The Other Public Support Test – the 10% Facts and Circumstances Test

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This test is all about whether a charity is or is not publicly supported. Charities that do not meet a specific exception (like churches and schools) must have broad public support, which is based on mathematical tests.
Success in attracting large donors or developing a substantial fund to sustain the organization may create a situation where the organization is unable to meet the public support tests. The result of this is that the organization will be reclassified as a private foundation. Assuming they carry on a program they will be classified as a private operating foundation.
The impact of a change to private operating foundation status includes some excise taxes, which are generally modest, but also a risk of the loss of some funding. Private foundations cannot contribute to other private foundations, and many grantmakers have policies against supporting private foundations, even if they are private operating foundations.
The most common public support tests use the current year and prior four years’ averages to determine whether you meet the mathematical tests to be publicly supported by contributions, or by a combination of contributions and related activities. Organizations that fail those mathematical tests can use the 10% facts and circumstances test. This only requires that the organization “normally“ have at least 10% broad public support, but they must also have an ongoing program to attract public or governmental support. Additionally their governing board must represent the
public interest rather than personal or private interests, and their programs must be designed for the benefit of the general public.
When this method is used to demonstrate public support, IRS will also look at whether the organization has a well-defined program for accomplishing its charitable work and at whether members of the public having special knowledge or expertise, public officials, or community leaders participate in or sponsor any of the organization’s programs.
Monitor your public support percentage by reviewing your form 990, Schedule A each year. Look at the public support percentage for the current year and for the prior year noting the trend.
Contact us if you would like more detailed information on all of the public support tests including the 10% facts and circumstances test.

Workplace for Good: Facebook’s Free Enterprise Collaboration Tool for Nonprofits

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Download the complete newsletter HERE

INSIDE THIS ISSUE:

  • Changes in Your Legal Form
  • New Financial Reporting Implementation Guide (view checklist)
  • The Charities Bureau Moved!
  • New Publications and Updates from IRS
  • The De Minimis Indirect Cost Rate: Not All It’s Cracked Up to Be
  • Affordable Housing: Paying or Your Section 168(h) Election
  • The Other Public Support Test: the 10% Facts and Circumstances Test
  • WebStar Winner

Download the complete newsletter HERE

The 10% De Minimis Indirect Cost Rate-Not All It’s Cracked up to Be

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Several nonprofit organizations that receive federal funds and carry on multiple programs elect the 10% de minimus indirect cost rate for reimbursement because of the complexity of applying for an indirect cost rate. However, indirect costs are usually more than 10% and often significantly more, which means that an organization will need to find other resources to pay for indirect costs that are not covered.
Also, 10% doesn’t mean 10% of all of your direct costs. The 10% rate only applies to what the federal government calls “Modified Total Direct Costs”. These are payroll and
payroll overhead, materials and supplies, direct services, travel, and up to the first $25,000 of each sub award.
The 10% does not apply equipment purchases, capital expenditures, rental, tuitions, scholarships or fellowships in any patient care, or participant support. Nonprofits selecting the 10% de minimis reimbursement also need to have proper controls to be sure that no items that should be categorized as indirect are included with their direct costs.
It is helpful to structure your general ledger so that it is easy to identify direct and indirect costs and also because they are subject to limitation (such as subawards). Doing this will
make your true indirect costs clearer and may prompt you to request an indirect cost rate that all federal programs should reimburse for.
Contact us if you would like some help or guidance with these calculations or with
applying for an indirect cost rate.

Workers Compensation and Unemployment Guidance for NYS Charities

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There is a lot of confusion about the need for workers compensation, federal and New York State unemployment by charities and other nonprofits. Here is a summary of the rules.

I will start with workers compensation because the penalties for lapses in coverage can be extreme.

You don’t have to cover board members or other volunteers with workers compensation, but remember volunteers are individuals who aren’t paid salary, stipends or perks that have monetary value.

Board members who receive compensation from a charitable organization are also exempt as long as they perform no manual labor.

Paid clergy and members of religious orders are exempt from mandatory coverage but can elect coverage

Similarly, paid individuals teaching for a religious, charitable or educational institution are also exempt from mandatory coverage.

Paid individuals who perform non-manual services for religious, charitable or educational organization are also exempt from mandatory coverage, but manual labor includes everything from filing and playing musical instruments to shoveling snow and mowing lawns.

Individuals receiving rehabilitation in a sheltered workshop and those in similar circumstances, who receive aid from a charity and perform work in return for such aid, are exempt from coverage.

Federal Unemployment, charities exempt under Internal Revenue Code section 501(c)(3) are automatically exempt from federal unemployment. They are subject to New York State Unemployment but they may elect to opt out of payment of quarterly unemployment tax and alternatively reimburse the state for unemployment claims that are made. The registration is made on form NYS-100N.

In addition, certain nonprofit employees are exempt from New York State unemployment including:

ordained clergy members
members of religious orders
lay members of religious orders engaged in religious functions
caretakers for religious organizations
sheltered workshop, rehabilitation, and youth service program participants, but they all must meet certain requirements.
Call us or check New York State Department of Labor website for more information

Be sure you are clear on the rules before you exclude individuals from coverage. Penalties can be extremely high.

When is Real Property Rental an Unrelated Business Activity?

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There are many special rules and exceptions for real estate rental.

First, if the rental furthers your charitable purpose, such as with affordable, emergency, or transitional housing, there is generally no unrelated business activity.

If your rental activity is unrelated, but there is no debt related to the property, rental income will be treated like dividends and interest (taxable to social clubs but exempt for most other nonprofits).

If there are loans related to the property, there are complex calculations of how much is taxable.

One of the twists in these rules applies when there is rental of personal property, like furnishings, with the real estate. This won’t affect you if 10% or less of the income is related to personal property. However, if personal property represents more than 10% but no more than 50% of the income, that percentage will be considered unrelated, and if more than 50% of the rent relates to personal property, all of the rent will be a unrelated business income.

If you operate a parking lot, that income is taxable but if you lease your parking lot to an operator it will qualify as a real property rental.

If services are provided as part of the rental, it can make the rental subject to unrelated business income treatment.

Be aware that the sale of real estate that is loan financed results in Unrelated Business Income.

A couple more exceptions you should be aware of include loan financed property that is purchased with an intention to use it as part of your program but which isn’t currently being used in that way, and property that is donated but which has a mortgage or other loan. In both of these cases there can be exceptions to unrelated business income treatment.

Finally, don’t forget your get out of jail free card. An activity must be “regularly carried on” to be treated as an unrelated business activity. A limited or occasional rental of property won’t be unrelated business income regardless of whether personal property is included, or whether there are outstanding loans against the property.

Uniform Guidance-Payroll Documentation

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Recently there have been numerous reports of significantly increased enforcement of requirements for documenting payroll allocations with personnel activity reports whenever federal funding is received. So some of the provisions contained in the “Uniform Administrative Requirements, Cost Principles, and Audit Requirements for Federal Awards”, effective for 2015, will be welcome. Some of these provide some relief from recordkeeping requirements and others provide some welcome clarification

Specifically, rules for documenting payroll allocation include:

Budget estimates can be used on an interim basis as long as they are reasonable approximations of time actually worked, they are updated when appropriate, and ultimately adjusted as necessary.
Charges to federal awards for salaries and wages must be based on records that accurately reflect the work performed and is supported by a system of internal control which provides reasonable assurance that the charges are accurate, allowable and properly allocated.
Another provision states that, for records which meet these standards, the entity will not be required to provide additional support or documentation for work performed. However, later on it says that in cases where records do not meet the standards, the federal government may require personal activity reports.
The section on payroll documentation goes on to say that cognizant agencies for indirect costs are encouraged to approve alternative proposals based on outcomes and milestones for program performance where these are clearly documented. These can be acceptable alternatives to the documentation requirements above.
Incentive compensation is allowable if it’s based on cost reduction, efficient performance, safety awards, and similar criteria, as long as overall compensation is reasonable
Compensation is also allowable when paid to trustees, directors, or officers when it is reasonable and is paid for services.
Fringe benefits, including standard items, authorized absences, pursuant to an organization’s policy, and even certain reserves for self-insurance of unemployment are allowable.
Paid personal use of company vehicles is not allowed even if it is reported as compensation.
Postretirement health insurance is allowed generally on a pay-as-you-go basis.
Severance pay is allowable as long as it meets certain criteria such as being subject to an established policy.
If you receive and spend federal awards, documentation for payroll cost is still very important, but this flexibility is a welcome relief.

Sub-Recipient Monitoring

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If you receive federal awards and pass some portion to other organizations, the first thing you should do is verify whether an organization is really a sub-recipient or is a contractor.

A sub-recipient

determines eligibility to participate in a federal program
makes decisions about the program
is responsible for complying with federal program requirements
carries out the program

A contractor

provides goods or services as part of their regular business operations, which are similar to goods or services they provide to different purchasers,
operates in a competitive environment,
their goods or services are ancillary to the operation of the federal program.
If you pass money through to a sub-recipient, you must provide them with:

the federal award, name, and CFDA number,
the federal awarding agency,
the current federal award amount being passed through,
the cumulative federal award amounts being passed through,
the date of the award,
the timeframe for performing services,
the contact person with your agency,
the pass-through entity’s name and ID number, and
the indirect cost rate (their rate if they have an approved indirect cost rate or have agreed to use the de minimis 10% rate).

Under Uniform Guidance, now you must also:

assess the risk of the sub-recipient not complying with all requirements (based on your prior experience with the sub-recipient, or on the results of previous audits, or the results of federal monitoring that you are aware of),
monitor sub-recipients for performance and compliance (review reports of services they have provided, review audit reports, compare actual accomplishment to objectives,
where appropriate. Calculate whether per unit costs are as expected, and obtain information about cost overruns, failure to meet goals, delays and the like),
consider withholding funds if there are issues, until evidence of acceptable performance is received,
consider additional monitoring and more detailed reporting, and
If issues are identified consider training, consider on-site reviews or agreed-upon procedures audits of aspects of their program.

The sub recipient entity must provide:

confirmation of their indirect cost rate if they have one , and
access to records and financial statements.
Heveron and Company may be able to help with this process. We can provide sub recipient monitoring services or provide agreed-upon procedures examinations to help assure sub-recipient compliance. In either case you would have a report to document compliance with your responsibilities. Call us if we could help or if you have questions.

Reducing the Possibility of Fraud in Your Nonprofit

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The annual Report to the Nations by the Association of Certified Fraud Examiners contains sad but true facts about the impact of fraud. This year is no exception, Organizations lose about 5% of revenues to fraud each year, and it is clear that our smaller organizations aren’t exempt. In fact, they are the hardest hit – about 30% of the reported cases occurred in firms with fewer than 100 employees. And, the median losses suffered by those firms was $150,000.

What’s different this year is the optimistic news that if your organization takes certain actions, the likelihood of fraud will be reduced by a lot. The main actions that were mentioned in the report were management reviews, fraud training for employees, codes of conduct and antifraud policies, and telephone hotlines.

The study showed that organizations with antifraud controls uncovered frauds in half the time and reduced the fraud loss by more than 50% (the median loss went from $200,000 down to $92,000.

Interestingly, three quarters of organizations with over 100 employees have fraud hotlines but only one quarter of organizations with fewer employees do.

Google ACFE Report to the Nations for more information.

Purchasing Policies for Nonprofits That Are Not Required to Have Federally Compliant Purchasing Policies

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If you have federal awards that reimburse costs for programs you operate, you should have a compliant purchasing policy in place now.

If you aren’t required to have a federally compliant purchasing policy, you might benefit from some of the wisdom and best practices required for these policies.

Consider the following, and start with your objectives to:

limit purchases to necessary items
minimize the possibility of theft or misuse
control costs while ensuring quality
comply with funder requirements and regulations, and
properly identify the programs that benefit from the service
Any conflicts of interest with purchasing should be prohibited.

Objectives for purchases should be documented, for example:

Purchases must be necessary and reasonable for the performance of the activity.
Economical purchase procedures (such as consolidation of purchases), and lease versus purchase, where appropriate, should be considered.
Federal purchasing rules put purchases in the three categories based on their size, let’s call them small, medium and large, with increasing oversight based on the size. For smaller purchases, just be thoughtful and consider different vendors. For larger purchases, investigate pricing and consider a lease versus purchasing. For the largest purchases, use competitive bidding-sealed bids for construction contracts.

Federal rules also strongly encourage purchases from minority and woman-owned businesses. By the way, Heveron & Company, CPAs is a New York State certified woman owned business.

Finally, your policy should state that any violations of the policy will be subject to disciplinary action.

Grantmaking and Grant Monitoring by Charities Grants to Foreign Charities

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Pre-grant Inquiry

For pre-grant due diligence, an organization should create a policy specifying the types of grants and amounts given, types of organizations that qualify, purposes and activities that qualify, timelines, the application and approval process, responsible and authorized personnel, and file management and retention. Organizations should create a process for receiving, reviewing, and evaluating requests for funding. Application materials may include:

a proposal or letter of request;
information on the project to be funded;
organizational documents;
proof of 501(c)(3) exemption;
proposed budgets for the organization and the project;
audited financial statements;
prior years’ Forms 990;
information regarding personnel involved in the project; and
information on other sources of support (assuring continuity of the program).

Grant Documentation and Monitoring

Once a grant is approved, the organization should execute a grant agreement that describes the terms of the grant and what is expected of the grantee. It may include:

grantee’s responsibilities;
grantee’s reporting requirements;
grantor’s responsibilities;
amount of the grant and payment schedule;
purpose of the grant;
duration of the grant;
description of the project that is being funded (sometimes references grant application);
commitment of the grantee to use the funds for that purpose;
specifications of prohibited uses of the grant funds;
provision for unexpended funds;
requirement that the grant is paid back if the money is not used for the intended purpose;
reporting requirements of the grantee, including changes in exempt status or key personnel;
grantor’s right to terminate or revoke the grant if the grant terms are not met; and
procedures for requesting modifications to the grant terms.
Although current tax law does not require reporting by the grantee to domestic public charities, it is a recommended practice. Depending on the size, type, and terms of the grant, organizations might consider requiring an annual reporting that may include a financial report showing how the money was spent and a narrative of accomplishments. The requirement could vary depending on the amount or type of grant or type of grantee. The organization should evaluate the report and indicate in its policy or procedures the persons responsible for the evaluation. If the grant is funded over a number of years, it is common to require reports prior to releasing the subsequent year’s grant funds. This insures that the charity receives timely reports as to the results and effectiveness of the grant.

Post-Grant Procedures

Grant closing procedures are not always formally done. However, the grant closing process is a good opportunity to assess the outcome of the program. Establishing a grant closing procedure is a recommended best practice. The grant closing process should begin within a reasonable time after the last payment has been made and the final reporting from the grantee has been received. A closing procedure may include:

notifying the grantee that the final report or any other required documents are due or that all requirements have been fulfilled;
evaluating the grant;
reporting to the board;
file management; and
recommendation as to whether the organization would recommend future grants to the grantee either for its own purposes or if other funders inquire.
The IRS has not issued Treasury Regulations for Code Sec. 4966 as of this publication. For now, it is reasonable to rely on the requirements of Code Sec. 4945(h), which are referenced in Code Sec. 4966. One unresolved issue is the final requirement of expenditure responsibility oversight, “to make full and detailed reports with respect to such expenditures to the Secretary” (Code Sec. 4945(h)(3)).

Foreign Grant Procedures

Organizations that give foreign grants have additional recommended procedures. They should follow the pre-grant, grant monitoring, and post-grant procedures, as well as comply with Executive Order 13224, the Patriot Act, and Treasury Guidelines.

On September 23, 2001, the President issued Executive Order 13224,”Blocking Property and Prohibiting Transactions with Persons who Commit, Threaten to Commit, or Support Terrorism.” The executive order can be violated even where the grantmaking organization lacks knowledge that it is engaging in a prohibited transaction.

As part of the campaign against terrorist financing, all U.S. persons, including U.S.-based charities, are prohibited from dealing with individuals and entities identified as being associated with terrorism unless first authorized by the Treasury Department’s Office of Foreign Assets Control (OFAC).

The Patriot Act, passed in October 2001, also prohibits material support to terrorists. For grantmakers, the Patriot Act prohibits an organization from willfully providing or collecting funds with the intention or knowledge that such funds will be used to carry out acts of terrorism.

Thus, checking the Specially Designated Nationals and Blocked Persons List (SDNs) database (www.treasury.gov/resource-center/sanctions/SDN-List/Pages/default.aspx), maintained by the Office of Foreign Assets Control, and the Foreign Terrorist Organizations List (FTO) (www.state.gov/j/ct/rls/other/des/123085.htm), maintained by the U.S. Department of State Bureau of Counterterrorism, should be part of the pre-grant procedure followed by organizations making foreign grants. Charities should not enter into a relationship with a grantee where any doubt exists about the grantee’s ability to ensure that the grant does not find its way to terrorist organizations. Organizations should also consider safeguards in any downstream sub-grantees to protect charitable resources from exploitation by terrorists.

The U.S. Department of the Treasury Anti-Terrorist Financing Guidelines: Voluntary Best Practices for U.S.-Based Charities, issued in 2002 and revised in 2006, provides clear guidance for charities involved in foreign grantmaking (see full text at Appendix AC).

In addition, the U.S. Department of the Treasury has also published a risk matrix for organizations to assess the risk of potential grants. The higher the risk, the more due diligence the grantmaking organization should undertake to ensure the proper use of grant funds. Lower risk grants require less additional due diligence than the baseline due diligence performed on all grants made by the organization.