In PLR 201720010 the IRS ruled the fact that an organization is not being operated to generate a profit and may be providing services to organizations that are themselves performing charitable and educational purposes does not mean the organization providing the services can qualify as a §501(c)(3) organization. The organization in question was therefore denied its request to be granted §501(c)(3) status.
The organization had changed its proposed purpose a few times as it attempted to assist in the development of community oriented independent journalism initiatives. Originally the organization had planned to develop open source software to be used by such organizations, but such software became available from other sources.
At this point the group modified its mission to the following per the ruling:
Your Form 1023 and your bylaws now indicate your mission is to provide mentorship and educational and administrative support to independent journalism initiatives across the United States to serve the growing number of communities that lack the robust sources of information that people need to make sound citizenship decisions. Your main focus is on civic learning initiatives that seek to (1) educate citizens in these communities regarding current events of significance and the workings of government and other civic institutions, and (2) strengthen the civic life of these underserved communities.
The group has developed a news co-op model to be used for community internet journalism and news to be used by community groups. Per the ruling the organization would provide the following for qualified groups:
You will provide to your affiliates the following:
- Mentorship approaches that could thrive in the digital era.
- Training on best practices in Internet journalism.
- Administrative and program support to minimize the time they need to spend on tasks such as bookkeeping, tracking membership and information technology, and therefore to ensure maximum staff time for news coverage and civic engagement. This will also result in lightening the load of the Affiliates, strengthen their journalism and improve reader involvement and engagement.
Specifically, the PLR notes that the organization would provide the following to its affiliates:
During the 12 month period after an affiliate is formed and is able to launch news coverage, you will provide additional services and materials consisting of:
i) Life-issue reporting items that the affiliate can publish or adapt (or omit), as the affiliate’s editor sees fit, at no charge.
ii) Website upgrade plus training so that the affiliate can present news in a distinctive environment that invites civic engagement and editorial collaboration, at no charge
iii) Continuing iterations to improve the website’s effectiveness, at no charge.
iv) Any upgrades or improvements of P at no charge.
v) Tools that create reports on readership, membership and business analysis, delivering trends for the affiliate as well as a comparison against the full universe of affiliated sites, at no charge.
vi) Resources and training to help affiliates conduct trainings, at no charge.
vii) Optional on-site consulting, at your then-current consulting fee plus travel expenses.
During Launch Stage Year 2 and subsequent years ("Operational Stage") you will continue to provide affiliates all Organization and Launch Stage services and materials in exchange for the affiliate’s payment of a fee of * * *% of gross revenues to partly offset your costs of services, travel, and related administration.
The ruling goes on to note the following about the fee-based services provided:
You have set a maximum annual fee of x dollars. You are able to offer these services to affiliates at much lower costs because you have received and continue to seek foundation funding, and because your founders have worked without compensation for many years. You also stated that your Program Support services are not currently commercially available anywhere; but if a monetary value were to be placed on them, it would be unaffordable for an affiliate. The value would far exceed the amount of any fee or revenue-sharing arrangement that could conceivably be agreed on between you and an affiliate.
The organization asked for exempt status under §501(c)(3) which would also allow for the receipt of charitable contributions by the organization.
The IRS ruled that this organization did not meet the requirements to be a §501(c)(3) organization. The IRS cited two authorities, one of which is a Revenue Ruling that described an organization that does not qualify:
Rev. Rul. 72-369, 1972-2 C.B. 245, provides an organization formed to provide managerial and consulting services at cost to unrelated exempt organizations does not qualify for exemption. It states an organization is not exempt merely because its operations are not conducted for the purpose of producing a profit. To satisfy the “operational test” the organization’s resources must be devoted to purposes that qualify as exclusively charitable within the meaning of Section 501(c)(3) of the Code and the applicable regulations. Providing managerial and consulting services on a regular basis for a fee is trade or business ordinarily carried on for profit. The ruling holds that furnishing the services at cost lacks the donative element necessary to establish this activity as charitable.
Conversely, the IRS noted a case where the organization was found to qualify:
In Forest Press Inc. v. Commissioner, 22 T.C. 265 (1954), the Tax Court determined that an organization “devoted to developing and propagating the use of the Dewey Decimal Classification System and Related Index” was a charitable organization. Forest Press’ primary activity was the ongoing development of the system, which required continuous revision. To this end, Forest Press regularly employed an editor-in-chief and four editorial assistants and an additional two to three editorial assistants as publication dates approached. By the time Forest Press was formed, the System had “been adopted by more than 90 percent of the libraries in the United States to classify and index their collections” and was “in use in 42 countries.” Thus, the court concluded that the System was “an important aid to education and research and not a commercial enterprise.
The IRS concluded the organization was like the one described in Rev. Rul. 72-369, noting:
You are similar to the organization described in Rev. Rul. 72-369. You are providing technical services as well as training on the use of the P Platform for an upfront fee of w dollars and an annual fee of * * *% of their gross revenue. Like the organization in the revenue ruling, you are providing services on a regular basis for a fee in a manner similar to a trade or business. Moreover, your services for a fee are focused on community groups organized as news co-ops unlike the organization in the revenue ruling that focused on unrelated tax exempt organizations.
The ruling also distinguished the case of this organization from the one in Forest Press:
Your activities are not like those of the organization in Forest Press Inc. v. Commissioner, 22 T.C. 265 (1954). In Forest Press, the organization’s primary activity was the continued development and propagation of the Dewey Decimal Classification System, which the Tax Court described as “an important aid to education and research,” and which classification system was adopted by more than 90% of the libraries in the United States and in 42 foreign countries. You argue that your programs will assist communities without access to newspapers form news co-ops to operate on line news sites. You will charge fees to the groups. By providing this type of software tailored to each news co-op’s needs, your activities are neither educational nor comparable to promoting the Dewey Decimal Classification System. Furthermore, you do not limit distribution of your programs. Your only control over the news co-op is a check to assure it upholds your values that the journalism published is relevant to the less-than-affluent readership. The programs are also available to all organizations, commercial or otherwise. Thus, your activities are neither educational nor advance education within the meaning of I.R.C. Section 501(c)(3).
Rather than operating for an exempt purpose, the IRS concluded the organization was competing with commercial organizations:
You are similar to the organizations described in B.S.W. Group, Inc. v. Commissioner and Easter House v. U.S. As a substantial activity, you are developing and distributing software to community groups you help establish as news co-ops which are not exempt organizations. In addition, the news co-ops will pay for the software and its support through annual fees. Your activities compete with other commercial publishing software developers and distributors. Such competition provides your activities with a commercial hue. More than an insubstantial part of your activities are not in furtherance of charitable or educational purposes, or other exempt purposes which precludes you from exemption under Section 501(c)(3).