The Need for Enhanced Governance

DETERRENCE OF ABUSES WITHIN TAX-EXEMPT ORGANIZATIONS AND GOVERNMENT ENTITIES

The Need for Enhanced Governance
In recent years there have been a number of very prominent and damaging scandals involving corporate governance of publicly traded organizations. The Sarbanes-Oxley Act has addressed major concerns about the interrelationships between a corporation, its executives, its accountants and auditors, and its legal counsel. Although Sarbanes-Oxley was not enacted to address issues in tax-exempt organizations, these entities have not been immune from leadership failures. We need go no further than our daily newspapers to learn that some charities and private foundations have their own governance problems. Specifically, we have seen business contracts with related parties, unreasonably high executive compensation, and loans to executives. We at the IRS also have seen an apparent increase in the use of tax-exempt organizations as parties to abusive transactions. All these reflect potential issues of ethics, internal oversight, and conflicts of interest.

Specific Examples of Failures in Governance and the IRS Response

Credit Counseling Organizations

Over the past several years, we have seen an increase in applications for tax-exempt status from credit counseling organizations that are substantially different from their predecessors. The new breed appears to be more focused on marketing debt management plans than providing educational or charitable services, and they operate with a relatively high fee structure. Governance failures have been endemic, including conflicts of interest in service contracts. In one case we have seen a large number of individuals and business entities involved in a scheme to sell a fraudulent business plan to create credit counseling organizations as fronts for profit-making businesses. As a result, we have embarked on an unprecedented effort in this area.

We are focusing our audit resources on those organizations with the highest risk of noncompliance with tax law. We have selected 50 tax-exempt credit counseling organizations for examination; the majority of these examinations are currently underway. The balance will be assigned to agents by the end of this fiscal year. This summer, we will have 50% of the total revenues of those credit counseling organizations that file information returns under active examination. To date, we have initiated and will be pursuing the use of proposed revocations of exemption of credit counseling organizations in appropriate circumstances. We also plan to seek injunctions and penalties against both individuals and companies for promoting fraudulent tax schemes.

We also are focusing on slowing the proliferation of new credit counseling organizations that may not be serving charitable purposes. As with all tax-exempt organizations, our goal is to ensure that every credit counseling organization that applies for exemption meets all applicable standards before we recognize exemption.

Change is taking place, and the industry is starting to move in the right direction. However, what has happened thus far is only the beginning. There still is much to be done. We remain very concerned that the potent combination of exemption from income tax and from consumer protection laws is encouraging those who are motivated by profit rather than charity to seek tax exemption. To address that concern, we are continuing our broad-based approach that includes an enhanced examination program, stricter scrutiny in our application process, partnering efforts with the state attorneys general and the Federal Trade Commission (FTC), as well as warnings to consumers about our concerns. We will use all tools available to ensure that these organizations act lawfully, including revoking tax-exempt status where warranted.

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