TAX RETURN REDUX Or How I Learned to Stop Worrying And Love the New Form 990

Sean Callan, Dinsmore & Shohl

For several years, the Internal Revenue Service (“IRS”) has worked to redesign the Form 990 annual tax return filed by tax exempt organizations (“TEOs”), including fraternities, sororities and their foundations.  The redesign process was based upon three (3) guiding principles:

• Enhancing transparency to provide the IRS and the public with a realistic picture of the organization;
• Promoting compliance by accurately reflecting the organization’s operations so the IRS may efficiently assess the risk of non-compliance; and
• Minimizing the burden on filing organizations.

IR-2007-117, June 14, 2007 (emphasis added).

The result is the redesigned Form 990, a detailed filing requiring input from all aspects of the reporting TEO, including operations, accounting and legal. The form consists of an eleven (11) part core form, with sixteen (16) schedules. However, the form is much more than a simple “check-the-box” return.  The approach is one of general disclosure, requiring the reporting organization to explain many of its simple “yes” or “no” answers.

While the redesigned form may promote “transparency” and “compliance“, the burden on filing organizations is clearly greater than it was.  In fact, in its first ever Annual Report, the IRS TEO Division discarded the notion of “minimizing” the burden on filers, noting instead that the redesign accomplished the goals of “increasing transparency”, “promoting accountability” and “encouraging compliance”.  Exempt Organizations Annual Report, November, 2008.  The IRS jettisoned the goal of “minimizing” the burden on the filing organization somewhere along the way.

Moreover, more and smaller organizations will be required to report.  The IRS itself has recognized the disparity in size of reporting TEOs noting that although small organizations make up the largest percentage of TEOs, the largest 1% of public charities hold 66% of the sector’s assets, and account for 61% of the sector’s revenue.  (IRS pub. Background Paper Redesigned Draft Form 990).  Nevertheless, all reporting TEOs, big and small, must file the redesigned Form 990.  How small?  Beginning in Tax Year 2010, all TEOs with Gross Receipts exceeding $200,000 or Assets exceeding $500,000 will be required to file the new Form 990.  Currently, only TEOs with Gross Receipts exceeding $1 million or Assets exceeding $2.5 million are required to file a Form 990.

In addition to subjecting more and smaller TEOs to filing requirements, the scope of inquiry is significantly broader than before.  The new form is no longer a sleepy “check-the-box” tax return, but rather something very much like an annual report with a focus on general disclosure.  For instance, the new Form 990 inquires deeply into TEOs organizational structures and operations.    However, the same general disclosure characteristic that makes the new Form 990 so challenging provides reporting organizations with great opportunity.  A reporting TEO can use the Form 990 itself to explain any deficiencies it may have, while also using the return to trumpet its successes and mission.  This article outlines the major changes in the redesigned Form 990 related to corporate governance, provides thoughts about what a filing organization can do to protect itself prior to filing, and finally provides thoughts on completing the new Form 990 itself.

Governance

Perhaps the most obvious and far-reaching change in the Form 990 is the IRS’ adoption of a corporate “best practices” standard in the tax exempt sector.  Some practitioners have concluded that these “best practices” are the non-profit equivalent of Sarbanes-Oxley.  While there is no statutory authority for IRS review of TEO governance, the IRS “believes that a well-governed charity is more likely to obey the tax laws, safeguard charitable assets, and serve charitable interests than one with poor or lax governance.”  (IRS pub. Governance and Related Topics – 501(c)(3) Organizations).  Fortunately, the redesigned Form 990 contains hints to satisfy the IRS “best practices” standards.

The first step in satisfying the IRS “best practices” standard is the articulation and adoption of a clear mission statement.  The redesigned Form 990 both allows, and requires, all filers to describe its mission (see Form 990, Part I and Part III, respectively).  Any organization that has not yet adopted a mission statement should and, if adoption is not possible prior to the filing date, thought should be given to a descriptive response in Schedule O (see discussion of Schedule O below).

The new Form 990 also requires information about the organization’s governing board.  The questions are designed to elicit information to identify potential self-dealing transactions, conflicts of interest, and excess compensation problems.  Additionally, TEOs must report whether board meetings are contemporaneously documented and whether board actions are memorialized in writing.  Perhaps most discomforting, TEOs must report whether each board member received and read the Form 990 prior to filing.  Practice tip –   you really want to answer “yes” to this question!

IRS “best practices” also require that TEOs adopt certain policies, in writing, including a conflict of interest policy, a whistleblower policy and a document retention policy.  The existence or non-existence of these policies is required to be reported on the new Form 990.  Additionally, with respect to the conflict of interest policy, the Form 990 requires explanation of how a conflict of interest is internally handled.  Obviously, the “correct” response to these inquiries on the Form 990 is that the reporting TEO has adopted these policies…….

Top Ten list for reporting TEOs.

If your organization has not completed one or more of the following items, do so as soon as possible!

1) Articulate a mission statement and adopt it.

2) Adopt a written conflict of interest policy.  This should include a mechanism for responding to a potential conflict of interest, as well as steps undertaken to document potential conflicts of interest.

3) Adopt a written whistleblower policy.

4) Adopt a written document retention and destruction policy.

5) Adopt a policy requiring your local chapters, branches and affiliates to adopt written policies and procedures governing their respective activities consistent with those of the umbrella organization.

6) Adopt a process for determining compensation of key employees and top management which process should include review and approval by independent persons of data from comparable organizations and contemporaneous substantiation of the deliberation and decision.

7) Adopt a policy and procedure to provide donors and the public with information about fundraising costs and practices.

8) Make a plan for how and where the organization will make its Forms 1023 or 1024 available for public review and copying as well as filed forms 990 and 990-T for a period of three (3) years from the date of filing.

9) Make a plan for how and where the organization will make its organizational documents, conflict of interest policy and financial statements available to the public.

10) Ensure board members have a copy of the Form 990, including schedules, for review prior to filing.  If you are a board member, review the Form 990 and Schedules!

Using the Form 990 to TEOs Benefit.

While the redesigned Form 990 is new and challenging, it does allow a filing organization significant opportunity to explain any deficiency.  So, if any TEO cannot complete items 1-10 above prior to filing, use the Form 990 itself to tell the IRS that the organization is aware of the issue, and is taking steps to remediate any deficiency.  For instance, if a filing TEO does not have a written conflict of interest policy, it must check “no” in Part VI of the Form 990.  However, such an infirmity can be explained in Schedule O together with assurances that the board is undertaking actions necessary to rectify the infirmity by 2010.  While there is no textual or statutory authority for the position, many practitioners feel that the IRS will allow Form 990 filers some indulgences in tax year 2008 returns.  This is particularly true if the filing TEO recognizes a problem while providing a solution to the problem within the return.  In fact, the IRS itself has described the intial review of the new returns in terms of evaluation “of the information reported” to “assess whether the form is serving its intended purpose.”   Exempt Organizations Annual Report, November, 2008.  However, Form 990 filers should not expect the same largesse in 2010.

Moreover, the redesigned Form 990 allows more discourse and explanation than previously.  A filing organization can use the “general disclosure” approach of the new Form 990 to its advantage, describing the great works of the organization.  For example, Part III of the Form 990 not only asks for a mission statement, but it also allows the organization to describe how the organization’s mission is accomplished through its program service activities.  This is a great opportunity to explain how the organization accomplishes its mission.

Conclusion

Without question the redesigned Form 990 is a challenging return.  The filing requirement applies to more and smaller organizations than before, while the demand for corporate “best practices” will surely strain smaller and less sophisticated organizations.  However, if an organization undertakes the basic steps outlined above, the Form 990 return can also become a great way to broadcast the mission and successes of the filing organization.  The organizations that can adopt “best practices” and be unafraid of “general disclosures” may well find the new Form 990 to be a great way to advertise its achievements.  So, stop worrying and learn to love the redesigned Form 990…….