Does Open Stories Foundation Qualify As Tax-Exempt?

Last week, Peggy Fletcher Stack wrote an article about John Delhin’s finances. A couple things leaped out at me, particularly salient, perhaps, because of research I’ve been doing recently, and because they raise difficult-to-see red flags, both for the Open Stories Foundation (“OSF”) and for other Mormons (or, more generally, Americans) who want to start a tax-exempt organization.[fn1]

Tl;dr: OSF looks like it is violating the prohibition against private inurement, which would compromise its tax-exempt status; it should at the very least get a tax practitioner with experience in the tax-exempt area to look closely. Also, anybody who wants to operate a tax-exempt entity needs to get competent legal advice upfront: the tax-exempt area is a minefield of compliance traps.

Although we call tax-exempt organizations non-profits, that’s really a misnomer. A tax-exempt organization is permitted to make a profit. What it cannot do is distribute that profit to any individual. Instead, it must use its profit in the pursuit of its tax-exempt purpose.

Broadly speaking, what this means is that tax-exempt organizations cannot pay dividends to their owners (and, in fact, they really can’t have equity owners). But there are ways to get around an anti-dividend rule. Instead of dividends, for example, you could hire yourself as an employee (or director or officer or whatever) and pay yourself an outrageous salary.

Why is that a bad thing? Because donations to 501(c)(3)s are deductible, which means that the government (and, by extension, taxpayers in general) bear a portion of the cost. In its most egregious form, imagine this: Wealthy Mom (“WM”) sets up a private charitable foundation, exempt under 501(c)(3). WM makes tax-deductible donations to the foundation, which then funds other charitable organizations. At the same time, WM hires her daughter to run the foundation; the foundation pays daughter $2 million a year for her services and, at the same time, distributes virtually none of its assets to charity.

What we have, in essence, is WM giving money to her daughter and, at the same time, taking a deduction for that money. Intuitively (and, in fact, legally) that feels wrong.

But how to prevent this kind of abuse? We can’t simply prohibit charitable organizations from hiring and paying people—if we did that, charitable organizations would find it basically impossible to run, as most people can’t afford to run a charitable organization for free.

Ultimately, the courts have provided a conceptually simple, but administratively difficult, answer: “Salaries may be paid, but unreasonable salaries constitute inurement of benefit.”[fn2] Basically, deductible donations made to a tax-exempt organization must benefit the public at large, and not insiders.

So here’s the problem that a tax-exempt organization has to answer: what’s an unreasonable salary?

The answer: it’s complicated. (In fact, this question alone demonstrates the importance of good tax advice.) It’s complicated because there is no clear standard; instead, it’s a fact-and-circumstances inquiry, where the court essentially takes a holistic approach. The case law points to the following criteria, among other things, in deciding whether compensation constitutes private inurement:

1. Benefits to an insider at the charity can constitute private inurement.[fn3]
2. Constant, significant increase in compensation, irrespective of entity revenue or amount of work performed.[fn4]
3. Significant control over the tax-exempt entity (including a significant say in setting one’s own compensation).[fn5]
4. The compensation is in line with compensation at comparable charities. (Note that it is the charity’s responsibility to provide comparability reports; even if it had a disinterested board approve the compensation, without those objective reports, it is hard to prove that compensation is reasonable.)[fn6]

How does OSF fare on this? John Dehlin is clearly an insider—he founded OSF and serves as its vice-president. His compensation has increased materially over the last four years, and has done so irrespective of the amount of donations received.[fn7]

Moreover, Dehlin is one of three board members; though I don’t know the details, I would assume he has a significant say in his compensation.

As for the compensation of comparable individuals: this is where actual legal and tax advice would come in really handy. Dehlin’s annual salary has never been less than 25% of OSF’s annual revenues, and has been as high as 66%. I’ve done a quick search for tax-exempts in the religious area with revenue of between $100,000 and $500,000 a year, and the closest I’ve seen is in the 25% range, but my search hasn’t been exhaustive by any means. Still, unless OSF has comparability data, even if the board setting compensation were independent, the salary would look like private inurement.[fn8]

Also weighing against OSF’s claim to be a tax-exempt organization: it seems to have been formed for the purpose of supporting Dehlin. The Tribune article quotes Dehlin as he’s forming the tax-exempt organization as essentially selling OSF as a way to support him in exchange for his producing Mormon Stories:

“Your donations will go toward tuition, groceries, insurance and any other expenses I incur,” the podcaster told them. “What I’ll give back is building resources to meet your needs.”

That seems to reflect his mindset: in 2010, he wrote:

Back in the summer of 2010 I made a deal w/ the listeners.  If enough of you would sign up for monthly financial donations to Mormon Stories , I would promise to release a quality episode each week.  The way that I was able to make this happen as a super busy Clinical Psychology Ph.D. student was to turn down other paid assistantships and do Mormon Stories as my part time job while in school.  While the money in no way covers my family’s annual expenses, it does help us pay for things like health insurance, groceries, etc.

The problem with this: supporting Dehlin—or any other individual—is not a charitable endeavor, and does not qualify for deductible donations. Section 501(c)(3) was designed with public, not private, good in mind.

Two things to keep in mind here: first, there is no legal problem with donating to somebody to support that person. That’s the basic design behind Kickstarter, Indiegogo, and dozens of other crowdfunding sites. The difference is, funding somebody (or somebody’s project) on those sites doesn’t allow donors to deduct their donations. The anti-private inurement rules kick in solely as a result of exemption from taxation.

Second, I’m not trying to suggest that Dehlin or OSF acted fraudulently, or deliberately took advantage of the tax law. Seriously, everybody who has ever heard of “private inurement” before this post, please raise your hand. Okay, tax attorneys and employees of major non-profits, put your hands down.

Anybody left? I didn’t think so. Mostly, people don’t use tax-exempt organizations to cheat the system. They’re subject to tight regulation and broad financial disclosure requirements. But unless you’re familiar with the area, there are tons (and tons and tons) of potential traps. Maybe OSF successfully navigated them. But, on my surface-level review, I’m skeptical.

Two final things: I reiterate my strong recommendation that OSF engage a competent legal advisor. (And note that I am not that person: though I can read the tax law, I don’t have professional experience directly on point, so I don’t know where you would go to figure out comparable salaries, etc.) Ditto for anybody else thinking about starting a tax-exempt organization.

Second, this is not the place to discuss disciplinary councils or the ethics of making money in church-related endeavors. It’s not a place to praise or slander Dehlin, Mormon Stories, OSF, or the church.

Also, yes, I know OSF discloses its finances and the church doesn’t, but, for the sake of this post, I don’t care. The tax law requires most tax-exempt organizations to disclose (and thus, OSF is complying with the tax law), but it doesn’t require churches to (and thus, the church is complying with the tax law).

There are plenty of places in the bloggernacle to do any of those things, and I’ll ruthlessly delete anything that goes in that direction. This post is directed specifically at tax-exempt compliance, and more specifically, at private inurement.

—

[fn1] A couple caveats:

Can I use this post as legal and/or tax advice? No. I’m probably not licensed in your jurisdiction, and I’m not interested in giving legal or tax advice now. I would recommend getting competent legal and tax advice, though, if anything I write concerns you.

Why are you writing this now? Are you out to get John Delhin? Nope. I actually hope this is helpful to him and OSF. I don’t actually listen to Mormon Stories, and don’t follow that world except when it steps into the world I do follow. Which it has. (Also, the IRS is perpetually underfunded. One way it manages to do enforcement is by waiting until a potential violation makes the news. And OSF’s finances have made the news in a big way.)

But aren’t you trying to discredit Dehlin? Honestly, no. I don’t have a problem with a person making a living, even making a living that revolves around the church. (Seriously, even though the Book of Mormon says “priestcraft,” I feel like we wield that as a fuzzy-concepted sword far too easily.) And I honestly don’t think he set up OSF to try to engage in private inurement; though it’s an important concept in the 501(c)(3) rules, it’s not necessarily an intuitive one. But even though I don’t believe he (or the board of OSF) acted with bad intent, that doesn’t vitiate the potential violation of OSF’s tax exemption.

[fn2] Bubbling Well Church of Universal Love v. Comm’r, 670 F.2d 104 (9th Cir. 1981).

[fn3] United Cancer Council, Inc. v. Comm’r, 165 F.3d 1173 (7th Cir.1999).

[fn4] Founding Church of Scientology v United States, 188 Ct Cl 490 (1969).

[fn5] Id. In this case, L. Ron Hubbard and his wife were two of the three board members.

[fn6] Family Trust of Massachussetts, Inc. v. United States, 892 F.Supp.2d 149 (D.C.D.C. 2012).

[fn7] It also doesn’t reflect additional work he’s done: each year’s Form 990 estimates that he works 50 hours a week on OSF stuff.

[fn8] FWIW, there don’t seem to be a lot of tax-exempt organizations in this precise space. Salary-wise, though, by way of comparison, Ira Glass made about $280,000 in 2013. (I frankly expected him to make a lot more than that.) But Ira Glass is not, I suspect, a good comparison.