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Don’t Let Large Grants Rock the Boat: Avoid Tipping with Unusual Grant Rules

A recent private letter ruling highlights the safe harbor that Section 170’s “unusual grant” rules offer a public charity with the good fortune to receive an exceptionally generous gift. Though large donations can significantly boost a charity’s special programs or help ensure long-term sustainability, they risk changing good fortune to a bad tax outlook: A single gift that dwarfs a charity’s other receipts may cause it to fail the public support test and tip it into private foundation territory, where complex and restrictive rules apply. To address this, for the purpose of the test, the IRS allows charities to omit certain exceptional gifts from their total public support.

Public charity status and “tipping”
Every 501(c)(3) organization is either a public charity or a private foundation. Public charity status is generally preferable because private foundations must pay an excise tax on net investment income, make defined annual distributions, and are barred from certain types of transactions. In addition, living donors may receive a lower tax deduction for donations to private foundations, and most private foundations will not make grants to other such groups.

An organization that is not a church, school or hospital will generally qualify as a public charity by meeting a support test. To qualify as publicly supported, the charity must “normally” receive a substantial part of its support from the government or from contributions by the general public. A charity normally meets the support test for a taxable year and the year after where the aggregate government/public contributions from the five-year period ending with the current year is at least one-third of that period’s total contributions (of any kind).* A charity with at least 10% public support may pass under a separate test, though the determination will rest on facts and circumstances.

A large grant can upset this percentage because the amount of a contribution that exceeds 2% of a charity’s total support is not considered public support for the purpose of either test. Note that contributions from related parties (e.g. an owner of more than 20% of a corporation or the beneficial interest of a trust, and that corporation or trust) may be combined for the purposes of the threshold.

Example: A charity’s total support for tax years 2011–2015 is $100,000, comprising $50,000 of investment income, $25,000 in grants of less than $2,000 (2% of total support) and, in 2015, two gifts totaling $25,000. Only $2,000 of each gift over the 2% threshold is included in the charity’s public support, with the following result:

Public Support (25,000 + 4,000)                                29,000
Total Support (50,000 + 25,000 + 25,000)             100,000
Public Support Percentage                                                29%

The charity fails the one-third support test for 2015. If it passed the test in 2014, then 2015 is covered. Otherwise, if the charity can qualify at all, it will have to qualify under the 10% facts and circumstances test.

A public charity that fails to meet either public support test for any two consecutive taxable years is “tipped out” of the status and treated by the IRS as a private foundation going forward.

Unusual grant rules to the rescue
In Private Letter Ruling 201621015, released May 20, a public charity sought to classify a major proposed gift as an unusual grant. The charity, which provides educational assistance to low-income families, ordinarily raised funds from more than 20 donors through special events, direct appeals, and grants. It had always previously met the one-third support test without using the unusual grant rules. The gift was from a new donor who was not a disqualified party.

The IRS looked to the rules under Treasury Regulation § 1.170A-9(f)(6)(ii), which allow a contribution to be excluded from the support fraction entirely if it meets certain requirements. The rules generally apply to large bequests or gifts from disinterested parties that are:

1)  Attracted by the publicly supported nature of the organization;
2)  Unusual in amount; and
3)  Large enough to alter the organization’s normal public support status.

The regulation goes on to list nine determining factors, including whether the grant is from a disqualified person, or from a contributor who exercises control over the organization and/or the grant, and whether the organization has previously attracted and will continue to attract public funding sufficient to pass the one-third support test. The more factors in a gift’s favor, the more likely it is to qualify as unusual.

Because of the charity’s ongoing fundraising activities, prior history of sufficient public support, and lack of an ongoing relationship with the donor, among other things, the IRS found that the grant was unusual and could be excluded for the purposes of the public support test.

This was a positive result for the organization and serves as a good reminder of both the risk inherent in major donations and the safe harbor that the unusual grant rules provide. Public charities do well to plan ahead and preserve their valuable tax status by ensuring that proposed gifts fit within the guidelines.

For more information or questions about how these rules may affect your organization, please contact Donita Joseph at or Megan Lasswell at or by phone at 844.4WINDES (844.494.6337).

*An organization less than five years old will be considered as normally meeting the public support test if — considering its actual or intended structure, activities and operation — it could reasonably be expected to do so within a five-year test span. (§ 1.170A-9(f)(4)(v))
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