Navigation


Appropriate Use of Supporting Organizations


In many cases, it is not good stewardship for a non-profit organization to hold all of its assets within a single legal entity. A "supporting organization" is a public charity into which assets may be contributed for the dedicated use of one or more other charitable organizations. Contributions to public charities receive more favorable treatment under the income tax charitable contribution deduction rules than do gifts to private foundations. In addition, public charities are generally not subject to the intense reporting requirements and excise taxes applicable to private foundations.

There are three types of supporting organizations. The distinction among the types is the nature of the relationship between the organizations and the degree of control exercised by the "supported" organization as indicated below:

  • Type I - those that are "operated, supervised, or controlled by" the supported organization. This classification anticipates a parent-subsidiary relationship between the "supported" and the "supporting" organization.
  • Type II - those that are "supervised or controlled in connection with" the supported organization. This classification anticipates a brother-sister relationship between the "supported" and the "supporting" organization.
  • Type III - those that are "operated in connection with" the supported organization.

All three types of supporting organizations must be both organized and operated exclusively "for the benefit of, to perform the functions of, or to carry out the purposes of" one or more specified publicly supported organizations. In addition, a supporting organization may not be controlled directly or indirectly by disqualified persons other than foundation managers or the supported organization. The requirements and limitations for Type I and II organizations are well defined in the Internal Revenue Code and the Income Tax Regulations. The Pension Protection Act of 2006 (PPA), however, amended the requirements a Type III supporting organization must meet in order to avoid classification as a private foundation.

The Regulations currently require an organization to meet a "responsiveness test" and an "integral part test" to satisfy the relationship requirements for a Type III supporting organization. The PPA modified both of these tests. The Act amended the Internal Revenue Code to define a "functionally integrated" Type III supporting organization as one not required to make payments to supported organizations due to the activities of the supporting organization related to performing the functions of, or carrying out the purposes of, the supported organizations. Functionally integrated supporting organizations share strong similarities with "private operating foundations" in that both are expected to be directly engaged in the active conduct of charitable activities rather than only making grants to, or for the use of, charitable organizations. The Internal Revenue Service is expected to issue regulations requiring functionally integrated supporting organizations to meet an "expenditure test" that will reassemble the "qualifying distributions test" for currently required for private operating foundations, and an "assets test" that will reassemble the "alternative assets test" currently required for private operating foundations.

Non-functionally integrated supporting organizations are now required to make distributions of a percentage of either income or assets to supported organizations. The Internal Revenue Service is expected to issue regulations requiring non-functionally integrated supporting organizations to meet a payout requirement equal to the qualified distribution requirements currently required by private, non-operating, foundations. In addition, there will be a limit on the number of publicly supported organizations a non-functionally integrated supporting organization may support.

The proposed regulations will provide rules for the forum, content, and timing of the information supporting organizations or required to provide to their supported organizations. The proposed regulations will also clarify that an organization that would otherwise be classified as a Type III supporting organization, but either does not establish that it is functionally integrated or does not satisfy the payout requirement for non-functionally integrated organizations will be classified as a private foundation.

We are familiar with the intricate rules required to establish and maintain supporting organizations, and which type to use, when such an entity best fulfills the charitable missions of our clients. Ronnie has obtained a favorable determination of tax-exempt status for numerous supporting organizations. He also continues to monitor developments in the Service's position on the use of Type III organizations. We will gladly advise your organization if a supporting organization is appropriate for your needs and assist in establishing one that meets the strict requirements of the law.


©2008 Ronnie C. McClure, PhD, CPA