THe AERC, the IRS, and the Articles of Incorporation

[K S Swigart <katswig@deltanet.com>]

Okay, here is what _I_ found out in my forays through assorted legal
documents in relation to the AERC and its tax position.

In answer to my original questions:

1.	Is the AERC currently considered a 501(c)(3) organization?

Yes, the AERC is currently considered a valid 501(c)(3) corporation which
is both tax-exempt and allows contributors to deduct their contributions
to the organization as "charitable" donations. And has been since 1988. 
From 1972 through 1988 (I assume) the AERC was not a 501(c)(3)
corporation, but presumably (I am not sure, but consider it reasonable to
assume) operated as a tax-exempt organization under some other
sub-paragraph of subsection 501(c) of the Internal Revenue Code. 

Subsection 501(a) states that "An organization described in subsection (c)
or (d) or section 401(a) shall be exempt from taxation under this subtitle
unless such exemption is denied under section 502 or 503."  As you can see,
there are MANY types of organizations that are "tax exempt" not just
501(c)(3) organizations.  There are more than 30 subparagraphs to subsection
501(c) (most of which have nothing to do with what the AERC does).

So the AERC does NOT have to remain 501(c)(3) in order to remain
tax-exempt.  I think, the AERC can, quite easily, remain tax-exempt under
subsection 501(c)(7)  "Clubs organized for pleasure, recreation, and other
nonprofitable purposes, substantially all of the activities of which are
for such purposes and no part of the net earning of which inures to the
benefit of any private shareholder." 

However, only 501(c)(3) organizations are tax-deductible as "charitable" 
contributions by their individual contributors.  Businesses may deduct any
promotional expense as "advertising and promotion" (I can provide the
appropriate section of the tax code for people who are really interested),
which is 100% deductible as a business expense.  There are some people (I
can quote from additional mail) who actually consider it inappropriate for
public corporations to make "charitable contributions" without getting
something (name recognition, promotion, advertising, generating goodwill,
etc.) in return for it, as public corporations are supposed to be spending
their money to financially benefit their shareholders and leave individual
shareholders to do their "charity" personally...but this is another
philosophical discussion entirely, which I would be more than willing to
discuss with anybody privately, but don't consider it particularly
relevant to the question at hand. 

2.	What is it that we are agreeing that the AERC won't do by adding
"(g) Notwithstanding any other provision of these Articles, the
orgainzation shall not carry on any activity not permited to be carried
on....." to the Articles of Incorporation?

These are the things, generally, that a 501(c)(3) organization cannot do:
	
	No part of the net earnings may inure to the benefit of any
	private shareholder or individual.

	No substantial part of the activities are the carrying on of
	propaganda or otherwise attempting to influence legislation.

	Does not participate in, or intervene in (including the publishing
	or distributing of statements) any political campaign on behalf of
	(or in opposition to) any candidate for public office.

	Does not provide commercial-type insurance. (Where the activity of
	providing commercial-type insurance is an insubstantial part of an
	organization's activities, it is treated as an unrelated trade or
	business of the organization--and is taxable accordingly).

3.	Is the AERC organized for "charitable" purposes under the meaning
in sub-section 501(c)(3)?

I am not sure, but I don't think so.  Subsection 501(c)(3) allows
organizations to be organized for the following purposes:

1) Religious, 2) charitable, 3) scientific, 4) testing for public safety
purposes, 5) literary, 6) educational, 7) foster national or international
sports competition, or 8) prevention of cruelty to children or animals.

It appears to me that there is a legal distinction between charitable and
the other 7 purposes allowed under 501(c)(3) (else why mention them?). 
And the AERC (according to the current Articles of Incorporation, Article
SECOND, paragraphs (a) through (d)) is organized mainly for 7, 8, 6, and
3.(See below for text of Second Article*). 

It seems to me, that to add the proposed (f) "This organization is
organized excusively for charitable purposes...." would contradict what is
says in paragraphs (a)-(d).  However, I wouldn't swear to it.  This would be
where somebody intimately familiar with this type of tax law would be the
one to make a distinction.

4. Are we required to add language to our Articles of Incorporation
language that adopts, a priori, "...any future changes..." to the Internal
Revenue Code? 

On page 15 of Publication 557, the IRS states:  " If reference to federal
law in articles of incorporation imposes a limitation that is invalid in
your state (which apparently it doesn't in California), you may wish to
substitute the following for the last sentence of the preceding paragraph
(identical to proposed paragraph (g) in Proposal 1 of the Sample Ballot)
'Notwithstanding any other provision of these articles, this corporation
shall not, except to an insubstantial degree, engage in any activities or
exercise any powers that are not in furtherance of the purposes of this
corporation.'"

Paragraph (e) of the Article Second of the AERC's Articles of Incorporation
states:  "...provided, however, that this corporation shall not, except to
an insubstantial degree, engage in any activities or exercise any powers
that are not in furtherance of the primary purposes of this corporation."

Except for the substitution of the word "provided, however that..." for
"notwithstanding any other provision of these articles..." the wording that
exists in the CURRENT Articles of Incorporation is IDENTICAL to the wording
that the IRS suggests as an alternative to the proposed addition.
Considering this, it is unclear to me why the addition would need to be
made, since it is an alternative wording that the IRS recommends in its MOST
CURRENT publication (to my knowledge, the 1998 version has not yet been
published).

--------------------------------

In addition, there are some other things that I have found out in my
meanderings (and things that I have not found out).

1) this appears to be something the IRS has "requested," not that is
"required."  Since the AERC has, for the last 9 years been operating
legally as a 501(c)(3) organization (and presumably has filed the
appropriate form 1023, granting 501(c)(3) status), and it doesn't appear
to me that there has been any substantive change in subsection 501(c)(3)
of the tax code, it is unclear to me whether the IRS is allowed to change
its mind about whether the AERC meets the Organizational requirements to
be a 501(c)(3) organization, since the AERC has not changed its Articles
of Incorporation for the last 26 years--or for that matter whether the IRS
really has (i.e.  is this a letter from our Tax Auditor, rendering his
opinion, or is it from the District Director**--I did not feel it was
appropriate to contact the IRS myself to find this out). 

It is entirely possible that this whole matter could have been taken care of
by responding to the IRS within 30 days with a letter explaining why we did
not think these changes were necessary since paragraphs (a)-(e) already
address these same issues, and/or asking for an explanation of which
section(s) of the tax code that the current Articles of Incorporation are in
violation of.**

I do not know if the AERC already did this (since I have not heard from the
person who was apparently responsible for following up on this with the IRS
and the State of California).

2.	What Bob Morris referred to as the "numbering faux pas."

The AERC's Eighth Article of Incorporation states: "That no amendment to
these Articles shall be made which shall change the purposes, as specified
in Article THIRD hereof, for which any property then belonging to this
corporation may be used, without the approval of 100% of the members."

Ignoring the fact that "... without the approval of 100% of the members." Is
a dangling modifier, this Article poses a few problems:

a) The current proposed changes, both Proposals 1 and 2, are changes to the
"purposes" of the organization.  They are not, however, changes to the THIRD
Article.

b) There IS NO Third Article.  The Articles of Incorporation jump from
Second to Fourth.

So it is unclear whether the Eighth article refers to 'the purposes as
specified in Article SECOND hereof...' and therefore would not allow the
proposed changes unless 100% of the membership approves, or if the Eighth
Article doesn't refer to anything at all.

Has anybody figured out, legally, since this would appear to be a minor
clerical error, what the AERC has to do, vote-wise, to implement changes to
the purposes of the organization as specified in the second Article (which
is the only place in the Articles of Incorporation where the purposes are
specified).  My guess is (but I am hardly an expert here) that the Eighth
Article would be deemed to apply to the Second Article rather than the
non-existent Third Article.

If it doesn't, and these proposed changes don't require approval by 100%
of the membership, what DO they require approval of?  The changes to the
By-Laws requires a 2/3 vote from at least 5% of the total membership;
however, this does not necessarily apply to the Articles of Incorporation. 

Bob Morris stated (to me) that he wonders why the State of California let
this kind of thing slip by (upon approval of the original Articles of
Incorporation).  However, accept them they did.

What I don't know, is if the Secretary of State's office will accept them
again if we re-file them (which, I believe) we will have to do if we change
them.  It may be that, if we implement the proposed changes to the Second
Article, the clerical error will be picked up on the second time around, or
that the apparent contradictions between paragraphs (a)-(d) and proposed
paragraph (f) will be "kicked back" as unacceptable...or if some clerk in
the Secretary of State's office will rubber stamp them again, without
actually reading what they say :)

Quite frankly, I don't know exactly what the ramifications of this action
might be with the Secretary of State, and I don't know if there is a plan
by the Board of Directors or even the Executive Director (that we have not
been asked to vote on since it is not considered a substantive change???)
to correct the "numbering faux pas" without having to address it to the
entire memebership (or if Bob Morris and I are the only ones to have
noticed it :)  _I_ didn't notice it on my first read through).  If this is
the case (that it will be handled as an administrative change), _I_ would
be interested to know exactly how the Eighth Article is going to read in
the future (or if it will even BE the Eighth Article??). 

---------------------------------

All of these investigations lead me to believe that:

a) these proposed changes were not particularly well thought out,

b) they probably aren't necessary to remain 501(c)(3) and almost definitely
aren't necessary to remain tax-exempt,

c) not implementing them is unlikely to have any fiscal or operational
impact on the AERC at all (unless somebody can give me some reasons that
haven't been mentioned so far).

However, I am also of the opinion that implementing them is unlikely to have
any fiscal or operational impact on the AERC either (unless there is a REAL
distinction among the different purposes of a 501(c)(3) organization or the
AERC does run afoul of the Secretary of State when it tries to re-file the
Articles of Incorporation--which, if anybody is paying attention at the
State, may very well happen).

This being the case, _I_ intend to ABSTAIN on the issue.  I am not violently
opposed to it, but I cannot, with the scant information that I have been
provided or been able to ferret out myself, endorse it either.  Far from
being a "no brainer" as Randy Eiland suggested, knowing the right thing to
do requires detailed knowledge (which I still don't have--and it hasn't been
demonstrated to me that the anybody at the AERC has either).

If, as is alluded to in the Eighth Article, this change requires approval of
100% of the membership, even if everybody else votes and approves this
change, my measly little abstention "will tank the whole deal."

It would be nice to know, before the vote, if my measly little abstention is
going to do this...but I don't, and I don't think anybody else knows
either.  If they do, could they please enlighten me (and the rest of
us????)?

Sorry to be so long winded about this, but contrary to what I have heard
from assorted sources, this is NOT a simple matter.  It is quite complex
(and I have barely scratched the surface).  The October issue of the
Endurance News states "This SAMPLE ballot which follows is being
published in advance to allow time for thoughtful consideration and to
address your questions." (pg. 46).  So I don't think it was inappropriate
to ask what this was all about.  I wasn't given very satisfactory answers,
and the limited information that I had available to me to investigate it
for myself still does not allow me to draw what I consider to be
appropriate conclusions.  However, I am convinced that the outcome of this
vote is of virtually no consequence, as, no matter what the outcome, it is
going to be bothersome for the AERC.

If there is anything in my analysis of this situation that is either
inaccurate or incomplete that somebody with greater knowledge would like
to comment/expand upon, I would welcome such information.

kat
Orange County, Calif.

*
SECOND:	The specific and primary purposes of this corporation are:

(a) To promote the sport and pastime of endurance riding, to act as an
information center and clearing house for information concerning endurance
riding, and to encourage better care and prevention of cruelty to animals
and to receive (either in trust or otherwise) and maintain a fund or
funds, and administer, apply and expend the income therefrom and the
principal thereof, for the purposes above stated, within the United States
of America. 

(b) to gather and disseminate information pertaining to the riding of horses
over long distances, presently known in the Western United States of America
as "endurance riding", and to encourage the riding of historical tails and
to preserve such trails for future generations.

(c) To encourage and sponsor the collection and publication of scientific
data with detailed methodical examination and tests of horses, for
beneficial use by the Veterinary and Medical professions.

(d) To present awards for outstanding performance in endurance riding.

(e) To exercise all the powers of a non-profit corporation set forth in
Section 9501 of the Corporations Code; provided, however, that this
corporation shall not, except to an insubstantial degree, engage in any
activities or exercise any powers that are not in furtherance of the primary
purposes of this corporation.


**
(addendum)  I have just received my official ballot (since I wrote this,
and I can't be fagged to rewrite it) which includes a copy of the letter
from the IRS.  This does indeed come from our District Director (not the
IRS Tax Auditor), so it is an "official" letter.  And it refers to the
section of the tax code that he seems to think we are in violation of
"the requirements of Reg. 1.501(c)(3)-1(b)."

Unfortunately, in the copy of the Internal Revenue Code that I have
(copyright 1998), THERE IS NO 501(c)(3)-1(b)!  This just confuses me
further.

It is also of interest to note that the letter says, "Failure to make the
REQUESTED amendment MAY endanger your exemption..." (emphasis mine).  So,
indeed, the IRS is not "requiring" these changes at all.

Additonally, it is interesting to me to note that the changes outlined in
Proposal 1 were not (unless there was another letter from the IRS besides
the one that was sent to me with the ballot) even suggested by the IRS
(they don't appear anywhere on the page).  Where exactly did this
PARTICLULAR language come from???

It is entirely possible that the whole thing could have been taken care of
by changing the work "primary" to "exclusively" in the first sentence of
the Second Article....was this considered? (Although this still begs the
question of the numbering faux pas).

All that said, I am reminded of a case I had in my International Banking
class that was discussing certain types of Euro-currency transactions that
were not, under British Banking Law, illegal. (and here I quote) "However,
the Bank of England has asked that banks not do this, and banks generally
don't do what the Bank of England asks them not to do" (even if the
activity is perfectly legal).  

It may also be prudent to consider that corporations might want to do what
the IRS asks them to do (even if it is not legally required).