Private Foundations — Section 4940 and Section 4944, written by Donald McGee Etheridge, Jr., Esq., of Womble Carlyle Sandridge & Rice, PLLC, and James K. Hasson, Jr., Esq., and Carol Anne Fowler, Esq., both of Sutherland,  discusses in detail the excise taxes imposed under §4940 upon the investment income of private foundations and under §4944 upon private foundation investments which jeopardize the organization's charitable purpose.

Section 4940 imposes a 2% excise tax on the net investment income of every nonoperating foundation exempt from taxation under §501(a). A private foundation's net investment income is defined by the statute as its gross investment income less the ordinary and necessary expenses paid or incurred for the production or collection of such income or for the management, conservation, or maintenance of property held for the production of such income. Private foundations which meet certain distribution requirements are subject to a reduced excise tax rate of 1%.

Section 4944 exacts an excise tax on any private foundation and its managers that make an investment which jeopardizes the carrying out of the foundation's exempt purposes. An initial excise tax of 10%  of the amount of the investment is imposed on the foundation, with an equal tax imposed on any foundation manager who knowingly makes such an investment. If the foundation fails to remove the investment from jeopardy within a specified time, it is liable for an additional tax of 25% of the amount of the investment. A foundation manager who refuses to remove the investment from jeopardy is liable for an additional 5% tax. There is a general exception for program–related investments.

This Portfolio

• Includes coverage of §4944 and discusses what a jeopardy investment is, reviews scope of prohibition, insubstantial speculative investments, gifts of speculative property, investments made prior to January 1, 1970, program–related investments and their primary purpose
• Reviews the penalties for violation of §4944 and includes analysis of the first and second–tier taxes as well as their abatement, the rate of taxation, the taxable period and the tax liability of foundation managers.
• Provides a historical background and examination of §4944, including  the 1965 Treasury Department report and subsequent amendments of §4944
• Examines incidence of taxation as it relates to tax-exempt foundations, taxable foundations and exempt operating foundations
• Defines net investment income and covers gross investment income, capital gains and losses and their deductions and modifications and more!

Private Foundations — Section 4940 and Section 4944 allows you to benefit from:

• Hundreds of hours of original research on specific tax planning topics from leading practitioners in this area
• Invaluable practice documents including tables, charts and lists
• Plain-English guidance from world-class experts
• Real-world and in-depth analysis that lets you explore various options
• Time-saving access to relevant sections of tax laws, regulations, court cases, IRS documents and more
• Alternative approaches to both common and unique tax scenarios

This Portfolio is part of the Estates, Gifts and Trusts Portfolios Library, a comprehensive series containing more than 80 Portfolios, which covers critical transactions in estate, gifts and trusts planning. This highly-regarded resource library offers commentary on a wide range of estate planning topics including: Generation Skipping Tax, Family Limited Partnerships, Charitable Remainder Trusts, Estate Planning for Closely-Held Businesses, Exempt Organizations and Private Foundations, Life Insurance, Valuation, and more.

Detailed Analysis

I. Section 4940

A. Historical Background

1. House Committee on Ways and Means

2. Senate Committee on Finance

3. House–Senate Conference - A Compromise

4. Subsequent Congressional Action

B. Incidence of Taxation

1. Tax–Exempt Foundations

2. Taxable Foundations

3. Exempt Operating Foundations

C. Definition of Net Investment Income

1. Gross Investment Income

2. Capital Gains and Losses

3. Deductions and Modifications

II. Section 4944

A. Historical Background

1. 1965 Treasury Department Report

2. House Committee on Ways and Means

3. Senate Committee on Finance

4. Subsequent Amendment of Section 4944

B. The Coverage of Section 4944 - What Is a Jeopardy Investment?

1. Scope of Prohibition

2. Insubstantial Speculative Investments

3. Gifts of Speculative Property

4. Investments Made Prior to January 1, 1970

5. Program–Related Investments

a. Primary Purpose

b. No Significant Purpose

c. Prohibited Political or Legislative Purposes

d. Changes in Investment

C. The Penalties for Violation of Section 4944

1. First–Tier Tax

a. Rate of Taxation

b. Taxable Period

c. Tax Liability of Foundation Managers

(1) Knowledge

(2) Participation

(3) Willfulness

(4) Reasonable Cause

(5) Advice of Counsel

(a) Legal Counsel

(b) Qualified Investment Counsel

(c) Lack of Advice

(6) Joint and Several Liability

(7) Burden of Proof

d. Abatement of First–Tier Taxes

2. Second–Tier Tax

a. Rate of Taxation

b. Prior Law and Amendment

c. Abatement of Second–Tier Taxes

d. Tax Liability of Foundation Managers

Working Papers

Table of Worksheets

Worksheet 1 H.R. Rep. No. 91-413 (Part 1), 91st Cong., 2d Sess. 19-20, 31 (House Report on 1969 Enactment of Sections 4940 and 4944)

Worksheet 2 S. Rep. No. 91–552, 91st Cong., 2d Sess. 27-28, 45-46 (Senate Report on 1969 Enactment of Sections 4940 and 4944)

Worksheet 3 H.R. Rep. No. 98–432 (Part 2), 98th Cong., 2d Sess. 1465-1468 (House Report on 1984 Amendments to Section 4940)

Worksheet 4 Form 990–PF, Return of Private Foundation, with Instructions

Worksheet 5 Form 4720, Return of Certain Excise Taxes on Charities and Other Persons Under Chapters 41 and 42 of the Internal Revenue Code, with Instructions

Worksheet 6 IRS Publication 578, Tax Information for Private Foundations and Foundation Managers, Chapter IV, “Tax on Net Investment Income”

Worksheet 7 IRS Publication 578, Tax Information for Private Foundations and Foundation Managers, Chapter IX, “Taxes on Jeopardizing Investments”

Worksheet 8 Internal Revenue Manual, Private Foundations Handbook Chapter 12, “Tax on Net Investment Income of Private Foundations”

Worksheet 9 Internal Revenue Manual, Private Foundations Handbook Chapter 16, “Taxes on Investments Which Jeopardize Charitable Purposes”

Bibliography

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Statutes:

Regulations:

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Treasury Rulings:

Cases:

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