Q&A #63 – Are grants from foreign charities subject to the 2% limit when calculating public support on the Form 990, Schedule A?

Question: My 501(c)(3) organization has received a sizeable, multi-year grant from a foreign charitable organization that does not have 501(c)(3) public charity status in the United States. We use section 170(b)(1)(a)(vi) for our public support test in the Form 990, Schedule A. Are we permitted to count this grant in full in our public support test calculations, or is this grant subject to the 2% limitation?

Answer: This is a common question that has lacked a clear answer for a very long time. Most practitioners have concluded that grants from foreign charities meeting certain requirements should qualify to be counted in full for public support test purposes, and not subject to the 2% limitation, However, there is some risk that the IRS could disagree with this position.

For background, in calculating a 501(c)(3) organization’s “public support” percentage under section 170(b)(1)(A)(vi) of the Internal Revenue Code (the “Code”), also known as the 509(a)(1) test, contributions from most grantors or donors are generally counted only to the extent that the contributions from each grantor or donor exceeds 2% of the organization’s “total support” (calculated over a 5-year aggregated period). However, this 2% limitation does not apply to support received from governmental units or organizations that are themselves described in section 170(b)(1)(A)(vi).

There is no authority or guidance specifically addressing the issue of whether a foreign charity can be deemed an “organization described in section 170(b)(1)(A)(vi)” for purposes of exempting the foreign charity’s contributions from the 2% limitation. Nonetheless, most practitioners believe that grants from foreign charities should qualify to be exempted from the 2% limitation so long as the foreign charity is organized and operated consistent with the requirements of section 501(c)(3) and the foreign charity’s sources of revenue would satisfy the public support test under section 170(b)(1)(A)(vi).

Practitioners have arrived at this conclusion based largely on an IRS Revenue Ruling from the 1970s (Rev. Rul. 75-435), in which the IRS held that a nonprofit that was organized in a foreign country and received a substantial portion of its support from a foreign government was not a private foundation as defined in section 509(a) of the Code because its sources of revenue satisfied the section 170(b)(1)(A)(vi) public support test. The IRS observed in this Revenue Ruling that “foreign organizations are to be treated the same as domestic organizations described in section 170(b)(1)(A)(vi) for purposes of section 509(a).” While the context of this Revenue Ruling is not entirely clear, most practitioners believe that this reasoning should apply for purposes of determining the treatment of a grant from a foreign charity to a 501(c)(3) public charity organized in the United States.

Planning Tip – If your organization receives grants from foreign charities in an amount that could affect your organization’s ability to satisfy the public support test, it is generally recommended to obtain an opinion letter on the issue from an attorney or CPA with the required tax law expertise. An adequately prepared opinion letter on the issue by a qualified practitioner, along with contemporaneously obtained supporting documents, will generally protect the organization from penalties imposed by the IRS in the event the IRS disagrees with this position.

The Treasury and IRS have not yet clarified this question despite many years of requests from the practitioner community, so there remains some ambiguity and risk on this issue.