Broaching the Topic of Taxation

As the economy slows, more cities may ask charities to pay for services

When Lutheran World Relief decided to leave New York four years ago in search of a less-expensive headquarters site, Baltimore vigorously courted the organization.

“The city kept saying: ‘We want L.W.R.,’” Kathryn Wolford, the organization’s president, recalls. “‘We want quality jobs.’”

Promises of low-interest loans to train new workers, as well as the city’s reputation as “tax-friendly” to nonprofit groups, didn’t hurt its chances with her group either, says Ms. Wolford.

“Baltimore really stood out as having a strategic intent to draw groups like ours,” she says. The city successfully wooed the Lutheran charity, which followed other organizations, such as the NAACP and the Annie E. Casey Foundation, that were seduced by the city’s low cost of living and proximity to Washington.

But now, Ms. Wolford and others wonder about the depth of the city’s commitment to its charities after Baltimore Mayor Martin O’Malley sought to impose a new tax on nonprofit groups. Faced with a $21-million deficit in the city’s budget, the mayor, a Democrat, this spring proposed an energy tax that would have been levied on about 2,000 of the city’s churches, social-service organizations, universities, nonprofit hospitals, and other groups — every energy-using organization or foundation in the city classified under Section 501(c)(3) of the tax code. The tax of 8 percent of an organization’s utility bills would have raised $4-million to $6-million annually. For a group like Lutheran World Relief, that would have meant payments of about $6,000 a year to the city.

Mayor O’Malley this month ended up scrapping his plan for the energy tax — but only after some of the city’s nonprofit hospitals, colleges, universities, and nursing homes agreed to pay the city a total of $20-million over the next four years to partially cover the costs of the mayor’s attempts to bolster the city’s police force and help it avoid laying off hundreds of workers.

The fallout from Baltimore’s energy-tax debate is having national reach. Nonprofit advocates worry that the city’s example may herald the return of a wave of tax proposals aimed at nonprofit organizations, a trend that crested during the recession of the early 1990’s, then receded with an improving economy.

With signs of leaner economic times ahead, efforts such as Baltimore’s “could spread like wildfire,” says Audrey Alvarado, executive director of the National Council of Nonprofit Associations. She also questions whether Baltimore’s proposal for an energy tax signals a new twist on an old idea of trying to get holders of tax-exempt property to pay local taxes. Many efforts to impose an outright property tax on nonprofit groups have been thwarted by state legislatures and courts in recent years.

“Baltimore sets a dangerous precedent,” Ms. Alvarado says. “We have to rally around the issue now and squash it before governments find more creative methods to tax nonprofits.”

Several major cities, including Chicago, Detroit, Houston, and San Francisco, already impose an energy tax equal to that paid by residents and businesses. But Baltimore’s tax law would have disproportionately affected the city’s nonprofit groups, some of their leaders said, since factories in the city aren’t taxed for energy, as they are in other cities.

Opposite Views

Baltimore’s case exemplifies the diametrical views governments often hold of nonprofit institutions. On the one hand, the services delivered and jobs created by charities provide an economic boon to municipalities and counties. But in locations that rely heavily on property taxes for revenue, having too much land held by tax-exempt groups can strain government budgets.

The prospect of job creation amid the city’s crumbling manufacturing base was what had driven Baltimore and its mayor at the time, Kurt L. Schmoke, to court regional, national, and international nonprofit groups in the 1980’s and ’90’s.

Some now say the strategy was too successful.

Property owned by nonprofit groups has grown from 6 percent in 1980 to 11 percent this year, meaning that much more land has been taken off the city’s tax rolls in the past two decades.

Says Lois Garey, a city councilwoman: “We’re reaping what we’ve sown. When nonprofits come in, what income does the city have to replace what they’re taking off the tax rolls?”

Ms. Garey — whose district includes parts of the Johns Hopkins University medical facilities, as well as the National Aquarium in Baltimore, the National Federation for the Blind, and Lutheran World Relief — has also had experience running a local charity that served several city neighborhoods.

Ms. Garey believes firmly that large nonprofit groups should contribute to the services they receive, either in the form of taxes or in payments to the city in lieu of taxes. She cites Harvard University, which pays $3-million annually to Boston and Cambridge, Mass., as well as Yale, Cornell, and Princeton Universities, which also make payments for services to their respective cities. Hospitals in Philadelphia, meanwhile, pay the city a portion of what their property taxes would be. “If Harvard pays,” Ms. Garey asks, “why not Hopkins?”

A Troubled City

Given the city’s reliance on property taxes, it became clear to elected officials in May that they weren’t going to be able to give Mayor O’Malley the $17-million he had requested to bolster the city’s police force without increasing taxes on residents and nonprofit groups.

The energy tax on nonprofit groups was seen as a way to make charitable groups pay for their share of city services. Baltimore’s leaders, aware that a change in state law to allow the city to tax nonprofit groups’ property was unlikely to pass, focused on energy usage, citing both the existence of such a tax on organizations in three Maryland counties and the city’s need for additional revenue sources.

“If you’re going to ask more from your residents in the form of higher income taxes, it’s hard to take some of the largest nonprofits in the city off the table when they use the same services,” says Stephen Kearney, a spokesman for Mayor O’Malley.

City officials say extra money is needed to solve Baltimore’s problems. The city has 50,000 drug addicts and a 24-percent poverty rate — nearly three times the figure for the entire state of Maryland.

Baltimore’s nonprofit groups tried to counter plans for the energy tax by emphasizing how much charities already contribute to the city’s economy. A study released in May by Johns Hopkins’s Center for Civil Society Studies showed that the city’s charities accounted for nearly half of the job growth in Baltimore from 1998 to 1999, the year in which 19 percent of all workers in the city were employed by nonprofit organizations.

But while the city’s nonprofit groups had successfully staved off at least two efforts to tax them during the past decade, the energy tax appeared likely to pass this time.

Inner-city religious leaders, who have strong local support, applied sufficient pressure through phone calls and meetings to persuade the City Council to impose the tax only on the city’s largest organizations and to exclude all churches.

A counterproposal made by the Maryland Association of Nonprofit Organizations and Johns Hopkins institutions promising $7-million over three years was rejected by the city.

The matter was finally resolved after the city’s biggest nonprofit groups agreed to make payments worth $20-million over the next four years — with Johns Hopkins institutions paying more than half the tab — to avoid having an energy tax imposed.

Because the larger organizations stepped forward to avert a precedent-setting local tax on nonprofit groups, many Baltimore nonprofit leaders termed the outcome a success, although many privately grumbled about having to make the payments.

Johns Hopkins spokesman Dennis O’Shea describes the settlement as “a good result,” adding that “it meets the city’s needs and gets nonprofit groups involved in the solution without putting them on the tax rolls.” Hopkins organizations will pay an average of about $2.5-million annually to the city over the next four years. Hopkins officials estimated that they’d pay about that much in energy taxes per year, while the city said that it would have reaped around $3-million annually from the tax.

Developing Strategies

Even with the measure of success in Baltimore, nonprofit leaders here and elsewhere say the battle over local taxes is almost certain to re-emerge in coming years.

But despite numerous tax threats over the past several decades, nonprofit groups have yet to present a unified front nationwide to stave off such challenges.

“One of the things we’re trying to do is monitor all this legislation across the country and look at what strategies have worked,” says Ms. Alvarado, whose group offers advice to associations of charities in 38 states. One difficulty in the past has been a dearth of data about nonprofit groups to help quantify the economic benefits such groups bring to the cities and states in which they are located, Ms. Alvarado adds.

Her association started its Policy Research Center in April, partly to keep track of tax issues and to advise its members of impending threats and how to handle them, Ms. Alvarado reports.

Other recent research efforts include reports by the Center for Civil Society Studies, which were based on Department of Labor statistics and emphasized the economic importance of nonprofit groups in specific states. In addition to Maryland, the center has studied West Virginia so far, although it plans reports on California, Illinois, Louisiana, and New Hampshire later this year.

Lobbying Efforts

But to lobby successfully against new taxes on nonprofit groups requires more than research. Among the other strategies that have worked in the past:

Win over a key legislator. The Minnesota Council of Nonprofits, which represents 4,400 nonprofit groups in the state, spent $10,000 earlier this year to shoot down a proposal by Gov. Jesse Ventura that would have given cities the option of requiring charities to pay a “public-safety fee” instead of property taxes. The governor’s plan also would have levied sales tax for the first time on many nonprofit arts groups and health centers.

Because of a lack of legislative support, Governor Ventura withdrew the measure before it could come up for a vote.

The Minnesota Council of Nonprofits says focusing on a powerful legislator to make its case to other lawmakers was crucial. Lobbyists from nonprofit groups successfully courted Republican state Rep. Ronald Abrams, chairman of the House taxation committee, whom they identified early on as a potentially powerful ally.

“We knew that legislators weren’t behind Ventura’s plan,” says Marcia Avner, the council’s public-policy director. “But we knew we had to keep on them because they’d hear from local governments who wanted the revenue from nonprofit groups.”

Mobilizing nonprofit leaders to lobby particular legislators, says Ms. Avner, “is something most nonprofits don’t think about — but they should.”

Set up a lobbying group. The Colorado Association of Nonprofit Organizations five years ago created a formal organization to help it respond to tax proposals and other measures. The auxiliary group, set up under Section 501(c)(4) of the U.S. tax code, was started to help the association defeat a ballot measure that would have resulted in most of the state’s charitable organizations having to pay property taxes.

The organization, Citizen Action for Colorado Nonprofits, raised $660,000 for the ballot fight, and the measure was defeated 83 percent to 17 percent at the polls. Because a 501(c)(3) organization is allowed by law to spend only a small part of its budget to lobby for its members, the Colorado Association of Nonprofit Organizations sought 501(c)(4) status for its affiliated advocacy group. That designation allows such groups to spend essentially all their time on lobbying. In exchange for providing that freedom to advocacy groups, the law does not allow their supporters to claim a tax deduction, as can donors to charities.

In case the taxation issue does rear its head again, a “war chest” of around $60,000 remains in the group’s coffers, says Patricia Read, who until recently headed the Colorado Association of Nonprofit Organizations. “Starting the 501(c)(4) was important for us,” Ms. Read says. “It made things much cleaner. It let donors know that their contribution wasn’t tax-deductible and reduced worries” about using charitable dollars for lobbying purposes not permitted by a charity.

Offer financial alternatives to taxes. Some nonprofit leaders have found that the best defense to counter new tax proposals is to offer what is known as payments in lieu of taxes — or PILOT’s.

In Maine, where towns and cities seek permission almost every year to eliminate property-tax waivers for nonprofit groups, the Maine Association of Nonprofit Organizations has been promoting the idea that some nonprofit groups should pay their fair share of the cost of municipal services. “We actually encourage PILOT’s where they’re applicable,” says John Walker, the association’s director. “It’s something that has impressed the legislature.”

But at the same time the association challenges Maine’s lawmakers to deal with what it sees as shortcomings in the state’s tax structure and find ways to rely less on property levies.

Charities Charge ‘Extortion’

Offering payments as a way for charities to fight off new taxes remains a controversial tactic.

Often, says Evelyn Brody, an expert on property-tax exemptions and a professor at Chicago-Kent College of Law, “municipalities think of PILOT’s as contributions, but charities call them extortion.”

Ms. Brody, editor of the forthcoming book Property-Tax Exemption for Charities: Mapping the Battlefield, says in tax fights between cities and charities, “both sides are wearing white hats.” She adds, “Both municipalities and charities constantly struggle to meet increased demand for services with their limited resources.”

A major part of the taxation problem, Ms. Brody believes, is that the burden of subsidizing public services rendered to nonprofit groups is borne by local governments, while state governments control tax-exemption laws. One solution, Ms. Brody says, would be for more states to pay cities and towns to help offset the cost of charitable tax exemptions, as Connecticut does.

Ms. Wolford of Lutheran World Relief remains ambivalent about the solution reached in Baltimore of using payments in lieu of an energy tax. Her organization definitely won’t bear the brunt financially because, like all but 22 of the city’s largest nonprofit groups, it didn’t sign the payment agreement.

She questions whether such payments are the best use of charitable dollars. Nonprofit groups need to continue to find ways to educate “city officials about the principle of nonprofit tax exemption,” she says. “I still think the dark cloud is there. I’d like to see the mayor and City Council recognize what nonprofits bring to the table in terms of services, jobs, and impact on the local economy.”

She adds: “At least now the hope is we might be able to have a stake in helping the city find long-term answers to its money problems.”