Legal Tidbits - Tipping and the Public Support Test


Practice Areas

NCNG Network News
Dec. 15, 2012

Many grantmakers fear that making a disproportionately large gift to an operating charity might “tip” the charity out of compliance with the public support test, thereby causing the charity to be reclassified as a private foundation. In our experience tipping is rare, but when it occurs the consequences are significant for the operating charity grantee and in more limited circumstances to the private foundation grantor. Public charity grantmakers such community foundations and collective giving funds, however, for the reasons discussed later need not fear tipping. There are a myriad of practical concerns for all grantmakers when making windfall grants to operating charities, of course, but this article will focus on the federal tax law implications of tipping.


Tipping occurs when a large contribution from a single donor causes an operating charity to fail to meet the requirements of the public support test. An organization that qualifies as a Section 509(a)(1)/170(b)(1)(A)(vi) public charity based on its public support, however, must calculate its public support ratio over a 5-year measuring period to the satisfaction of the Internal Revenue Service (the “Service”) in its annual Form 990. All the gifts received by the organization go in the denominator of the public support ratio, but gifts from individuals and certain corporate entities (including private foundations) are capped in the numerator at 2% of the total gifts received. Tipping occurs when very large gifts are capped at a low number in the numerator, thereby causing the public charity to have less than 33% and, in some instances, 10% public support.

A couple of caveats: Keep in mind that some operating charities, like churches and schools, are not required to demonstrate to the Service that they are publicly supported. The rules to calculate public support for Section 509(a)(2) public charities differ from the Section 509(a)(1) rules, the description of which is necessarily oversimplified at times in this article.

Private Foundation Grantmakers

Following are a few simple examples that illustrate the basic rules for Section 509(a)(1) public charities that receive gifts from private foundations and explain why tipping is rare: If a public charity received $100,000 from 100 donors who gave $1,000 each there would be no capping (because the $1,000 is less than the 2%/$2,000), the charity would receive 100% public support. What if $35,000 came from 35 donors at $1,000 each and $65,000 came from a private foundation? In this scenario, the public support would be 37% because the private foundation gift would be capped at 2% ($2,000) in the numerator but the entire amount would be in the denominator. But, that's not even a problem because a Section 509(a)(1) organization only needs 33% and, in some instances, as low as 10% public support to preserve its public charity status. Even if an organization failed the public support test in one year because, for example, the entire budget was funded by a single private foundation, the charity would still have three years to obtain adequate support from the general public to protect its Section 509(a)(1) status.

As mentioned earlier, the consequences are significant for grantees that forfeit their public charity status due to tipping and are forced to comply with the many private foundation restrictions that would not otherwise apply including, for example, mandatory minimum distributions, net investment taxes, and expenditure responsibility rules. With planning, however, a private foundation grantor can avoid the adverse consequences (i.e., expenditure responsibility obligations) of tipping. The Service has stated that a private foundation cannot be penalized for tipping a grantee so long as (1) the grantee has a valid determination letter at the time the grant was made; (2) the Service has not revoked the letter and the private foundation is not aware of imminent action by the Service to do so; and (3) the private foundation and/or its disqualified persons do not directly or indirectly control the grantee. Note that this safe harbor applies equally to grants for Section 509(a)(1) and Section 509(a)(2) public charities. Accordingly, best practices for private foundations when making a large gift to a small organization include:

Public Charity Grantmakers

Many grantmakers, such as community foundations and collective giving funds, are themselves classified by the Service as Section 509(a)(1) public charities. Public charity grantmakers need not be concerned by the threat of tipping because gifts from Section 509(a)(1) public charities count fully in the numerator and the denominator of the public support ratio regardless of the amount of the grant. Tempting as it may be for an individual, for-profit corporation or private foundation to avoid the tipping rules by earmarking a contribution to a public charity grantmaker for the benefit of another public charity, this strategy is not permissible under the federal tax rules. The application of the tipping rules is another example of the flexibility afforded by the Service to public charity grantmakers that does not extend to private foundations.

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