Private foundations can be a great tool to meet the philanthropic needs of organizations. However, these organizations need to be careful when making distributions to avoid some common pitfalls. One issue which has recently become more prevalent is the potential application of the self-dealing rules when a disqualified person receives a personal benefit from attending an event sponsored by the private foundation.
In general, self-dealing can be defined as any financial transaction between a private foundation and a disqualified person. This is a very broad definition and has many applications. This article deals with one aspect of the self-dealing rules.
When a private foundation receives a request to donate to a fundraising event, where the private foundation receives a benefit in return for the contribution, such as a dinner, entertainment, or green fees, to name just a few, there are a number of issues the private foundation needs to address before saying, “Yes."
One consideration is whether the self-dealing rules preclude a disqualified person from attending the event. A disqualified person includes a manager, trustee, officer, or substantial contributor with respect to the private foundation. In addition, friends or family of these individuals and employees, suppliers, customers or other business associates of for-profit businesses owned more than 35 percent by these individuals can also be considered disqualified persons by attribution. If any of these individuals attend the event, it could be considered an act of self-dealing. Therefore, the foundation manager should avoid providing any of these people tickets to the event.
There is an exception to this treatment if a private foundation manager, trustee, substantial contributor, or officer is going to be attending the event and will perform a business function for the private foundation at the event. Some examples of a business function include the receipt of an award on behalf of the private foundation, or the monitoring of the use of funds that the private foundation provided to the charity. Without documentation of a business function, the act of attending the dinner does not qualify as a permitted exception and the benefit received by the disqualified person may be considered an act of self-dealing.
Another consideration is to simply avoid this issue by returning the tickets to the charity. If the private foundation is mentioned in the charity's program for the event, then the benefit received is generally considered an incidental benefit and is excluded from the self-dealing rules.
If your client has already entered into a self-dealing transaction, there are several steps which must be taken to resolve this issue. First, corrective action must be taken. This means that the disqualified person must reimburse the private foundation for the amount of personal benefit which was received. The amount that was listed on the acknowledgement letter as non-deductible, for example, would have to be reimbursed to the private foundation. Second, Form 4720 must be filed. This form will show the assessment of an excise tax on the appropriate people in regards to the act of self-dealing. For example, if the foundation manager is the person who participated in the act of self-dealing, the foundation manager will be liable for the excise tax. If there is another person who participated in the act of self-dealing, the disqualified person who participated, as well as the foundation manager could be subject to the excise tax.
While it is mandated that the private foundation be made whole by the disqualified person reimbursing the private foundation for the amount of the self-dealing, the problem cannot be “fixed” on the front end by bifurcating the cost of the benefit received. Therefore, a disqualified person can't avoid the self-dealing rules by simply paying for the non-deductible portion and having the private foundation pay the deductible amount. It is an all or nothing situation when it comes to private foundations.
For more information on this topic, or to learn how Baker Tilly specialists can help, contact our team.
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