(i) Tax Law Characteristics.    A tax-exempt business league is an association of persons having some common business interest, the purpose of which is to promote that common interest and not to engage in a regular business of a kind ordinarily carried on for profit. Its activities must be directed to the improvement of business conditions of one or more lines of business, as distinguished from the performance of particular services for individual persons. An organization whose purpose is to engage in a regular business of a kind ordinarily carried on for profit, even though the business is conducted on a cooperative basis or produces only sufficient income to be self-sustaining, cannot be an exempt business league.⁸

This definition of a tax-exempt business league, “[h]aving been left undisturbed despite numerous reenactments” of the exemption provision, “is deemed to have been given the imprimatur of Congress and is thus entitled to the effect of law.”⁹ A parsing of this definition shows that a business league, to be exempt, must be (1) an association of persons having a common business interest; (2) the purpose of which is to promote that common business interest; (3) that is not organized for profit; (4) that does not engage (other than incidentally) in a business ordinarily conducted for profit;¹⁰ (5) the activities of which are directed to the improvement of business conditions of one or more lines of business, as distinguished from the performance of particular services for individual persons; and (6) that is of the same general class as a chamber of commerce, board of trade, or the like.¹¹

To be exempt as a business league, an organization must meet all six of these criteria. For example, an entity that satisfied only the first four of these elements was held to not be entitled to tax exemption as a business league.¹² If, however, an otherwise disqualifying activity is merely incidental or subordinate to an entity's principal purpose, exemption as a business league will not be defeated.¹³

The IRS is discouraging use of small boards, in the case of public charities, by portraying the practice as an inherent form of private benefit.¹⁴ The agency has made an attempt to import that proposition into the law concerning tax exemption for business leagues, ruling that an organization did not qualify as an exempt business league, in part because the organization had a self-perpetuating board; in that instance, the IRS lamented the absence of “oversight of an independent board.”¹⁵ Nonetheless, among the federal tax law criteria for exempt business leagues, there is no requirement of an independent board.

Even though it is almost always essential to qualification as a tax-exempt business league that the organization be an association of persons having a common business interest, the persons do not necessarily have to be engaged in a business at the time they are acting in association. As an illustration of this point, an organization of persons studying for a degree in a particular profession can qualify as an exempt business league if the purpose of the organization is to promote their common business interests as future members of that profession.¹⁶ Also, an exempt association will not jeopardize its business league status if it characterizes as nonvoting associate members those persons who are merely sponsors of the organization and lack a common business interest with the regular members.¹⁷

(ii) Members.    The typical tax-exempt business league has a membership; this element is reflected in the above six-part definition that references “an association of persons.” The IRS is likely to deny recognition of exemption as a business league where the entity does not have a membership.¹⁸ Usually this membership comprises individuals, for-profit businesses, or both. An exempt business league may, however, have exempt organizations as members, even where there are only two entities as members. For example, the IRS held that a trust created by an exempt labor union and an exempt business league qualified as an exempt business league.¹⁹ Likewise, a trust created pursuant to collective bargaining agreements between an exempt labor union and several exempt business leagues was ruled to be exempt as a business league.²⁰

There can be situations, however, where an exempt business league does not have members. For example, an association of individuals that is exempt as a charitable organization and that wants a certification program should place the program in a separate entity, which would be a business league. This type of business league can gain tax-exempt status, even though it lacks a membership. Of course, for this purpose, the membership of the association may be imputed to the business league.²¹

(iii) Dues.    Inherent in the concept of a membership organization is the expectation that the organization is primarily supported by dues, although this requirement is not among the formal elements of the definition of a business league. Nonetheless, the IRS has observed that an exempt business league must be “financed, at least in part, through membership dues.”²² The agency, notwithstanding the absence of the point in the tax regulations, wrote that an organization “which is not in fact membership supported lacks the most significant characteristics common to” exempt business leagues. An organization that has “demonstrated a pattern of nonmembership support must necessarily fail a critical test of exemption” for business leagues, the IRS added. Nonetheless, the IRS, in contemplating the exempt status of a membership organization, nearly all of the revenue of which was certification fees, concluded that the certification function was a substantially related activity and that this revenue was “therefore considered to be membership support.”²³

An exempt business league is not required to promote the betterment of general commercial welfare.²⁴

(i) Concept of Line of Business.    A line of business is a trade, business (industry), or profession, or a segment of a trade, business, or profession. The IRS defines the phrase as a “trade or occupation, entry into which is not restricted by a patent, trademark, or similar device which would allow private parties to restrict the right to engage in the business.”³⁵ A critical component of the line of business is that it is composed of competitors within a trade, industry, or profession.

(ii) Supreme Court Pronouncement.    This line-of-business requirement was upheld by the Supreme Court as being consistent with the intent of Congress in granting tax exemption to business leagues. The occasion for the Court's review of the requirement was a case involving the exempt status of a trade organization of muffler dealers that confined its membership to dealers franchised by a particular company and that had as its principal activity bargaining with the company on behalf of its members. The Court held that the franchisees did not represent a line of business, in that their efforts did not benefit a sufficiently broad segment of the business community involved, as would the efforts of an organization functioning on behalf of the entire muffler dealer industry.³⁶

The Court observed that “[m]ost trade associations fall within” one of two categories.³⁷ They either represent an “entire industry”³⁸ or “all components of an industry within a geographic area.”³⁹ This characterization of the essence of tax-exempt associations was seen by the Court as “[t]rue to the representations made by the Chamber of Commerce, in its statement to the Senate [Finance Committee] in 1913,” that benefits would be received “in common with all other members of their communities or of their industries.”⁴⁰

The Court wrote that, while the view of the IRS as to the necessity of the line-of-business requirement “perhaps is not the only possible one, it does bear a fair relationship to the language of the statute, it reflects the views of those who sought its enactment, and it matches the purpose they articulated.”⁴¹ Also, the agency “infrequently but consistently has interpreted [the definition] to exclude an organization…that is not industrywide” and therefore the IRS's view “merits serious deference.”⁴² The Court noted that the IRS “consistently has denied exemption to business groups whose membership and purposes are narrower,”⁴³ such as entities composed of businesses that market a single brand of automobile,⁴⁴ have licenses to a single patented product,⁴⁵ or bottle one type of soft drink.⁴⁶ The Court wrote that the IRS “has reasoned that these groups are not designed to better conditions in an entire industrial ‘line,' but, instead, are devoted to the promotion of a particular product at the expense of others in the industry.”⁴⁷

(iii) Other Developments.    In the aftermath of this Supreme Court opinion, the IRS ruled that tax exemption as a business league is not available for organizations that endeavor to improve business conditions in only “segments” of lines of business.⁴⁸ This development occurred when the agency, reviewing the status of an organization of users of a manufacturer's computers, formed to discuss computer use operational and technical problems (a computer users' group), ruled that the organization did not qualify as an exempt business league, in part because the organization helped provide a competitive advantage to the manufacturer and its customers.⁴⁹ This position of the IRS was endorsed by a federal district court, holding that a computer users' group did not constitute an exempt business league because it promoted a single manufacturer's computers, in that the group's activities “advance the interests of [the vendor] and fail to bestow a benefit upon either an entire industry or all components of an industry within a geographic area.”⁵⁰ This decision was thereafter mirrored in another federal district court decision, finding a computer users' group to not be an exempt business league because the single manufacturer involved represented only a segment of the industry and because a group that “promotes a particular product at the expense of others in the industry necessarily fails the line of business requirement.”⁵¹ The second of these cases was affirmed, with the appellate court writing that the organization seeking exempt status was functioning as a “powerful marketing tool” for the computer manufacturer involved.⁵²

By contrast, an association was ruled by the IRS to be a tax-exempt business league where its diverse members own, rent, or lease computers of various manufacturers and its purpose is to facilitate their data processing; the primary objective of the organization was to provide a forum for the exchange of information that will lead to more efficient utilization of digital computers by its members.⁵³ Likewise, the IRS held that an organization formed by members of an industry that contracted with research organizations to develop new and improved uses for existing products was an exempt business league, in part because none of the organization's patents and trademarks was licensed to any member on an exclusive basis.⁵⁴

The IRS ruled that an organization did not qualify as a tax-exempt business league because its membership of fraternal and veterans' organizations did not constitute an industry, so that the requisite line of business was not being represented.⁵⁵ In another instance, exempt business league status was not extended to an organization inasmuch as it was not composed of persons with a common business interest “but rather consists of persons desiring to increase their own personal wealth.”⁵⁶ Similarly, an organization had its exempt status revoked because it was operating “solely as a leads/referrals group which only benefits uncommon business members,” and its activities were “providing a direct benefit to the members rather than for the improvement of business conditions as a whole.”⁵⁷ Likewise, a court held that the Bluetooth (a radio-based technology that supports wireless communications) specification and accompanying trademark, created and marketed by an association, is a brand being sold by the association in a “garden-variety” business rather than an effort to promote a common business interest.⁵⁸ A classic example of violation of the line-of-business requirement was provided when the IRS ruled that an organization serving as an association for the independent restaurant industry had as its primary activity the marketing of an “identifiable brand” as a way of public promotion of the member restaurants; the IRS ruled that the marketing effort was intended to provide the association's members a competitive advantage over other independent restaurants.⁵⁹

A nonprofit organization was formed to promote and facilitate the operation and use of tax-qualified master retirement plans for members of an exempt business league. This entity created and maintains these plans for adoption by lawyers and law firms. This organization failed to qualify as an exempt business league itself, largely because its activities were, as a court wrote, “directed principally to individual lawyers and law firms rather than promoting the well-being of the legal industry generally.”⁶⁰ The organization maintained that providing retirement services to legal professionals, in its words, “advances the common business interests of the legal profession by assisting lawyers in more efficiently managing their practices so that they can concentrate more on serving the interests of their clients,” instead of managing retirement plans.⁶¹ The “foremost problem,” observed the court, is that the organization's position “lacks any limiting principle,” in that the logic of this position is that the offering of “virtually any product or service” could therefore be deemed to advance the common business interests of the legal profession.⁶²

(i) General Rule.    One of the hallmarks of a for-profit business is that it is operated to generate profits for its owners.¹³⁵ Thus, an organization that issued shares of stock carrying the right to dividends was denied exemption as a business league.¹³⁶ Also, an association of insurance companies that provided medical malpractice insurance to physicians, nurses, hospitals, and other health care providers in a particular state, where that type of insurance was not available from for-profit insurers, was denied classification as an exempt business league on the ground that the provision of medical malpractice insurance is a business of a kind ordinarily carried on for profit.¹³⁷ Similarly, an association of insurance companies that accepted for reinsurance high-risk customers who would ordinarily be declined for coverage by the member companies was ruled to not qualify as an exempt business league, inasmuch as reinsurance is a business ordinarily carried on by commercial insurance companies.¹³⁸

In one instance, a court held that an organization did not qualify as a tax-exempt business league because it engaged in a regular business of a kind ordinarily carried on for profit.¹³⁹ The court distinguished this insurance activity from that conducted by associations only on a passive basis (that is, mere sponsorship of the insurance program) and where a self-insurance program was not involved.¹⁴⁰ A court concluded that a nonprofit organization that itself functioned as an insurance agent was a tax-exempt business league. The organization's sole client was a state, which it served in the purchase of all insurance and bonding coverage required by the state and its agencies.¹⁴¹ On appeal, however, it was held that the organization was not an exempt business league because it conducted a business of a kind ordinarily carried on for profit and did so more than incidentally.¹⁴²

As noted, the association that created and marketed the Bluetooth technology was held to be conducting for-profit business activities.¹⁴³ As the district court viewed the matter, while an exempt business league can advance a common and preexisting interest among its members, the association at issue was formed to create a common business interest among its members. This court wrote that the “collective enterprise of the [a]ssociation derives from the fact that it has created a thing of value, which its members can then use to enhance the value of the products they sell.”¹⁴⁴

(ii) Incidental Business Activity.    Notwithstanding the general rule, if the for-profit business activity is merely incidental to the organization's overall activities, the organization can be an exempt business league. Instead, the business activity is treated as one or more unrelated businesses.¹⁴⁵

(i) Particular Services.    The term particular services generally means services that are provided to an organization's membership that are either in addition to those that are exempt functions funded by dues (particularly where there is separate payment for them) or that provide what is sometimes termed a convenience or economy in connection with operation of members' businesses. In one instance, an association of life insurance companies that operated an insurance underwriting information exchange among its members was ruled by a court to not qualify as a tax-exempt business league, despite its contention that its primary purpose was to benefit the entire life insurance industry by deterring fraud in the application process and that any benefits to its members were incidental.¹⁴⁸

A court, in addressing this issue, concluded that an activity of a tax-exempt business league was an exempt function where the activity benefited its membership as a group, rather than the members in their individual capacities.¹⁴⁹ Subsequently, the IRS grappled with these distinctions, differentiating between an “industry-wide benefit or a particular service to members.” The agency held that activities that provide a benefit across an industry “usually possess certain characteristics,” such as being an “activity for which individual members could not be expected to bear the expense and thus lends itself to cooperative effort” and the fact that the benefits are “intangible and only indirectly related to the individual business.”¹⁵⁰ Consequently, for example, the agency held that the operation, by an exempt association of members in the trucking industry, of an alcohol and drug testing program for members and nonmembers was a particular service for individual persons (as opposed to an incident of membership), notwithstanding the fact that the prevention of alcohol and drug abuse is a “legitimate goal” of trucking companies.¹⁵¹ It is frequently difficult in a specific instance to distinguish between the performance of particular services and activities directed to the improvement of business conditions.¹⁵²

(ii) General Rule.    Courts have, on several occasions, applied the rule that an organization cannot be an exempt business league if it provides particular services to individual persons. In one instance, an organization that operated a cold storage warehouse for its members on a cooperative basis was denied exemption as a business league because the organization's primary activities were found to constitute the performance of particular services for individual persons.¹⁵³ The court concluded that, even though the organization was not organized for profit and did not violate the private inurement doctrine, this combination of its members—done in order to save money—was not an appropriate function of an exempt business league.

A stock clearing association was denied exemption as a business league where its purpose was to provide a business economy or convenience for individual traders.¹⁵⁴ Noting that serving as a convenience to members is not a characteristic of entities seeking recognition of exemption as a business league, the court stated that it could not find a reason to exempt an association that serves each member as a convenience or economy in the member's business.

Tax exemption as a business league was denied an organization formed to facilitate the purchase of supplies and equipment for, and to supply management services to, its members.¹⁵⁵ This court found that the organization did not appear to answer the description of an exempt business league. The association performed particular services for individual persons, as evidenced by activities that included the furnishing of credit information, the supplying of an apartment shopping service, and the making of arrangements for direct purchases by members at discount.

A court held that a real estate board, whose primary purpose and activity were the operation of a multiple listing service for its members, did not qualify for this exemption.¹⁵⁶ It was stated that where this type of a service is “operated primarily for individual members as a convenience and economy in the conduct of their respective businesses, rather than for the improvement of business conditions within the [industry] generally…, the operation is not an activity warranting an exemption under the statute.”¹⁵⁷

An organization formed to facilitate the purchase of supplies and equipment and to provide management services for its membership was found to not be tax-exempt. A court held that the high percentage of income obtained by the organization from performing particular services for individuals as a convenience and economy in their business, along with its other income-producing activities, and the amount of time devoted by employees of the organization to the performance of these services were sufficiently substantial so that the income-producing activities could not be said to be merely incidental activities of the organization.¹⁵⁸ Another case involved a business league formed to promote the common business interest of its members by advancing the credit union movement. According to the court involved, it was the “distinctiveness of the activity that cements the substantial relationship” between the activity and the exempt function.¹⁵⁹ In denying tax exemption as a business league to an organization whose activities consisted of providing particular services to its members in the form of transmittal of information that would be used in decisions affecting their business operations, a court held that the ultimate inquiry was whether the association's activities advanced the members' interests generally by virtue of their membership in the industry or whether they assisted members in the pursuit of their individual businesses.¹⁶⁰

In another instance, a court held that an organization did not qualify as a tax-exempt business league because its activities were directed to the performance of particular services for individual members.¹⁶¹ The court observed that the organization offered its members, in addition to many insurance programs, an eyeglass and prescription lens replacement service, and sold its local chapters and members various supplies, charts, books, shop emblems, and association jewelry.

In other court decisions, the performance of particular services for individual persons was found (and thus the organizations were denied tax exemption as a business league) in instances of operation of a laundry and dry cleaning plant,¹⁶² performance of services in connection with bond investments,¹⁶³ appraisal of properties,¹⁶⁴ promotion of the exchange of orders by wire,¹⁶⁵ estimation of quantities of building materials for an organization's members' projects,¹⁶⁶ and the provision of food and beverage service by an engineering society to its members.¹⁶⁷

The IRS likewise has not, over the decades, been reticent in applying this principle of law, holding that organizations were providing services to individual persons and thus denying tax exemption as a business league in the following instances: an organization acting as a receiver and trustee for a fee;¹⁶⁸ an organization operating commodity and stock exchanges;¹⁶⁹ an organization whose principal activity consisted of furnishing particular information and specialized individual service to its individual members through publications and other means to effect economies in the operation of their businesses;¹⁷⁰ an organization promoting and selling national advertising in members' publications;¹⁷¹ an organization promoting its members' writings;¹⁷² an organization operating a multiple listing service;¹⁷³ a nurses' registry that was denied categorization as an exempt business league on the basis of a finding that it was no more than an employment service for the benefit of its members;¹⁷⁴ an organization conducting a trading stamp program;¹⁷⁵ an organization that provided its members with an economy and convenience in the conduct of their individual businesses by enabling them to secure supplies, equipment, and services at less cost than if they had to secure them on an individual basis;¹⁷⁶ an organization ensuring the discharge of an organization's members' obligations to pay taxes;¹⁷⁷ an organization maintaining a library for its members' use;¹⁷⁸ an organization providing services to members and nonmembers, principally operating a traffic bureau, which resulted in savings and simplified operations;¹⁷⁹ an organization whose principal activity was to provide its members with group workers' compensation insurance that was underwritten by a private insurance company (thereby relieving its members of the burden of having to obtain insurance on an individual basis, resulting in a convenience in the conduct of their businesses);¹⁸⁰ an organization appointing travel agents to sell passage on members' ships;¹⁸¹ a telephone answering service for tow truck operators, on the ground that it provided its members with economy and convenience in the conduct of their individual businesses;¹⁸² an organization making interest-free loans to member credit unions;¹⁸³ an organization publishing and distributing a directory of an organization's members to businesses likely to require the members' services;¹⁸⁴ an organization administering a welfare benefit plan pursuant to a collective bargaining agreement;¹⁸⁵ an organization matching the needs of nonprofit and governmental entities with services provided by its members;¹⁸⁶ an “angel investment network” providing services to members in promotion of their sound investment decisions;¹⁸⁷ an organization of beverage industry members that essentially provides them services in negotiating with suppliers;¹⁸⁸ an organization the membership of which is confined to franchisees affiliated with a business;¹⁸⁹ an organization operating a farmers' market;¹⁹⁰ and an organization serving its members as a bargaining and disbursing agent with respect to vendors, suppliers, and service providers.¹⁹¹

An independent practice association that provided health services through written agreements with health maintenance organizations was ruled to not qualify as an exempt business league. The IRS concluded that the principal functions of the association were to provide an available pool of physicians who would abide by its fee schedule when rendering medical services to the subscribers of an HMO and to provide its members with access to a large group of patients who generally may not be referred to nonmember physicians.¹⁹²

A network of physicians entered into contracts with self-insured employers for the provision of health care benefits, with the major goal of minimizing administrative costs. The IRS ruled that this organization engaged in activities that provide a “convenience through an economy of scale” and relieved its member-physicians of “having to conduct certain aspects of their businesses on their own.”¹⁹³ By contrast, a certification function was held to benefit an industry in its entirety and not merely provide particular services to its members.¹⁹⁴ The IRS held that a lawyer referral service was a tax-exempt business league, since (because of the manner in which it was operated) it was more than a mere business referral service and served to improve the image and functioning of the legal profession in general.¹⁹⁵

The IRS denied tax exemption as a business league in the case of two types of associations of insurance companies because they were performing particular services for their members.¹⁹⁶ In one of these instances, an association of insurance companies in a state that provided medical malpractice insurance to health care providers where the insurance was not available from for-profit insurers in the state was held to be performing particular services for its member companies and policyholders because its “method of operation involves it in its member companies' insurance business, and since the organization's insurance activities serve as an economy or convenience in providing necessary protection to its policy-holders engaged in providing health care.”¹⁹⁷ This rationale was applied to the activities of an association of insurance companies that accepted for reinsurance high-risk customers who would ordinarily be declined for coverage by its member companies.¹⁹⁸ An association of insurance companies that assigns applications for insurance to member companies that perform the actual insurance functions can, however, qualify as an exempt business league inasmuch as it does not assume the risk on the policies.¹⁹⁹

Under limited circumstances, a business league can operate a “warranty or guarantee” program, which is a program designed to assure purchasers of a product that it meets acceptable standards and to provide insurance and arbitration services, and be tax-exempt on the ground that it is providing services for the common benefit of its membership. The IRS favors an enforced policy of a business league of obtaining reimbursement from the members responsible for defects.²⁰⁰ The IRS is likely to conclude, however, that unwarranted private benefits are being conferred to an organization's members in this setting where only a small portion of the eligible sellers participate in the program.²⁰¹

In the case referenced earlier concerning the Bluetooth technology,²⁰² the district court found that the association was providing particular services for individual persons, thereby not qualifying as an exempt business league on that basis. The court wrote: “It is undisputed that use of the Bluetooth trademark is absolutely limited to members who pay the appropriate listing fee.”²⁰³ Also: “[S]omething of value is offered to all comers on the condition that they pay for it, and the benefits are in proportion to the contribution,” and “[f]rom the standpoint of manufacturers, Bluetooth quite simply benefits those who use it, which is why it is for sale.”²⁰⁴

The IRS, from time to time, issues private letter rulings holding that an organization cannot qualify as a tax-exempt business league on the ground that it provides particular services to some or all of its members.²⁰⁵

(iii) Particular Services outside Membership.    In most instances, the individual persons in this context are, or are among, the entity's membership. Occasionally, however, the particular services are provided not only to an organization's members, but also to others. For example, in an instance of a physicians' network that was denied exempt status as a business league, particular services were provided, not only to the member physicians, but also to employers and an insurance company.²⁰⁶

In some instances, the particular services are provided only to nonmembers. For example, the IRS concluded that the sale of discount certificates by an exempt business league that promotes interest in a particular sport, to enable individuals to play the sport at participating sports facilities, was providing a particular service for individual persons, even though the facilities are not members.²⁰⁷ As another illustration, the IRS denied recognition of exemption as a business league, in part because the organization was providing particular services to clients of a for-profit company that is wholly owned by the organization's founder.²⁰⁸ Likewise, an organization of individuals servicing automobiles built by a particular manufacturer failed to qualify as an exempt business league because its activities were directed to the performance of services for the manufacturer.²⁰⁹

(iv) Unrelated Business Activities.    Despite express prohibition as stated in the regulations, a tax-exempt business league will lose its exemption (or an organization will fail to gain exemption in the first instance) because it performs particular services for individual members only where the services are a principal or sole undertaking of the organization.²¹⁰ Where these services are less than a primary function of an exempt business league, the IRS will characterize them as a business of a kind ordinarily carried on for profit and treat the business as an unrelated activity.²¹¹

For example, the IRS concluded that an executive referral service conducted by an exempt association constituted the performance of particular services for individual persons but, because other activities were the organization's primary ones, the agency ruled that the service was an unrelated business.²¹² Similarly, a compensation consulting service, while amounting to the performance of a particular service, did not jeopardize an association's exemption because it was not a primary activity of the organization.²¹³ Likewise, as noted, an exempt association that promotes a sport was ruled to have unrelated business income from the sale of discount certificates, which enable members of the public to play the sport at various facilities, on the ground that the marketing and sales activities constitute the performance of particular services primarily for the benefit of the participating facilities; the association's tax exemption was not disturbed.²¹⁴