Is Your 501(c)(3) Violating a Critical Rule?

October 20, 2017



Your nonprofit’s Executive Director must travel to another city for an industry conference. The trip’s expenses were approved in advance. The ED makes some valuable contacts at the conference and gives a report to the Board of Directors that indicates this was money well spent.

However, the Executive Director took her husband along and submitted his expenses for reimbursement, too.

This might be an acceptable practice in a for-profit company, but it’s a violation of Internal Revenue Code (IRC) 501(c)(3). The IRS code does not specifically mention the concept of “private benefit,” but its meaning should be clear from the agency’s description of an exempt organization. Such an entity must, “…be organized and operated exclusively for religious, charitable, scientific, and other specified purposes.”

Private Benefit? Or Inurement?

Unlike inurement, with which private benefit is sometimes confused, a private benefit doesn’t necessarily describe a situation where money flowed from an exempt organization to a private party (though it can). If the recipient is someone other than an individual who would normally benefit from the exempt organization’s offerings, like the spouse in the above travel scenario, this could be considered a private benefit.

And it’s not allowed. To escape being a private benefit transaction the recipient must perform a significant role for the exempt entity with respect to its exempt purpose and mission.  In this case, the organization should pay only the Executive Director’s expenses. It should also counsel her to prevent future occurrences.

An inurement, on the other hand, offers something of value to the organization’s “insiders” (officers or directors), quite often excessive compensation as an example.

The Consequences

As you might expect, your nonprofit would be at risk of penalties at both the federal and state level if it paid the spouse’s travel expenses. You could even be endangering your status as a nonprofit organization.

Avoiding Private Benefit Infractions

The purpose of these sections of the IRS code, of course, is to keep both insiders and those outside of the organization from receiving money or other benefits that should be reserved for qualified recipients. How can you ensure that your activities and transactions always benefit public, not private, interests?

  • Establish understandable, accurate conflict-of-interest policies. Everyone who is a part of the organization must agree to abide by them.
  •  Establish clear reimbursement policies for items such as travel, meals, and other expenses incurred outside the workplace. Carefully review organization credit card statements for potential issues.
  • Don’t wait for an official audit: Keep a close, frequent watch over your financials.

You can also call on us. Our nonprofit specialists can work with your proposed or existing tax-exempt organization to clarify the rules related to private benefit – as well as any other element of the IRS’ regulations. If you’d like, we can even take over your accounting to give you more time and ensure accuracy. Contact us for a free consultation.

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