CHAPTER THIRTY-TWO
Tax-Exempt Organizations: Other Operations and Restructuring
- § 32.1 Mergers
- § 32.2 Reorganizations
- § 32.3 Multiple-Member Limited Liability Companies
- § 32.4 Single-Member Limited Liability Companies
- § 32.5 Choice of Entity Considerations
- § 32.6 Conversion from Exempt to Nonexempt Status
- § 32.7 Conversion from Nonexempt to Exempt Status
- § 32.8 Conversion from One Exempt Status to Another
The establishment of tax-exempt organizations, and interrelationships between exempt and other organizations, entails a variety of organizational and operational considerations.
§ 32.1 MERGERS
Notwithstanding the variety of in-tandem arrangements involving tax-exempt organizations, occasionally two or more of these organizations are merged. Likewise, on occasion, two or more unrelated exempt organizations merge. With one exception, there is not any statutory law on the point.1
When a merger of this nature occurs, often the organizations involved have the same tax-exempt status. Usually the two organizations in this type of a merger are public charitable organizations.2 The rationale for these mergers varies. In one instance, the merger served to change the state of incorporation.3 In another, the merger was intended to reduce the administrative burdens of operating two or more organizations.4 In still another, the merger was undertaken to eliminate what had become a superfluous organization.5 In one instance, a supporting organization for a boys' school and a supporting organization for a girls' school merged to form one supporting organization following a merger of the two schools.6 As another illustration, an organization operating independent living housing for the elderly merged into a publicly supported organization, followed by a consolidation with a home for the elderly, all for the purpose of promoting efficient management, facilitating long-term planning, and enhancing philanthropy for the neediest elderly.7
Likewise, efficiencies were achieved when five business leagues8 were consolidated into one.9 Similarly, two exempt health care providers merged, with the objective of enhancing efficiency in the delivery of health care services and reducing fundraising costs.10 In addition, three cancer treatment and cancer research facilities merged so as to improve the provision of cancer treatment to patients, improve the efficacy of medical research, and achieve operational economies of scale.11 Also, three chambers of commerce merged.12 In another instance, three public charities with similar programs merged so as to provide services in a more efficient and comprehensive manner; two of the organizations are reflected in operating divisions of the surviving entity and in two advisory boards.13 In another instance, two public charities (one the sole member of the other) merged, to simplify their governance structure and reduce administrative expenses.14
Occasionally both of the merging organizations will be tax-exempt organizations, but under differing categories. For example, a lobbying organization15 related to a public charitable organization may merge into the public charity, or a foundation related to a trade or professional organization16 may merge into the association.17 In examples of this type of merger, a single-parent title-holding corporation18 merged into a publicly supported charity19 and two multiple-parent title-holding companies20 merged.21
These mergers usually do not adversely affect the tax-exempt status or the public charity status of the surviving organization, or cause any unrelated business income.22
An infrequent occurrence will be a merger of a for-profit organization into a tax-exempt organization. This can be done without endangering the exempt status of the surviving organization, and generally without causing unrelated business income for the exempt organization.23 In one instance, a taxable corporation was merged into an exempt social welfare organization.24 The activities of the corporation were consistent with the exempt organization's purposes.25 The exempt organization issued “special notes” to the shareholders of the for-profit corporation in exchange for their stock. Again, the rationale for the merger was that the combination would reduce duplicative operations and expenses. In another case, the IRS approved a merger of a tax-exempt hospital and a for-profit medical practice clinic; this integration of operations was undertaken to enhance the quality of services provided and eliminate duplication of services.26
In still another instance, the IRS approved a consolidation of industry regulatory functions between two affiliated business leagues27 and a nonprofit (nonexempt) corporate subsidiary of a publicly traded company; the effect of the transaction was said by the agency to produce benefits for the industry and the public that relies on these business leagues to ensure fairness in the industry.28
§ 32.2 REORGANIZATIONS
Occasionally a tax-exempt organization will reorganize its operations by adding entities (exempt and/or nonexempt) to its overall operational structure. The reasons for this are manifold, such as greater efficiency of operations, expansion of operations, separation of assets to limit liability, the need for utilization of different categories of exempt entities, enhancement of financial return, and/or tax law considerations. Supporting organizations29 can be prevalent in this regard.
For example, a public charity decided to dissolve into a new public charity to enhance operations; an exempt business league30 and an exempt union31 were also established.32 Also, a U.S.-based public charity, with affiliated organizations under a group exemption, expanded its operations internationally by creating another public charity, with its set of worldwide program affiliates.33 Likewise, an exempt organization transferred a variety of its activities to for-profit subsidiaries, to enable the organization to increase the value of its subsidiaries, attract investment capital, and attract and retain employees by means of an equity-based compensation system.34 Further, the IRS approved the use of a blocker corporation by a charitable remainder trust to enable it to convert otherwise taxable income into nontaxable dividends.35 Of course, some of these reasons for reorganizing are not inherently in furtherance of exempt purposes; thus, an organization failed to qualify as an exempt social welfare organization because the IRS concluded that its sole function was to protect against other exempt organizations' liability and not to engage in the promotion of social welfare for the benefit of a community.36
Restructuring is prevalent in the health care context, where hospital reorganizations are occurring for a variety of reasons, including facilitation of compliance with government reporting requirements, separation of assets to limit liability, enhancement of the ability to expand facilities, and development of a more flexible framework within which to conduct and expand management functions. Thus, many institutions perceived as hospitals today are actually an aggregation of organizations, including one or more entities that are formally qualified as tax-exempt hospitals,37 one or more other types of charitable entities (including, perhaps, a related foundation used for development purposes38), and one or more for-profit entities. These entities are coordinated as a multientity health care system, which itself is an exempt charitable entity, and are managed by a parent organization that is also a charitable entity. The hospital entity (or entities) remains in being but with its oversight functions transferred to the parent and the services it performs for other organizations in the system transferred to an organization that provides centralized management and other support services for the system. The management entity, controlled by the parent, provides a variety of services, such as investment management, shared service arrangements, and the provision of data processing services. The management entity of a hospital system (or similar collection of institutions) can qualify as a supporting organization, with the nexus to the other organizations in the system based on any of the relationships available to supporting organizations.39 Other reorganizations of exempt hospitals and similar entities are occurring without the use of a supporting organization.40
§ 32.3 MULTIPLE-MEMBER LIMITED LIABILITY COMPANIES
In the tax-exempt organizations setting, there are two models for the multiple-member LLC (MMLLC): The MMLLC has a mix of exempt and nonexempt members, or all of the members of the MMLLC are exempt entities. With either approach, an MMLLC can be engaged in exempt activities. Thus, exempt organizations can utilize an LLC for the performance of exempt functions; these functions are in a separate entity (thereby affording the protection of limited liability), that entity is not subject to federal income tax, and income that flows from the LLC to the exempt member organizations is not taxable, by reason of the partnership look-through rule.41
Illustrations of the first of these approaches are the whole entity and ancillary joint ventures.42 For example, an exempt health care system and a group of physicians formed an LLC for the purpose of owning and operating an ambulatory surgery center.43 In another example, an exempt hospital owned and operated six cardiac catheterization laboratories, with these facilities in the hospital's building; the hospital developed a seventh cardiac catheterization laboratory as an outpatient facility by means of an LLC consisting of a supporting organization44 and physicians having staff privileges at the institution.45
Illustrations of the second of these models include these: (1) Tax-exempt health care organizations in the United States utilized an LLC to partner with public hospitals in another country to establish and operate a charitable hospital in that country;46 (2) an exempt institution of higher education operating two neonatal intensive care units and an exempt hospital operating one of these units established an LLC to administer the hospital's facility and a new neonatal intensive care unit;47 (3) an exempt organization providing support services to a health care provider and an exempt long-term health care facility formed and operated an LLC to provide rehabilitation services in a community;48 (4) two public charities operating a medical center formed an LLC to operate an outpatient ambulatory surgery center;49 (5) a single qualified tuition plan50 was established for use by private colleges and universities throughout the United States as members of an LLC;51 and (6) public charities used an LLC to acquire land and develop a center of technology, research, and entrepreneurial expertise.52
As an example of a “quasi-merger,” three associations53 having comparable (but not identical) exempt purposes and members with congruent interests conducted separate trade shows annually for years.54 To reduce the administrative costs of the shows, and in the face of complaints from members of the industry about attendance at three trade shows each year but the unwillingness of these associations to merge, the associations transferred the trade show functions to an LLC, which then conducted a single (blended) annual trade show.55
§ 32.4 SINGLE-MEMBER LIMITED LIABILITY COMPANIES
The single-member LLC (SMLLC), where the member is a tax-exempt organization, can be a form of exempt subsidiary organization, in that the LLC is a separate legal entity, it is exempt from federal income taxes, it is wholly owned by the exempt member, and it can perform exempt functions.
Generally, SMLLCs are disregarded for federal income tax purposes. A disregarded LLC is considered a branch or a division of its member owner.56 Thus, although an SMLLC is a separate legal entity for most purposes, it is treated as a component of its owner for federal income tax purposes, and in that sense is not literally a subsidiary of the member. In one instance, the IRS wrote that, when the sole member of an LLC is a tax-exempt organization, the function of the LLC is treated as an “activity” of the exempt organization.57
The exempt owner of an SMLLC treats the operations and finances of the LLC as its own for purposes of the annual information return filing requirements.58 The interplay of the law of exempt organizations and the rules as to SMLLCs also are being manifested in other contexts.59
Usually the SMLLC is deliberately created with the tax law feature of being disregarded. It is possible, however, for an MMLLC60 to be treated for federal tax law purposes as an SMLLC. For example, the IRS ruled that an LLC with two members was nonetheless a disregarded entity, because one of the members did not have an economic interest in the LLC and thus failed to qualify as a member of the LLC for tax law purposes.61
Tax-exempt organizations are making creative use of disregarded SMLLCs, as the following illustrates: (1) a public charity established a SMLLC to address the needs for affordable parking in a city, with the IRS ruling that the charity, by means of the LLC, was lessening the burdens of government;62 (2) a charitable organization utilized SMLLCs to hold contributed properties having potential legal liability, thereby protecting both the donee and the other properties;63 (3) an exempt museum used a SMLLC to own and operate a racetrack and a campground;64 (4) a public charity operating a student housing program for the benefit of an exempt college undertook its projects by means of a SMLLC;65 (5) a public charity established an SMLLC to finance small businesses for the benefit of low-income populations to enable it to issue equity interests to investors;66 (6) a private foundation created an SMLLC for the purpose of funding and managing a school of an exempt college;67 (7) a charitable hospital used an SMLLC to participate in a joint venture operated in furtherance of the hospital's health care purposes;68 (8) an exempt association, concerned about legal liability, operated its trade shows in an SMLLC;69 (9) a public charity conducted an activity, previously undertaken in a wholly owned for-profit subsidiary, in an SMLLC;70 (10) an exempt labor union operated a pharmacy program for the benefit of its members by means of an SMLLC;71 (11) a supporting organization affiliated with a university used an SMLLC to acquire and hold debt-financed rental real property, with the supporting organization obtaining a special tax exemption from the unrelated debt-financed income rules;72 and (12) an exempt health care system used an SMLLC to extend to employees of a business housed in the LLC the benefits of an employee benefit plan.73
§ 32.5 CHOICE OF ENTITY CONSIDERATIONS
Tax-exempt organizations have a variety of entity forms from which to select, whether they be the form of entity for the organization itself,74 a form of entity for a related organization,75 or a form of entity in which it participates as a stockholder or member.76 From a tax law perspective, the two principal issues to consider are the impact on exempt status and the potential for generation of unrelated business income.77
A key pivotal point is whether the federal tax law treats the organization as a separate legal entity for tax purposes (such as a corporation or trust) or as a flow-through entity (such as a partnership or limited liability company). This is a consideration particularly when the exempt organization is a member of a flow-through entity. If the flow-through entity is engaged in one or more nonexempt functions, the share of the revenue paid or attributed to the exempt organization will be unrelated business income.78 Likewise, if the flow-through entity is engaged in one or more exempt functions, the exempt organization's share of the revenue will be exempt function income. Tax-exempt status may be imperiled if the flow-through entity is engaged in one or more nonexempt functions and the operations of the entity are deemed to be a substantial portion of the exempt organization's activities.79
§ 32.6 CONVERSION FROM EXEMPT TO NONEXEMPT STATUS
As has been discussed throughout, organizations can be nonprofit, tax-exempt entities or for-profit entities. On occasion, an entity of one type is desirous of converting to an entity of the other type. While both can be accomplished, the federal and state law on the point is scant.80
The state law on the subject concerns form and procedure. Most states have separate nonprofit corporation acts and business (for-profit) corporation acts; mergers from one to the other are not always permissible. Thus, a change in form is often required, entailing liquidations and reformations. The federal tax law on the subject focuses primarily on the need for new determinations as to tax status and disclosure of certain facts as part of any new application for recognition of exempt status.81
A tax-exempt organization may decide to shed that status and convert to a for-profit entity. (There is no prohibition in law as to doing that.) For example, a public charity may determine that the rules for maintaining exempt status as a charitable entity are too onerous, or those involved in its operations may wish to partake of its profits; operation as a for-profit entity may thus be more attractive.
(a) State Law
Nearly every tax-exempt organization is a creature of the law of a state or the District of Columbia. (In a rare instance, an exempt organization is established by a specific state statute or, even less frequently, is created by federal law.) These organizations almost always are shaped as one of three types of entity: nonprofit corporation, unincorporated association, or trust.82
Of these three categories, the unincorporated association is the least likely option for a nonprofit entity. The articles of organization of this type of organization are termed a constitution. It will undoubtedly have bylaws and otherwise function much in the nature of a corporation.
Some organizations are formed as trusts. The articles of organization of this type of entity are a declaration of trust or a trust agreement. Trusts, particularly charitable ones, are uniquely treated under state law; this treatment will vary from state to state.
The form most commonly used today that a tax-exempt entity can assume is that of the nonprofit corporation. (The balance of this chapter is predicated on the assumption that the nonprofit and for-profit entities involved are corporations.) The corporate form is advantageous because the law as to its formation and operation is usually quite clear, and because it can provide a shield against personal liability for those individuals who are its directors and officers.83
As noted, nearly every state has a nonprofit corporation act and a for-profit corporation act. These are separate statutes; the extent of any interplay between them is a matter of state law, which can vary from state to state. For example, it may not be possible for a nonprofit corporation in a particular state to amend its articles of incorporation so as to become a for-profit corporation under the law of that state. This is because of the fundamental difference between the two types of corporations.84
Likewise, the issue of whether a nonprofit corporation can merge into a for-profit corporation, particularly where the survivor of the merger is the for-profit entity, can be problematic. In any event, the transformation of a tax-exempt charitable organization can easily attract the attention of a state's attorney general.
Suppose a tax-exempt charitable entity, organized as a nonprofit corporation, is desirous of becoming a for-profit organization, organized as a for-profit corporation. Theoretically, the easiest way to accomplish this is to amend the corporate documents and convert to the for-profit form. As noted, however, state law may not allow for this transformation, and it raises great problems under the federal tax law.85
Another approach would be to create a for-profit corporation and then merge the nonprofit corporation into it. Again, state law may preclude the merger of a nonprofit and a for-profit organization.
A third approach would be to create the for-profit corporation, liquidate the nonprofit corporation, and transfer the remaining assets and income of the nonprofit corporation to the for-profit corporation. As discussed next, however, this type of transfer must, for federal tax reasons, entail a sale or exchange of the assets for fair market value.
(b) Federal Tax Law
Generally, tax-exempt organizations cannot blithely abandon their exempt status and continue operations as a taxable nonprofit entity.86 Organizations, primarily charitable ones, with a dissolution clause requirement,87 for example, are required to preserve their assets and income streams for exempt purposes. Absent such a requirement, the IRS may find private inurement or like exempt organizations law violation if assets are transferred for nonexempt purposes.88
Dissolution restrictions aside, generally, for a nonprofit organization to shed its tax exemption, one approach would entail violation of the applicable organizational and/or operational test.89 For example, a public charity could voluntarily lose its exempt status by repealing its dissolution clause, or authorizing or engaging in substantial nonexempt activities, excessive legislative activities, or political campaign activities.90 Another approach would be to refrain from filing annual information returns for three consecutive years.91 (Law violations such as these, however, may trigger undesirable federal and/or state law enforcement reactions and/or harmful publicity.)
A tax-exempt organization may sell or lease its assets to an existing or successor entity (with receipt of fair value required), but this approach leaves the organization in existence (albeit without funds). This may cause the entity to lose its exemption due to inactivity.92
§ 32.7 CONVERSION FROM NONEXEMPT TO EXEMPT STATUS
A for-profit organization may decide to convert to a tax-exempt organization. (Like the reverse, there is no prohibition in law as to doing so.)
(a) State Law
Nearly every for-profit organization is subject to the law of a state or the District of Columbia. These organizations are usually organized as corporations. (Again, the balance of this chapter is predicated on the assumption that the nonprofit and for-profit entities involved are corporations.)
Nearly every state has a nonprofit corporation act and a for-profit corporation act. These are separate statutes; the extent of any interplay between them is a matter of state law, which can vary from state to state. For example, it may not be possible for a for-profit corporation in a particular state to amend its articles of incorporation so as to become a nonprofit corporation under the law of that state. Likewise, it can be problematic as to whether a for-profit corporation can merge into a nonprofit corporation.93
Suppose a hospital, organized as a for-profit corporation, is desirous of becoming a tax-exempt organization, organized as a charitable entity. As is the case when the conversion is to be the reverse, theoretically, the easiest way to accomplish this is to amend the corporate documents and convert to the nonprofit form. As noted, however, state law may not allow for this type of transformation.
Another approach would be to create a nonprofit corporation and then merge the for-profit corporation into it. Again, state law may preclude the merger of a nonprofit and a for-profit organization.
A third approach would be to create the nonprofit corporation, transfer the assets and income of the for-profit corporation to the nonprofit corporation, and dissolve the for-profit corporation. Presumably, there would not be a state law prohibition as to this type of transaction.
(b) Federal Tax Law
The federal tax law does not prohibit a for-profit organization or an otherwise nonexempt entity from “converting” to a tax-exempt organization. Yet, current IRS ruling policy is quite hostile to these types of conversions, to the point of essentially preventing them. For example, the IRS ruled that it was a violation of the private benefit doctrine94 for a nonprofit organization to continue the operations of a for-profit business, that it was a violation of the private inurement doctrine95 for the successor entity to solicit contributions and grants, and that it was a violation of the commerciality doctrine96 for the successor entity to market its services and charge fees.97
As a matter of law, an organization that qualifies for tax-exempt status does so even if it is a successor to a nonexempt organization. It is common, for example, for a for-profit hospital to convert to a nonprofit exempt one;98 likewise, a for-profit school may convert to an exempt one.99 When this is done by sale of assets by the nonexempt entity to an exempt successor, a key issue is likely to be the fairness of the price paid for the assets.100
Despite its ruling policy, the IRS, in the application for recognition of tax-exempt status as a charitable organization, established an inventory of the items of information it must have concerning the predecessor and successor organizations in order to issue a favorable ruling or determination letter to the nonprofit organization.101 (This body of information is in addition to the information requested of all nonprofit organization applicants.) The form presupposes that the applicant nonprofit organization is an entity separate from the predecessor for-profit organization,102 thus reflecting the presumption that a for-profit organization cannot be transformed into a nonprofit organization.
The specific items of information a successor nonprofit organization must provide the IRS as part of the exemption recognition process are: (1) the name of the predecessor organization; (2) the nature of the activities of the predecessor organization; (3) the names and addresses of the owners or principal stockholders of the predecessor organization; (4) their share or interest in the predecessor organization; (5) the business or family relationship between the owners or principal stockholders and principal employees of the predecessor organization and the officers, directors, and principal employees of the applicant nonprofit organization; (6) whether any property or equipment formerly used by the predecessor organization has been or will be rented to the successor organization (if so, copies of leases and like contracts must be attached); (7) whether the successor organization is or will be leasing or otherwise making available any space or equipment to the owners, principal stockholders, or principal employees of the predecessor organization (if so, a list of the tenants must be included, along with a copy of each lease); and (8) whether any new operating policies were initiated as a result of the transfer of assets from the for-profit organization to the nonprofit organization. Additionally, the applicant nonprofit organization must attach (1) a copy of the agreement of sale or other contract that sets forth the terms and conditions of the sale of the predecessor organization or of its assets to the nonprofit organization and (2) an appraisal by an independent qualified expert showing the fair market value at the time of sale of the facilities or property interest sold.
Likewise, if a for-profit organization is endeavoring to convert to a nonprofit organization and be a tax-exempt social welfare organization103 or a business league,104 and is requesting a determination from the IRS as to recognition of tax-exempt status, it must reveal as part of the exemption application the name of the predecessor organization, the period during which it was in existence, and the reasons for its termination, as well as submit copies of all documents by which any transfer of assets was effected.105
If a for-profit organization sells assets to a nonprofit organization, the seller would be liable for taxes on any gain, just as would be the case were any other purchaser involved. There are special rules in this regard in the case of liquidations.106
If assets and/or income are contributed to a tax-exempt charitable organization by a for-profit organization, a charitable contribution deduction would likely result. This deduction may be limited by one or more factors, such as the percentage limitation on annual corporate charitable deductions107 and the restrictions on the deductibility of gifts of inventory by businesses.108
(c) Gain or Loss Recognition
A conversion of a for-profit corporation into a tax-exempt one can cause recognition of gain or loss by the converting corporation. This type of transaction is treated essentially the same as a liquidation of the corporation when the assets transferred are all or substantially all of the assets of the corporation. That is, the corporation must recognize gain or loss as if the assets transferred had been sold at their fair market values.109
In general, a taxable corporation's change in status (conversion) to a tax-exempt organization is treated as if it had transferred all of its assets to the exempt organization immediately before the change in status became effective.110 This rule does not apply, however, to (1) a corporation previously exempt111 that regains its exempt status within three years from the later of a final adverse adjudication on the corporation's exempt status or the filing of a federal income tax return; (2) a corporation previously exempt or that applied for but did not receive recognition of exemption112 before January 15, 1997, if the corporation is exempt within three years from January 28, 1999;113 (3) a newly formed corporation that is exempt (other than as a social club114) within three tax years from the end of the year in which it was formed; (4) a newly formed corporation that is exempt as a social club within seven years from the end of the tax year in which it was formed; (5) a corporation previously exempt as a mutual or cooperative organization115 that lost its exemption solely because it failed the 85-percent-member-income requirement and then regained exempt status, as long as in each intervening year it met all of the requirements for this exemption except for the income requirement; and (6) a corporation previously taxable that becomes an exempt property or casualty insurance company,116 where it is the subject of a court-supervised rehabilitation, conservatorship, liquidation, or similar state proceeding affecting premium income.117
If, during the first tax year following the transfer of an asset or the corporation's change to tax-exempt status, the asset is used by the exempt organization partly or wholly in an unrelated activity, the taxable corporation must recognize a pro rata amount of gain or loss. The corporation may rely on a written representation from the exempt organization estimating the percentage of the asset's anticipated use in an unrelated activity for that year, using a reasonable method of allocation, unless the corporation has reason to believe that the exempt organization's representation is not made in good faith.118
If, for any tax year, the percentage of an asset's use in the unrelated activity later decreases from the estimate used in computing gain or loss when the asset was transferred, the tax-exempt organization must recognize the part of the deferred gain or loss in an amount that is proportionate to the decrease in use in the unrelated activity, and the gain or loss recognized must be subject to unrelated business income taxation.119
The tax-exempt organization must use the same reasonable method of allocation for determining the percentage of an asset's use in an unrelated activity as it uses for other tax purposes (such as determining the amount of depreciation deductions). Also, the exempt organization must use this reasonable method of allocation for each year that it holds the asset(s).120
Notwithstanding the foregoing, there can be continuing deferral of recognition of gain or loss to the extent that the tax-exempt organization disposes of assets in a transaction that qualifies for nonrecognition of gain or loss,121 but only to the extent that the replacement is used in an unrelated activity.122
If the transferor entity is a subchapter S corporation, the gains and losses recognized on the deemed sale of the items of property are not taxable to it. Rather, each shareholder of the S corporation must take into account his or her distributive share of the gains and losses to be recognized, and make the appropriate adjustments to the basis in the stock. If the transfer entails a bargain sale,123 resulting in a charitable contribution deduction, each shareholder likewise takes into account his or her distributive share of that deduction.124
For these purposes, a tax-exempt organization is (1) an entity that is exempt from tax other than as a homeowners' association or a political organization;125 (2) a charitable remainder trust;126 (3) a governmental entity;127 (4) an Indian tribal government or corporation;128 (5) an international organization; (6) an entity whose income is excluded from taxation by reason of being a political subdivision or the like;129 and (7) an entity that is not taxable “for reasons substantially similar” to those applicable to an entity in these previous categories, unless it is otherwise excluded from this law by statute or IRS action.130
§ 32.8 CONVERSION FROM ONE EXEMPT STATUS TO ANOTHER
A change in the federal tax law expanded declaratory judgment rights to nearly all categories of tax-exempt organizations.131 This expansion of declaratory judgment rights applied retroactively to final adverse determination letters issued on or after December 18, 2015. This law revision prompted the IRS to issue revised procedures as to modifications of exempt status.132
The IRS guidance is predicated on the fact that this law revision generally mandates that all revocations of exempt status are to be treated in the same manner. Pursuant to this approach, the IRS will revoke—or treat as a revocation for declaratory judgment purposes—the status of any organization that “no longer qualifies” under the Internal Revenue Code provision for which tax exemption was recognized or self-declared. A revoked organization is able to apply or reapply for recognition of exemption under a different Code section. A conversion of an organization's exempt status is thus regarded as commencing with a deemed revocation.
This revised approach apparently does not contemplate situations where an exempt organization continues to qualify for the exemption classification it has but nonetheless wants to switch to another category of exemption.