substantially from your operations, which is not allowed under section 501(c)(3) of the Code. [FN7]
The bottom line is that non-profit organizations may work with and through for-profit businesses without being disqualified under section 501(c)(3), but must be careful that their operations do not merge with for-profit businesses such that it appears the non-profit is being operated for the purpose of benefitting the for-profit.
1 See 26 U.S.C. § 501(c)(3) ("no part of the net earnings of which inures to the benefit of any private shareholder or individual"); Treas. Reg. § 1.501(c)(3)-1(c)(2) (as amended in 2008) ("An organization is not operated exclusively for one or more exempt purposes if its net earnings inure in whole or in part to the benefit of private shareholders or individuals."). "Private shareholder or individual" is in turn defined as referring to "persons having a personal and private interest in the activities of the organization." Treas. Reg. § 1.501(a)(1)-1(c) (as amended in 2008).
2 Rev. Rul. 67-4, 1967-1 C.B. 121.
3 Plumstead Theatre Soc'y, Inc. v. Comm'r, 74 T.C. 1324 (1980), aff'd, 675 F.2d 244 (9th Cir. 1982) (per curiam).
4 Id., 74 T.C. at 1333-34.
5 I.R.S. Priv. Ltr. Rul. 2001-51-047 (August 15, 2001).
6 Rev. Rul. 2004-51, 2004-1 C.B. 974.
7 I.R.S. Priv. Ltr. Rul. 2010-44-016 (August 10, 2010).