[NEohioPAL] Filmmaking and Nonprofits, Installment #2

[Mary Ellen Tomazic]

You can read my entire article with all five installments at my website,
met-iplaw.com, but here is #2.

                             *Filmmaking as part of a Nonprofit Organization
*

                                  By Mary Ellen Tomazic



Installment II. Nonprofit Case Studies



        Despite the existence of exempt purposes of an organization,
commercial purposes of a business run by a nonprofit may not qualify for
tax exemption under  §501(c)(3). The case of *Goldsboro Art League v.
Commission[1]<file:///C:/Users/Maryellen/Documents/Filmmaking%20as%20part%20of%20a%20Nonprofit%20Organization%20-%20Installment%20%232.docx#_ftn1>
* helped develop the “commerciality doctrine”,  by deciding the issue of
whether the Art League was operated exclusively for one or more of the
exempt purposes in §501(c)(3). The Art League operated the Goldsboro Art
Center which furnished educational and charitable services to the
community, sponsoring art classes in conjunction with Wayne State College,
art demonstrations and workshops, and a film series. It also owned 52
pieces of art as a permanent collection, which it displayed in public
buildings in the county. The Art League had some paid employees but relied
on volunteers, and hired some employees through CETA and other government
programs. The League operated two public galleries which exhibited and sold
art, collecting the sales proceeds and turning the money over to the
artists minus a 20% commission for estimated expenses. The Tax Commissioner
found that the galleries had “relatively minor receipts” and expenses for
the years in dispute[2]<file:///C:/Users/Maryellen/Documents/Filmmaking%20as%20part%20of%20a%20Nonprofit%20Organization%20-%20Installment%20%232.docx#_ftn2>,
with gross receipts totaling $6500 and profits never exceeding $750. The
total revenues of the League from all sources in 1976-1978 were $47,109,
$47,440, and $57,289.[3]<file:///C:/Users/Maryellen/Documents/Filmmaking%20as%20part%20of%20a%20Nonprofit%20Organization%20-%20Installment%20%232.docx#_ftn3>The
League contended that the gallery sales were incidental activity but
helped to purpose its exempt purposes to further the public’s appreciation
of art and not to serve private interests, although the Commissioner argued
that the artists whose art was sold in the galleries were private
individuals who benefited. The Commissioner further said that the
activities were indistinguishable from those of a commercial art gallery,
so that the League operated them for a substantial commercial purpose which
may not qualify for a tax exemption. However, the League’s argument carried
the day with its claim that the promotion of the arts is an educational and
charitable purpose. The purpose of the galleries was primarily to foster
community awareness and appreciation of contemporary artists and provide a
constant flow of art for students to study art and painting techniques. One
of the important factors in the favorable decision was that there were no
other art galleries or museums in the area to exhibit the artists’ work,
and thus the League was not competing with other commercial galleries. The
sales activities were found to be incidental to the League’s other
activities and serve the same overall objective of art education, and the
League was not operating the galleries for profit, it was entitled to an
exemption under §501(c)(3).

        In view of the treatment of other nonprofit organizations
businesses by the Internal Revenue Service, it is fair to say that the
amount of profit made from a nonprofit’s businesses play a large part in
the determination of whether they are found to be “insubstantial” in
relation to the organization’s charitable activities. The current I.R.S.
regulations require that in order for profits from a nonprofit’s business
to be exempt from taxation there be a substantial causal relationship
between the business carried on and the exempt organization’s purpose; the
activity must “contribute importantly” to the accomplishment of an exempt
purpose.[4]<file:///C:/Users/Maryellen/Documents/Filmmaking%20as%20part%20of%20a%20Nonprofit%20Organization%20-%20Installment%20%232.docx#_ftn4>The
size and extent of the activity is emphasized in the regulation, and
if
a business is conducted on a scale larger than necessary to carry out an
exempt purpose, it is more likely to be treated as unrelated and subject to
taxation. The potential for competition with a commercial counterpart is
another important
factor.[5]<file:///C:/Users/Maryellen/Documents/Filmmaking%20as%20part%20of%20a%20Nonprofit%20Organization%20-%20Installment%20%232.docx#_ftn5>The
*Goldsboro Art League *case illustrates a connection between an exempt
purpose and a profit-making business that “contributed importantly” to the
organization’s purpose, but other seemingly “causal” relationships have
been found not to entitle the organizations to a tax exemption. Factors
contributing to these organizations’ failure to convince the Tax
Commissioner that their business activities were “substantially related” to
their exempt purposes had a lot to do with the amount of money they
generated. Once the organization starts making more money than the
organization needed for its exempt purposes, it looks more like a regular
for-profit business. Even religious organizations, which are the only
organizations that are automatically entitled to a tax exemption under
Section 501(c) (3) of the Tax Code, can jeopardize their tax exempt status
by becoming too profitable.

        *Presbyterian and Reformed Publishing Co. v.
Commissioner*[6]<file:///C:/Users/Maryellen/Documents/Filmmaking%20as%20part%20of%20a%20Nonprofit%20Organization%20-%20Installment%20%232.docx#_ftn6>was
an appeal from the revocation of the tax-exempt status of a
religiously-oriented publishing house, which they had retained for
fifty-two years. The publisher had recently become a profitable venture
when books by one of its authors, Jay Adams, unexpectedly became wildly
popular, leading to escalated profits. Previously, the company claimed no
income over expenses, with the family members who founded the company
contributing their own funds to keep the corporation afloat. From 1931 to
1973, P & R relied exclusively on volunteers to help the family with
editing, packing, shipping and clerical work. By 1979, twelve paid
employees had been hired and the family members were receiving salaries.
The publisher accumulated surplus cash and notified the IRS that it was
their “building fund”, which was used to purchase land in New Jersey and
for construction of a combined warehouse and office building. The
publisher’s relationship with the Presbyterian Church group with whom it
claimed affiliation by that time had become attenuated, and “had acquired a
truly commercial hue” according to the Tax Court. The IRS based its
revocation of P & R’s tax exempt status on the “profit motivated” decisions
it was now making, such as making formal contracts with authors, paying
substantial royalties and dropping money-losing plans. It set prices which
generated “comfortable profit margins” instead of lowering prices to
encourage a broader readership, and the Tax Court decided this was
sufficient evidence that P & R was “in competition with commercial
publishers.” The publisher’s non-denominational character, not being
affiliated or controlled by any particular church organization, contributed
to its being seen as having a substantial commercial and nonexempt purpose,
and led to the revocation of its tax exemption. The publisher’s
accumulations of cash exceeded its expenses, even with the new buildings,
and those buildings also furthered its commercial purposes. The publisher’s
purpose had been called into question, but ultimately the Third Circuit
Court of Appeals reversed the Tax Court, fearing a per-se rule against
profit-making activities of §501(c)(3) organizations. The Court instead
considered the balance of the record to determine whether all evidence
taken together supported a finding of non-exemption. It stated that
“success in terms of audience reached and influence exerted, in and of
itself, should not jeopardize the tax-exempt status of organizations which
remain true to their stated
goals.”[7]<file:///C:/Users/Maryellen/Documents/Filmmaking%20as%20part%20of%20a%20Nonprofit%20Organization%20-%20Installment%20%232.docx#_ftn7>The
court was concerned about disparity in treatment for publishers
affiliated with mainstream churches as opposed to small offshoots. P & R
had kept to its original stated purpose to “state, defend and disseminate
(through every proper means connected with or incidental to the printing
and publishing business) the system of belief and practice taught in the
Bible” and set forth in the catechisms of the Presbyterian Church. P & R’s
broad scale increase in commercial activity jeopardized its tax exempt
status, but did not forfeit it. It is an example of the problems nonprofits
find when they become successful enough to be deemed to be in competition
with for-profit companies. Religious organizations, with their automatic
entitlement to a tax exemption under §501(c)(3), and their exemption from
the reporting requirements the law places on other types of nonprofit
organizations, are looked at more closely when they generate large profits.

        Taking these two cases into consideration, would the ministry in
question be able to finance its documentary film through its YouTube
channel advertisements without running afoul of the IRS’s rules for tax
exempt organizations? The documentary and its subject matter, the declining
participation of men in the church over the last 50 years, would further
and “contribute importantly” to the purpose of the §501(c)(3) organization.
But would the means of funding end up being too unrelated to the purpose of
the ministry, aside from the need for income to pay its expenses, to be tax
exempt? From the *Presbyterian and Reformed Publishing Company *case, one
may think that as long as the profits were not too excessive in relation to
the scale of the ministry, the purpose would be intact and the proceeds
would be tax exempt. The *Goldsboro Art League* case shows that the
dissemination of information about a nonprofit’s purpose may be
accomplished by creative means such as art and films.







Mary Ellen Tomazic is an attorney in Cleveland specializing in entertainment
issue such as copyright, trademarks, contracts and licenses for musical
groups and filmmakers.


------------------------------

[1]<file:///C:/Users/Maryellen/Documents/Filmmaking%20as%20part%20of%20a%20Nonprofit%20Organization%20-%20Installment%20%232.docx#_ftnref1>Tax
Court of the United States, 1980, 75 T.C. 337.

[2]<file:///C:/Users/Maryellen/Documents/Filmmaking%20as%20part%20of%20a%20Nonprofit%20Organization%20-%20Installment%20%232.docx#_ftnref2>1976-1978.

[3]<file:///C:/Users/Maryellen/Documents/Filmmaking%20as%20part%20of%20a%20Nonprofit%20Organization%20-%20Installment%20%232.docx#_ftnref3>In
today’s dollars, revenues would probably be twice these figures.

[4]<file:///C:/Users/Maryellen/Documents/Filmmaking%20as%20part%20of%20a%20Nonprofit%20Organization%20-%20Installment%20%232.docx#_ftnref4>Treas.
Reg. § 1.513-1(d).

[5]<file:///C:/Users/Maryellen/Documents/Filmmaking%20as%20part%20of%20a%20Nonprofit%20Organization%20-%20Installment%20%232.docx#_ftnref5>Id.

[6]<file:///C:/Users/Maryellen/Documents/Filmmaking%20as%20part%20of%20a%20Nonprofit%20Organization%20-%20Installment%20%232.docx#_ftnref6>743
F.2d 148 (U.S. Ct. App., 3d Cir. 1984).

[7]<file:///C:/Users/Maryellen/Documents/Filmmaking%20as%20part%20of%20a%20Nonprofit%20Organization%20-%20Installment%20%232.docx#_ftnref7>Id.