Spring 2004

Commentary
To Uphold Public Trust of Foundations, Spread the
Minnesota Model and Increase IRS Oversight

by Bill King, president
Minnesota Council on Foundations

Several newspapers across the country have recently reported isolated but appalling examples of private foundation abuses, where a few unscrupulous officials have used foundation assets for their personal benefit rather than the intended charitable purpose. Reining in such abuses will require two things: Allocating more resources to IRS oversight of the nonprofit sector and spreading Minnesota's model of foundation accountability to other states.

The Minnesota Council on Foundations has always valued the role of oversight organizations like the IRS and Minnesota Attorney General's Office to ensure that all charitable resources are used solely for charitable purposes. Although the vast majority of foundations behave legally and ethically, the few that do not must be held accountable. Oversight that is not excessively burdensome helps maintain a high level of legal and ethical behavior in any field that is being monitored. Effective oversight, coupled with self-regulation through the Principles for Minnesota Grantmakers, create a model that preserves public trust of the foundation field. This issue has been a top priority for the Council since its founding in 1969.

There are already sufficient federal laws on the books to regulate foundations and prevent abuses, but insufficient oversight opens the door for unprincipled individuals to skirt these laws with little risk of consequences. Federal self-dealing rules ban most transactions between a foundation and its officers, directors, trustees, substantial contributors, their family members and entities owned (using a 35 percent threshold) by any of these individuals. Violations of these rules can result in significant tax penalties.

Sadly, the chances of any such violations being uncovered by the IRS are remote. While the number of private foundations in the country exploded during the 1990s, the ability of the IRS to enforce the laws governing foundations diminished just as dramatically. Between 1990 and 2001, the number of U.S. foundations nearly doubled from 32,401 to 61,810, according to The Foundation Center, but the number of IRS audits of private foundations dropped from 1,200 to less than 120. Although foundations are required to submit detailed informational tax returns each year, the odds are great that an IRS official will never read these returns.

Some may argue that it is unreasonable to call upon Congress to allocate more resources to the IRS at a time of such huge federal budget deficits. But back in 1969, Congress established a private foundation excise tax (currently 1-2 percent of a foundation's investment income) that was originally intended to pay for IRS costs of overseeing tax-exempt organizations (private foundations are the only nonprofit organizations that are taxed). Although private foundations paid excise taxes totaling about $480 million in 2001, the budget of the IRS exempt-organization division that year was just $58 million. If Congress is concerned about sufficient oversight of the nonprofit sector, it should allocate more of the excise tax revenue for its original purpose.

Despite a lack of adequate federal enforcement of foundation laws, Minnesota is fortunate to have one of the most active state attorneys general for providing effective oversight of foundations and public charities. And Minnesotans will be heartened to know that the state's foundations have taken it upon themselves to uphold high standards of ethics and accountability, creating a national model in the process.

Eight years ago, the Minnesota Council on Foundations approved the Principles for Minnesota Grantmakers, which establish a code of ethics for responsible and accountable behavior by private foundations, community/public foundations and corporate giving programs. The Council was the first regional association of grantmakers in the country to establish such principles, and until a few months ago was the only such association to do so.

The Council's more than 155 member foundations and corporations must subscribe to the principles each year as a condition of membership. The Council has also created detailed sets of practices to help foundations implement the principles in their own organizations, and provides a wide range of ongoing programs, tools and other resources for maintaining the public trust of foundations (the principles and practices are available online).

But even for a state like Minnesota with an active attorney general and a highly ethical foundation field, the regulation of private foundations cannot be fully effective without sufficient IRS oversight. And in other states, which for the most part don't yet have their own version of the "Minnesota model" of foundation standards, active IRS enforcement of existing foundation laws is even more critical to maintain public confidence and trust in our charitable institutions.

Unfortunately, a politician is not likely to win many votes by taking a position in favor of more funding for the IRS. But that is exactly what is needed to ensure that all funds placed in private foundations nationwide are used for their intended purpose - to help charitable groups strengthen and improve the health and vitality of our communities and citizens.

© Copyright 2004 Minnesota Council on Foundations
Reproduction in any form without the written permission of the publisher is prohibited.