Private Foundations — Distributions (Sec. 4942) (Portfolio 472)

Tax Management Portfolio, Private Foundations — Distributions (Section 4942), No. 472, discusses in detail the distribution requirements imposed upon private foundations by §4942. Section 4942, enacted by the Tax Reform Act of 1969 as part of a comprehensive effort to regulate private foundations, exacts an excise tax upon the failure of a private foundation to make “qualifying distributions” in the amounts required by the statute.

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Description

Tax Management Portfolio, Private Foundations — Distributions (Section 4942), No. 472, discusses in detail the distribution requirements imposed upon private foundations by §4942. Section 4942, enacted by the Tax Reform Act of 1969 as part of a comprehensive effort to regulate private foundations, exacts an excise tax upon the failure of a private foundation to make “qualifying distributions” in the amounts required by the statute.

Section 4942 requires a private foundation to spend a specified amount of its funds annually to accomplish charitable purposes directly or to make grants to other organizations that will use the funds for charitable purposes. Generally, the minimum distributable amount is 5% of the fair market value of the private foundation's assets not used in carrying out its exempt purposes, less any acquisition indebtedness. There are a number of restrictions on the types of expenditures that may be used to satisfy the minimum distribution requirement. Generally, a qualifying distribution may be made as a direct charitable expenditure or as a grant for charitable purposes. A program-related investment or a set aside of funds for a specific project to be conducted in the future may also be a qualifying distribution under certain circumstances.

Other Tax Management Portfolios dealing with private foundations include  456 T.M., Private Foundations and Public Charities — Definition and Classification468 T.M., Private Foundations — Section 4940 and Section 4944470 T.M., Private Foundations — Self-Dealing (Section 4941)473T.M., Private Foundations — Excess Business Holdings474 T.M., Private Foundations — Taxable Expenditures (Sec. 4945); and  458 T.M., Private Foundations and Public Charities — Termination and Special Rules (Sections 507 and 508).

This Portfolio may be cited as Wilson, 472 T.M., Private Foundations — Distributions (Section 4942).

Authors

Elaine Waterhouse Wilson, Esq.

Elaine Waterhouse Wilson, B.A. (magna cum laude)/J.D. (magna cum laude) Six-Year Joint Degree Program, Boston University (1993); Associate Professor of Law, West Virginia University College of Law; Chair of the Charitable Planning and Organizations Group of the American Bar Association's Real Property, Trust and Estate Section; Board of Directors, West Virginia Tax Institute; previously in private practice as a partner with Quarles & Brady (Chicago) and Barnes & Thornburg (Indianapolis) and as an associate with Sullivan & Cromwell (New York); scholarly and practice focus on nonprofit organizations and charitable planning; frequent writer and speaker on nonprofit tax and nontax issues. Her article, Better Late than Never: Incorporating LLCs into Section 4943, will appear in the Akron Law Review.

The author would like to acknowledge the invaluable assistance of her research assistants, Alan J. Wilson and Jeff Seldomridge. The author would also like to acknowledge the support of the Hodges Bloom Fund.

Table of Contents

Detailed Analysis
I. Introduction
A. Historical Background
1. Original Enactment
2. Subsequent Revisions
3. Applicability
B. Applicability of §4942
C. Summary of Statutory Scheme
II. Required Distributable Amount
A. General Rule
B. Minimum Investment Return
1. General Definition
2. Assets Included
3. Assets Excluded
a. Assets Used in Carrying Out Exempt Purposes
(1) Directly in Exempt Activities
(2) Future Use Property
(3) Dual Use Property
(4) Property Leased at Nominal Cost
(5) Cash Held for Charitable Purposes
(6) Functionally Related Businesses and Program-Related Investments
b. Nonpossessory Interests
(1) Future Interest
(2) Present Interest in a Trust
c. Other Assets
4. Acquisition Indebtedness
5. Valuation of Assets
a. General Rules
b. Securities
(1) General Rule
(2) Discounts from Market Price per Share of Listed Securities
(3) Unlisted Securities
c. Cash
d. Common Trust Funds
e. Real Estate and Other Assets
f. Assets Held for Less than One Year
III. Qualifying Distributions
A. General Rules
1. Qualifying Purposes
2. Contribution of the Use of Property
3. Contributions of Noncash Property
B. Grants to Public Charities
1. General Rule
2. Determination of and Reliance on Donee's Public Charity Status (Other than Supporting Organizations)
3. Large Grants Relative to a Donee's Normal Support — “Tipping”
4. Earmarked Grants
5. Conditional Grants
6. Grants to Donor Advised Funds
7. Grants to Supporting Organizations
a. General Rules
b. Determination of Organization Type
c. Determination of Disqualified Persons
C. Grants to Private Operating Foundations
D. Grants to Private Nonoperating Foundations and Controlled Charities
1. General Rules
2. Definition of Control
3. Flow-Through Exception for Redistributions
E. Grants to Foreign Organizations
1. After September 24, 2015
2. Prior to September 25, 2015
3. Other Provisions
F. Grants to Noncharitable Organizations
G. Grants to Individuals
H. Grants to Governmental Organizations
I. Grants of Borrowed Funds and Loans as Grants
J. Direct Charitable Expenditures
1. General Rule
2. Administrative Expenses
3. Direct Program Operations
4. Acquisition and Conversion of Assets
K. Functionally Related Businesses
L. Program-Related Investments
M. Economic Development Grants
N. Set-Asides
1. General Rule
2. Suitability Test for Set-Asides
3. Cash Distributions Test for Set-Asides
4. Contingent Set-Asides
O. Amount of Qualifying Distributions
P. Utilizing Excess Qualifying Distributions
IV. Calculation of Undistributed Income
A. Distributable Amount
1. General Calculation
2. Charitable Income Trusts
B. Credit for Qualifying Distributions
1. General Rule
2. Election for Prior Years
3. Carryovers
C. Undistributed Income
V. Tax on Failure to Distribute Income
A. Initial Tax
B. Additional Tax
C. Liability for the Excise Tax and the Termination Tax
D. Exceptions
1. Private Operating Foundations
2. Asset Valuation Mistakes
E. Abatement of Tax

Working Papers

Table of Worksheets
Worksheet 1 Legislative History [Excerpts] Tax Reform Act of 1969 (Pub. L. No. 91-172)
Worksheet 2 Selective History of §4942
Worksheet 3 Sample Grant Agreements
Worksheet 4 Sample Language for Lease Agreement at Nominal Cost to Be Treated as a Qualifying Distribution
Worksheet 5 Selected Pre-1996 Letter Rulings Relating to Private Foundation Distributions
Worksheet 6 Rev. Proc. 92-94, 1992-1 C.B. 507
Worksheet 7 Grants to Supporting Organizations Decision Flow Chart
Worksheet 8 IRS Pub. 578, Tax Information for Private Foundations and Foundation Managers, Chapter VII, “Taxes on Failure to Distribute Income” (excerpt) (Discontinued)
Worksheet 9 Sample Election Statement to Allocate Distributions to Other Taxable Years and Sample Statement Revoking Election