News and analysis
June 05, 2013

Fixing the IRS: Provide More Money for Enforcement

The controversy over the Internal Revenue Service’s handling of applications for tax exemption from conservative groups has put the tax agency in the hot seat.

The Chronicle invited nonprofit and legal experts to suggest remedies:

We encourage you to join the discussion in the comments section.

Provide More Money for Enforcement

Cindy M. Lott photo

Cindy M. Lott
Columbia Law School

The regulatory and enforcement waterfront should have more adequate staffing, training, and money for both state and federal regulators.

One of the advantages of a federalist system of laws and regulations is that states and the federal government share burdens and responsibilities. Although the federal government has both a large carrot and a large stick in the granting of tax-exempt status and the ability to revoke such status, state government has jurisdiction over—and has day-to-day oversight of—many of the governance rules applicable to charities.

This interlocking jurisdiction means that the regulatory and enforcement waterfront could be covered with adequate staffing, training, and money for both state and federal regulators, which are all now seriously underresourced for monitoring a fundamental and ever-burgeoning part of the U.S. economy.

Improvements in two aspects of regulation and enforcement would have outsized effects. First, a collaborative, resource-intensive effort to upgrade and harness technology within state and federal government would allow more efficient and timely interaction between nonprofits and regulators. Government lags behind nonprofits in being able to use technology, particularly information technology, to execute its duties. Improvements would lead to greater transparency and allow the public to do more to help regulators fulfill their watchdog capacity.

A second aspect, more easily remedied than the first, would be to allow regulators to communicate more openly. Currently, federal laws inhibit states and their federal counterparts from sharing information that would lead to efficient and consistent regulation and enforcement. A small legislative change to ease overly restrictive confidentiality rules that now apply to the IRS could result in a sea change in state-federal cooperation.

Cindy M. Lott is senior counsel at the National State Attorneys General Program at Columbia Law School.

Nancy Ortmeyer Kuhn photo

Nancy Ortmeyer Kuhn
Former IRS Lawyer

This work would best be done in a separate agency with its own source of funding that would be independent of the whims of Congress, the IRS budget, and outside influence.

Congress made clear when it adopted the Tax Reform Act of 1969 that the excise tax that is imposed on the investment income of private foundations should be used for oversight of tax-exempt organizations. A great idea, but unfortunately those funds have never been used for that purpose. The amount collected from this tax has exceeded the amount allocated in the IRS budget for overseeing nonprofit organizations. The volume of work and oversight responsibilities for the Exempt Organizations Division has increased exponentially since 1969, but the funding has not kept pace.

While I was in the chief counsel’s office of the IRS working in the area of tax-exempt organizations, we were the branch that no IRS executive wanted to hear from since we frequently handled the most sensitive issues and those most likely to gain news coverage. The resources were not plentiful, and the work did not seem to be a high priority for the IRS.

I suggest going back to the idea expressed in the 1969 act and providing an independent source of funding collected from the nonprofit sector to provide adequate money for oversight.

It would best be done in a separate agency within the Department of Treasury, with its own source of funding would be independent of the whims of Congress, the IRS budget, and outside influence. It would be free of the IRS bureaucracy and free of the inherent conflict of interest present when the tax collector exempts organizations from paying taxes. The new exempt-organizations agency would be better able to train its employees thoroughly and to educate them that their work be above reproach, both in efficiently processing 501(c)(3) applications and in general enforcement of the laws that regulate the charitable sector.

Relatively new transparency has given the public easy access to Form 990 tax documents and other information about nonprofit organizations, and reports of abuse are many. Now that I am in the private sector, it appears that the IRS is overwhelmed with information and unable to verify independently the whistle-blowers’ work. Its ability to act is circumscribed by its bureaucracy, a growing workload, and a shrinking work force. Even though the vast majority of organizations are law abiding with the purest of charitable intent, the number of those taking advantage of the situation is bound to increase unless there is a sense that the exempt-organizations agency is fairly enforcing the law.

Nancy Ortmeyer Kuhn is a lawyer who advises nonprofits on tax matters. She worked as a lawyer for the IRS for 10 years.

Ken Stern photo

Ken Stern
Author, With Charity for All

All else pales in comparison to the chronic underinvestment by Congress in resources for the IRS to effectively regulate the charitable sector.

The IRS debacle has justly focused attention on the broken system for granting tax-exempt status to nonprofits. But the ongoing scrutiny of how new applications are handled has diverted attention from a far more confounding issue: how the IRS and other government regulators supervise the more than 1.1 million charities already granted 501(c)(3) status.

It is ironic given the reputation of the IRS as an all-seeing government snoop, but that agency and other charity regulators are in fact badly outgunned and underresourced. Over the years, the budget for federal supervision of the charity sector has been repeatedly cut (even as the charitable sector has ballooned), and promises to right-size the relevant divisions, now going back more than 40 years, have been repeatedly broken.

Since 2009, the Exempt Organizations Division staff has been modestly downsized, by about 4 percent, and the number of examinations it conducts each year of nonprofit tax returns has fallen by 17 percent. It is thus little surprise that the charitable sector is pockmarked with “uncharitable charities” and the IRS is from time to time embarrassed by missing obvious cases of fraud.

This all causes suspicion and discontent, not just about the IRS but of the charitable sector itself. Only one in 10 Americans strongly believes in the integrity of charities, and almost a third think nonprofits are going in the wrong direction, according to a 2006 poll. These are scary numbers for an industry that relies on public trust as an economic driver.

No doubt the IRS is troubled with lack of training, uncertain rules, low organizational morale, and apparently poor adherence to policy. But all that pales in comparison to the chronic underinvestment by Congress in resources for the IRS to effectively regulate the charitable sector.

The underfunding is not limited to the tax-exempt side; Congress has slashed the budget of the IRS by more than $300-million since the 2011 fiscal year, even though it is a revenue-generating entity (collecting $2.52-trillion against a budget of $11.8-billion) and even though the head of the IRS has estimated that the Treasury loses $7 for every $1 cut from the IRS budget.

All of that is suggestive of an unappealing combination of bad business judgment and philosophical animus in Congress to the supervisory role of the IRS. Good charities and the public at large have suffered for it, and it will need to change if we are to ever have a more effective and trusted charitable sector.

Ken Stern, chief executive of Palisades Media Ventures, a public-affairs company, is author of the book With Charity for All: Why Charities Are Failing and a Better Way to Give.