As the leader of a nonprofit organization and a concerned member of society, “Michael” stays tuned in to the issues of the day and the latest legislation that may affect his organization and his broader community. When there is a bill introduced in the city council, state legislature, or in Congress that may be of concern, he speaks to his elected officials and urges them not to pass the particular bill into law. Michael also encourages his members to contact their legislators to convey their concerns.
Whether or not he knew it, each of Michael’s actions constitutes “lobbying activity” on behalf of his organization.
Advocacy is an integral part of democracy and a hallmark of the American system. It is expected that people should stand up for what they believe in and advocate in favor of issues important to them. However, federal law imposes certain restrictions on the amount of advocacy that employees, officers, and directors of tax-exempt organizations may engage in on behalf of their organizations. It is important for an organization to understand those limits so that it may confidently advocate without running afoul of these rules and risking the loss of federal tax-exempt status.
Current law permits exempt organizations to engage in some lobbying activity but prohibits “substantial” lobbying. To determine what is substantial, organizations by default are subject to a “balancing test” which considers various factors and activities of the organization. Alternatively, most types of organizations have the option of electing out of the balancing test and instead choosing to be governed by a dollar limit on the amount the organization may spend on lobbying activities. Each of these sets of rules is summarized in this article.
Note: As this article is intended to merely alert the reader to the issues involved, it is important for organizations to seek legal advice for their particular circumstances and to learn about the additional details that were omitted from this article because of space limitations.
What is the restriction on lobbying by exempt organizations?
Under Section 501(c)(3) of the Internal Revenue Code, exempt organizations are restricted from engaging in “substantial lobbying.” In the words of the tax Code, “[N]o substantial part of [a 501(c)(3) organization’s] activities” may be dedicated to “carrying on propaganda, or otherwise attempting to influence legislation.” Please keep in mind that the prohibition on political campaign activity is completely distinct and separate from lobbying and one should not confuse the two. Let’s understand what is meant by influencing legislation, or “lobbying.”
What kinds of activities constitute lobbying?
There are two types of lobbying: direct lobbying and grassroots lobbying. Direct lobbying is accomplished when an exempt organization directly contacts legislators or their staffs to propose, support, or oppose legislation. This is the type of activity that people ordinarily associate with professional lobbyists who meet directly with lawmakers for purposes of influencing legislation. The second type of lobbying, grassroots lobbying, is accomplished when an organization urges the public to contact legislators or their staffs. Thus, conversations with members of the general public may be considered lobbying activity. To violate the rule against substantial lobbying, an organization would need to conduct activities aimed at influencing legislation and those activities must be substantial. Let’s take a closer look at each of these elements.
What is “influencing legislation”?
We must first define what is included in “influencing legislation” so that we may then seek to determine whether it is “substantial.” But even before we get into that, we have to define the term “legislation.” Legislation, for these purposes, is any action by Congress, a state legislature, local governing body (such as a city council or township) in an initiative, constitutional amendment or similar action. Advocating to the general public in support of or in opposition to a referendum voted on by the general public is also considered to be “influencing legislation,” since in the case of a referendum, the public are acting as the legislators.
However, actions by administrative agencies or by the Executive Branch are not considered “legislation.” In a similar vein, an attempt to influence the confirmation of appointed judges is lobbying, but influencing the outcome of an election of judges would not be lobbying (but may be considered “political campaign activity,” a separate restriction on exempt organizations not discussed in this article).
Organizations often speak to their members regarding issues of common interest. Such discussions would not constitute grassroots lobbying unless the organization in some form urged its members (and/or the general public) to contact their legislators to support, propose, or oppose legislation. By the same token, organizations often conduct studies and research and share them with their legislators. Sharing such studies is not lobbying so long as the studies are conducted in a nonpartisan manner and the purpose was not to support or oppose a position. Organizations may also advocate social change or take a position on broad public issues without it being considered lobbying.
What is “substantial”?
The default rule for determining what constitutes “substantial” lobbying for all 501(c)(3) organizations is what is called a “balancing test.” Factors that are considered in the balancing test include the percentage of the organization’s budget or employee time spent on lobbying, whether the lobbying is continuous or intermittent, the nature of the organization and its aims, how controversial the organization’s position is, and the visibility of the organization’s lobbying activity. Essentially, all of the organization’s various activities are considered and weighed against the lobbying activity in terms of time, cost, exposure, and the nature of the activity. To be safe, all lobbying conducted by an organization as a whole must be “insubstantial” relative to whatever else the organization does.
As in any instance where various factors are balanced, how the IRS would rule in a particular case is never clear in advance. An organization would therefore be well-advised to stay far enough away from the line so as to not risk crossing it. To add certainty and predictability, Section 501(h) of the Internal Revenue Code allows organizations to elect an alternate test for “substantiality” which will be discussed below.
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What if the organization fails the balancing test?
Should the organization fail the balancing test and be deemed to have engaged in substantial lobbying, the Internal Revenue Service may revoke the organization’s federal tax exemption. In addition, most organizations (other than a private foundation, a church, and those that make a Section 501(h) election) will also be subject to an excise tax in the amount of 5 percent of all lobbying expenditures (i.e. 5 percent of the amount it spent on lobbying activity) in the year in which the organization loses its exemption. An additional 5-percent penalty is imposed on any managers of the organization who knew of the conduct and willfully allowed it to go on, unless such managers had “reasonable cause” to do so, for example if they had relied on the well-reasoned opinion of an attorney confirming that the conduct was permissible.
What is the Section 501(h) election?
Whereas the balancing test looks to all facts and circumstances to determine whether the lobbying was substantial, an organization that makes a Section 501(h) election (by completing IRS Form 5768) is given a maximum dollar amount that it may spend on lobbying. Section 501(h) is available to all public charities except churches. The election may be made anytime during the tax year, and all such lobbying expenditures must be reported on schedule C of the organization’s annual Form 990. Additionally, lobbying expenditures must be reported on Form 4720 for the current year and for the prior three years.
An organization electing to report lobbying expenditures under Section 501(h) would be required to keep track of its direct and grassroots lobbying separately, as different limits apply to each. Should the organization exceed either of the limits, a tax will be imposed. The organization risks loss of tax exemption if it exceeds its yearly ceiling by a specified percentage over a specified number of years.
There are certain types of organizations that should consider making a Section 501(h) election. These include organizations that have a highly visible lobbying program, that want to do a lot of lobbying for a short period of time, that have a strong web presence (since this test looks to expense and the cost associated with posting information on a web page is likely minimal), that have many volunteers, and that have relatively small budgets. There are many rules and restrictions associated with a Section 501(h) election (and you are just getting a taste of them); thus, an organization considering this option is encouraged to seek specific legal guidance.
Section 501(c)(4) Organizations
Organizations that wish to lobby may form a separate sister organization to be structured as a Section 501(c)(4) “social welfare” organization. Section 501(c)(4) organizations may conduct unlimited lobbying. These organizations operate to “promote the common good of the people in the community” and their net earnings are devoted to charitable, educational, or recreational purposes. They are entitled to most of the benefits of (c)(3) organizations with the notable exception that donations made to them are not deductible from income tax. The (c)(3) may control the (c)(4), they may share office space, and share a board of trustees, but they must be separate legal entities. Expenses from each must be kept separate and their monies may not be commingled. Most importantly, tax-deductible contributions given to the (c)(3) may not be used by the (c)(4).
Lobbying activity includes more than one would otherwise expect. Even something as seemingly innocuous as urging constituents to contact their elected officials may constitute lobbying. Exempt organizations may conduct lobbying only if it is “insubstantial.” Determining what is substantial is not simple under the default balancing test and, thus, many organizations may opt to make a Section 501(h) election which imposes a ceiling on the dollar amount the organization can spend on influencing legislation. It is important to reiterate that these rules are complicated and much detail has been omitted; thus, it is important for the organization to seek legal guidance from its own professional.
About the Author
Judah I. Kupfer, Esq., earned his J.D. at Brooklyn Law School and his LL.M. in taxation at New York University School of Law. To contact the author, please e-mail [email protected].With gratitude to Jacob I. Friedman, Esq. of Proskauer Rose LLP for his review and comments.
This article is provided for general information and educational purposes. Neither its distribution to any party nor any statement or information it contains is intended to or shall be construed as establishing an attorney-client relationship or to constitute legal advice. Readers also are cautioned that the information in this article may not apply to all situations. Consequently, readers must not rely upon this article or information it contains as a substitute for competent individualized legal advice about the specific circumstances of the readers. Attorney advertising, prior results do not guarantee a similar outcome.
IRS Circular 230 Disclosure: To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. federal tax advice contained in this document is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code, or (ii) promoting, marketing, or recommending to another party any transaction or matter that is contained in this document.