February 28, 2020
In the early part of the 20th century, tax-exempt organizations were subject to few government regulations. Prior to 1969, organizations did not even have to apply to the IRS to receive federal tax-exempt status. Similarly, for many years, tax-exempt organizations did not file any annual return with the IRS.
However, five events at the turn of the century revolutionized the way the public and the government view nonprofits.
1. Scandal at Enron (1990s)
The Enron scandal and a rash of similar corporate scandals in the late 1990s involving deceptive accounting practices prompted the passage of laws promoting corporate transparency, accountability, and ethics.
2. Passage of the Sarbanes-Oxley Act(2002)
The American Competitiveness and Corporate Accountability Act of 2002, also known as the Sarbanes-Oxley Act or SOX dramatically transformed the business culture of America.
Most of SOX did not specifically apply to tax-exempt organizations, but the repercussions of SOX were so powerful the impact was felt in the nonprofit sector as well.
3. U.S. Senate Finance Committee and the Panel on the Nonprofit Sector (2005)
In response to public demand for increased accountability in all sectors, in 2004, the U.S.Senate Finance Committee commissioned a nonprofit called the Independent Sector to prepare a report of “recommendations for Congress to improve the oversight and governance of charitable organizations.”
To develop the report, the Independent Sector convened the Panel on the Nonprofit Sector,which engaged thousands of people involved with charities and foundations. The Independent Sector delivered the report to Congress in 2005.
4. Publication of the Independent Sector Principles for Good Governance (2007, 2015)
In October 2007, the Panel on the Nonprofit Sector issued the Principles for Good Governance and Ethical Practice: A Guide for Charities and Foundations (“Principles”). The Principles “reinforce(d) a common understanding of transparency, accountability, and good governance for the charitable sector as a whole—not only to ensure ethical and trustworthy behavior, but equally important, to spotlight strong practices that contribute to the effectiveness, durability, and broad popular support for charitable organizations of all kinds.” Every nonprofit leader and practitioner should read these principles and review them regularly.
The Principles contains thirty-three principles grouped into four areas:
· Legal Compliance and Public Disclosure
· Effective Governance
· Strong Financial Oversight
· Responsible Fundraising
5. Internal Revenue Service Reporting Revisions (2008)
As the administrator of federal income tax exemptions, the IRS played a significant role in the transformation of tax-exempt organization regulation.
The IRS’s two primary tools for nonprofit regulation are the IRS Form 1023 Application for Recognition of Federal Tax Exemption and the IRS Form 990 Information Return.
A. IRS Form 1023
In Form 1023,the IRS seeks information about accountability by asking specific questions about their conflicts of interest policy, the process for setting compensation,etc.
B. IRS Form 990
In 2008, the IRS revised the annual information return (Form 990) that many tax-exempt organizations must file. The IRS Form 990 is publicly available and posted on the internet. Using the information in the report, the public, state charity regulators, legislators, and the media can evaluate the effectiveness and management of tax-exempt organizations.
6. State Model Nonprofit Corporation Act Revisions (2008)
Continuing the trend toward transparency and accountability, in 2008, the Nonprofit Organization Committee of the American Bar Association revised the model set of statutes used by state legislatures to govern nonprofit corporations in their state. The revisions include:
· Standards of conduct for directors and officers to follow;
· Guidelines for handling a director’s conflicts of interest;
· A prohibition against loans to and guaranties for officers and directors; and
· Liability on directors for unlawful distributions.
Some version of the model statutes has been adopted in 37 of 50 states. Consequently, these standards of conduct are not only best practices, but binding law for many nonprofit organizations.
Since these five events in the early 2000s, public and government scrutiny of nonprofit organizations has only increased. Understanding the modern demand for transparency and accountability is key to building a strong and sustainable nonprofit organization.