Critics Say IRS Shortcut to Tax-Exempt Status Invites Abuse

The streamlined application form for tax-exempt status introduced by the Internal Revenue Service in 2014 has come under criticism for being too easy, the New York Times reports.

After years of congressional scrutiny and criticism, and plagued by a backlog of tens of thousands of applications from organizations seeking tax-exempt status, the IRS introduced Form 1023-EZ, a stripped-down, two-and-half-page online form for organizations with annual income of $50,000 or less and assets totaling $250,000 or less. But a coalition of tax lawyers, state enforcement agents, and nonprofit leaders who support a simplified application process say the new form — which asks no questions about governance, potential conflicts of interest, or organizational purpose — makes it too easy for a dishonest person or group of people to commit fraud. For its part, the National Council of Nonprofits argues that the IRS is abdicating its oversight responsibility to screen charities and that, in the long run, the abuse likely to result from adoption of the streamlined form will undermine public trust in charities.

Tamera Ripperda, director of the Exempt Organizations division at the IRS, told the Times that about two-thirds of those organization applying for tax-exempt status are small, fledgling groups that have not yet started operating, making the longer application form, which requires extensive documentation, unnecessary. Once an organization's application for tax-exempt status has been approved, it is required to file a detailed tax return. "We think that this is a better use of our resources," said Ripperda. "Rather than examining groups upfront on what they plan to do, we're going to examine them on what they're actually doing." According to Ripperda, processing time for the EZ application averages sixteen days, compared with a hundred and ten days for the long form. She also noted that out of twenty-eight thousand EZ applications submitted since last July, about a thousand have been selected for in-depth review and questioning.

Advocates and tax professionals have long complained that the original twenty-six-page Form 1023 — which requires a narrative statement and documentation of various kinds, including bylaws, articles of incorporation, financial data, and copies of contracts with officers, directors, and service providers — was particularly onerous for small, grassroots charities. National Taxpayer Advocate Nina Olson had urged the agency to adopt an EZ version, but the new form, she wrote in a memorandum to the agency last year, "goes too far in the opposite direction, effectively making a mockery of the IRS's significant oversight function." Olson and other critics warn that without review, even well-meaning organizations could end up making serious legal and operational missteps.

"There is no real reporting to the IRS on the front end or on an annual basis," said Marcus Owens, a lawyer who formerly served as director of the agency's Exempt Organizations division. "It puts an extraordinary amount of faith in taxpayers playing by the rules. Most will, but how many do you need creating scams before it becomes a problem? History shows people will take advantage of it."

Patricia Cohen. "I.R.S. Shortcut to Tax-Exempt Status Is Under Fire." New York Times 04/08/2015.