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May foundation fund building designed by disqualified person?

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May foundation fund building designed by disqualified person?

Our private foundation regularly makes contributions to capital campaigns. A board member's husband is an architect in a local firm, and two projects we are currently considering hired his firm to do the design work.  Does this present any self-dealing concerns? Does the answer change if the husband is an owner in the architecture firm? 

You are correct to be concerned about this one.  A private foundation faces possible penalties for “self-dealing” of it “directly or indirectly” uses its assets for the benefit of a disqualified person.  The architect, by virtue of his marriage to a director of the foundation, is a disqualified person.  It is arguable that the grant to the charity is being indirectly used for the payment to the architect’s firm, and therefore for the benefit of the disqualified architect.  This is a stronger argument if the architect is an owner of the firm and can “profit” from the payment than if the architect is merely a salaried employee whose compensation is not dependent on these jobs.

Finding self-dealing, of course, would be a harsh result in this case, but the self-dealing rules are written in terrorem, and do not require intent on the part of the foundation.  They are an attempt to set up strict liability in order to scare foundations away from any dealing with disqualified persons except in those situations that are specifically permitted by the Tax Code or the Regulations.  Some critics think the Regulations are intentionally obscure and ambiguous.

Perhaps the strongest defense to the self-dealing claim arises from one of the examples in the Treasury Regulations.  Reg. §53.4941(d)-1(b)(8) provides an example involving payment to government officials.  It is a self-dealing violation for a private foundation to make a payment to governmental officials (who are defined as disqualified persons with respect to compensation).  But example (3) provides that it is not an indirect self-dealing transaction if a private foundation makes a grant to an unrelated university for the purpose of conducting a public policy seminar and the university pays government officials who participate.  This is true even where the foundation has reason to believe that the officials would be hired and paid, but the university has complete control over the selection of the participants.

There is additional support in the Regulations about taxable expenditures in the form of scholarship grants to individuals.  Private foundations are not permitted to make scholarship grants to individuals unless their selection procedures are approved in advance by the IRS.  Reg. §53.4945-4 makes clear that a grant to a university that makes its own decisions on who actually receives the scholarships does not violate the statutory prohibition if the grant is not earmarked for specific individuals.

Reg. §53.4945-2  also provides that a private foundation may fund a public charity to conduct a project that involves lobbying so long as the grant is not earmarked for the lobbying portion and the foundation does not fund more than the non-lobbying portion of the budget.  It is a taxable expenditure for a private foundation to engage in most lobbying activities.   You might gain some benefit of this rule by funding only part of the construction of the capital projects, and specifying that none of your grant can be used for the architectural costs. 

No guarantees on any of these arguments.  You might want to consult an attorney familiar with these issues to help you decide how much risk you are willing to take.

Tuesday, October 30, 2018

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