July 29, 1999 | Read Time: 5 minutes
Faced with a huge national budget surplus, many in Congress are seeking ways to cut taxes while transferring social services from government to the private sector.
Yet one seldom-discussed action could simultaneously reduce taxes and raise nearly a half-billion dollars for some of the nation’s neediest citizens and worthiest causes: repealing the foundation tax.
For the privilege of giving away millions of dollars each year to worthy causes, foundations have been charged since 1969 an annual tax — currently around 1 per cent — on their net investment earnings. If Congress were to repeal the tax — then require that foundations add the money they save to the 5 per cent of invested assets that they are required to distribute to charities each year — some $500-million a year or more could be redirected to charities.
Most foundations would welcome the chance to expand their giving rather than contribute to the U.S. Treasury’s coffers. What’s more, the plan not only insures that grantees receive more funds; it also provides a partial answer to the thorny problem of whether, in these times of huge growth in investment assets because of the bullish stock market, foundations should be required to distribute more than the current 5-per-cent minimum each year.
Some people might object to this idea, because the foundation tax was at one time supposed to pay for the regulation of non-profit groups. But eliminating the tax would not leave foundations and charities unregulated by the federal government. Indeed, there is no correlation between what foundations pay in tax and the amount of money that is allocated to the Exempt Organizations Division of the Internal Revenue Service to regulate non-profit groups.
Historically, in fact, the foundation tax has never quite worked as it was intended. The initial tax on foundations was enacted by Congress in 1969 as a form of punishment for what was commonly perceived to be a tax-exempt way for elite activist foundations to finance programs and projects that were not politically popular, such as legal aid for the poor.
In 1974, Congress stipulated that the money raised by the tax be dedicated to provide funds for the newly created Employee Plans and Exempt Organizations Division of the I.R.S. That direct mechanism to provide regulatory funds has never been implemented, however, and the money raised through the foundation tax has instead gone to general tax revenue. Rather than flowing from that specific source, the amount of funds received by the Exempt Organizations Division is totally dependent on annual Congressional appropriations. In 1998, the budget for the I.R.S. office that regulates non-profit groups and retirement plans was $133-million — far less than the amount paid by foundations in 1997.
Because of chronically low appropriations by Congress over the years — which resulted in staff cutbacks and, some have charged, inadequate regulation — many in the charity world have pushed to have that provision implemented. But Congress in 1998 repealed the never-implemented section of the law, thus abandoning even the pretense that there is a connection of the foundation tax to regulation.
In other words, even if the tax were to be repealed, foundations would still face the same requirements on their giving and annual reporting that they currently face from regulatory bodies. That includes penalties from the Internal Revenue Service, and even potential criminal charges, if foundations engage in shady dealings with donors or others involved in their operation, or if they fail to be prudent in their business practices. In addition, many states require that foundations file reports with the attorney general’s office, and grant makers face penalties if they do not comply. Those are all reasonable safeguards and should be continued in the absence of a foundation tax.
One key reason Congress should act now is that the number of foundations — and the net worth of their assets — continues to expand rapidly. Today, the nation boasts close to 50,000 foundations, with a total net worth of more than $300-billion — and, consequently, the total received through the foundation tax continues to spiral upward. What’s more, many observers believe that the increase in the number and assets of foundations will only skyrocket as the successful parents of baby boomers begin to find ways to pass on their lifetime earnings.
Ironically the burgeoning tax collection from foundations comes at a time when the federal government is doing less and asking the charitable world to do more to provide essential services. In effect, then, we are taxing foundations for the “right” to finance our social safety net, education, the environment, and the arts.
The transfer of money from the tax rolls to the grant rolls that would come with a repeal of the foundation tax could have significant implications for non-profit organizations. For example, the Ford Foundation had a 1997 tax obligation of nearly $20-million. How much more of that would be better spent on family services in the barrios of San Antonio, church-based community development to revitalize Chicago’s West Side, or watershed restoration that will aid economic development at Henry’s Fork, Idaho?
Similarly, the Rockefeller Foundation had a 1997 tax bill of nearly $10-million. How much more might it spend on capturing through dance, music, and video the unique ethnic drumbeats of Miami; training teachers in Albuquerque, N.M., schools; or finding jobs for residents of poor New York neighborhoods?
As Congress and the President divvy up the budget surplus and work on a new tax bill, let’s hope they make the most of opportunity. By repealing the foundation tax, they can permit private foundations to give much more to causes in need, rather than to a federal government flush with cash.
Christopher T. Cross is president of the Council for Basic Education, in Washington.
