May 8, 2013; Accounting Today

The U.S. House Ways & Means Subcommittee on Oversight and Regulation held a hearing this week on the final report recently issued by the IRS on its “Colleges and Universities Compliance Project.” Lois Lerner, IRS exempt organizations director, was the only witness to testify in person at the hearing. The project sought to document how colleges and universities account for and report various financial activities, with special attention given to unrelated business income (UBI), executive compensation practices, and employment tax and retirement plan filings.

It’s rare for a Congressional hearing to be called on such short notice to review a government report. The subject, the timing, and the tone of some of the remarks by subcommittee chair Charles Boustany (R-LA) indicate serious concern and a desire for action. The press release announcing the hearings referred to suggestions of “widespread noncompliance” and called the IRS final report’s findings “alarming.”

In her prepared testimony, the IRS’s Lerner sought to stress that the project began in 2008 with a survey of 400 randomly selected public and private colleges and universities (out of just over 2,400 nationwide) awarding bachelors, masters, and/or doctoral degrees. Thirty-four of the approximately 360 schools responding to the survey (the IRS reports a 90% response rate) were selected for more detailed scrutiny, Lerner noted, with criteria for selection including the possibility of noncompliance with IRS regulations. Therefore, she said, “It is important to understand that the colleges and universities we examined are not representative of colleges and universities overall.”

As NPQ reported earlier, the final report documents underreporting of unrelated business income (UBI), executive compensation at the top end of allowable under IRS regulations, and incorrect reporting of wages and compensation subject to employment tax. All schools examined had problems in at least one of the three areas, according to the report. Adjustments to income, expenses, revenues, compensation, and tax liability by the subset of schools examined were in the millions of dollars.

Despite these qualifications, the report indicates a serious problem in the nonprofit sector. If 9.4% of the respondents presented significant questions relating to UBI, executive compensation, and reporting of employment tax and retirement plans, that response rate could represent more than 225 colleges and universities across the country with similar issues. Boustany’s opening statement to the hearing reminded everyone that colleges and universities are only 0.5 percent of the nonprofit sector, but represent 11% of revenue ($160 billion annually) and $150 billion, or 21% of assets held by the nonprofit sector. Ranking member John Lewis (D-GA) commended the IRS for performing the inquiry and said, “As we move toward tax reform, it is important that we all understand how colleges and universities operate and comply with the federal tax laws.”

What’s next, and what does it mean for the nonprofit sector as a whole? Accounting Today reports that the IRS plans to look at unrelated business income reporting more broadly at tax-exempt organizations. “In addition, IRS plans to ensure that tax-exempt organizations are aware of the importance of using appropriate comparability data when setting compensation,” said Lerner. One can expect that what the IRS and Congress learned about nonprofit higher education will be used to assess hospitals and other large nonprofits first, with smaller organizations of all types to follow.—Michael Wyland