Remember the “Tea Party Scandal” at the IRS involving applications for tax-exempt status by conservative groups? It resulted in a huge backlog at the IRS in processing applications for tax-exempt status. The IRS has responded by creating a streamlined application process and reducing the application fee from $400 to $275. Was this a good solution to a problem—or will it create yet another problem?
As I recently wrote, we probably have too many charitable organizations with the same or very similar missions. Isn’t the new three-page Form 1023-EZ going to result in an increase in the birth of new tax-exempt charities compared to the old 26-page Form 1023? And what are we to make of the fact that the average approval time has been reduced to 100 days from an average of nine to 12 months previously? I have also heard of applications being approved in less than two weeks!
Since its availability, almost 60 percent of applications for new organizations have been filed using the new Form 1023-EZ and the approval rate is around 94 percent. It is certainly a good time to create a tax-exempt, charitable organization.
Is the IRS spending sufficient time, and exercising sufficient judgment on these applications so that the number of false and fraudulent nonprofits don’t increase? The government tells us when our milk is no longer safe to sell—are they suddenly doing less when it comes to protecting donors and the overall integrity of the charitable sector? It's a reasonable question to ask, given a string of scandals in recent years involving bogus charities. An arduous IRS application process is a key check against this sort of abuse. Has that check now being weakened?
The answers to all of these questions will only be answered by the performance of the charitable sector in the future. It's true that the IRS charitable exempt division now has less discretion in the application process. In response to the 501(c)(4) problems, Congress wanted to eliminate the IRS’s discretionary power over nonprofits and this new Form 1023-EZ does that.
In conjunction with this move, however, the IRS is beefing up the exam function. This is now going to be more automated around a system of approximately 190 checks designed to surface potential compliance risks in reporting organizations. So while there may be more new organizations born each year, those that are in existence and filing Form 990 annually will potentially be subject to additional questions surfaced by the automated scanning process. If you are supporting an established tax-exempt charity, this new exam system may provide you with additional comfort that your donation dollars are being spent wisely.
Also, unrelated to the new Form 1023-EZ, but related to the question about whether there are too many nonprofits, some have written that from the standpoint of fundraising, there are not too many nonprofit organizations. The Catalogue for Philanthropy, a Massachusetts collaborative project of leading foundations, has analyzed the nonprofit community in Massachusetts and found that a very small percentage of the nonprofits in the state were engaged in fundraising. Most exempt, charitable organizations obtain their revenue from program services, government fees or contracts, dues, rental income, etc.
Using this and other information, the Catalogue for Philanthropy estimated that of the nation’s 1.6 million tax-exempt organizations, fewer than 300,000 are engaged in fundraising. The conclusion was that there is little fundraising competition among charitable organizations.
This may be true, but I do not believe that fundraising efficiency was the primary concern relative to the number of nonprofit entities. The fact that there are multiple or even tens of organizations in the same geographic area addressing the same or similar charitable missions raises the question of spending efficiency—regardless of the source of the revenues supporting that spending.
Larger organizations have larger overhead budgets, but these overhead costs do not increase in direct proportion to program spending. The fiscal office, HR, quality control, etc. cost less as a percentage of program spending as organizations increase in size. Of course, small organizations that have no HR or quality control function and a sparse fiscal office would beg to differ. But in my experience, the small organizations that ignore the standard overhead business functions, generally perform at a lower level than the larger organizations with institutionalized policies and procedures.
In my previous post, I implored the resource providers to determine if their support was helping maintain an organization that should be closed or merged into another one. Now that the IRS has lowered the hurdles of entry into the nonprofit world, this is even more of a concern.