Most nonprofits spent the last few months of the year focusing their attention on the charitable deduction as Congress and the White House drafted a vast overhaul of the tax code. But colleges were focused on other proposed changes in the tax law, too, because quite a few measures under consideration challenged the way they do business.
While many of the measures were voted down — such as a plan that would tax graduate students’ tuition stipends — others were passed, such as a tax on the endowments of wealthy private universities and on salaries of over $1 million for presidents and others. Behind these provisions was a clear message from lawmakers and their constituents: We don’t think colleges are doing as much as they can to serve the public interest.
As an emeritus university professor who has spent decades working on projects designed to help students, charities, foundations, and others advance the common good, the attacks on colleges and other nonprofits in the tax code deeply trouble me — in fact, I wrote about it in these pages. But not too long after the tax cuts were signed into law, I found myself witnessing some of what causes policy makers, citizens, and others to question the tax privileges enjoyed by colleges and other large nonprofits.
What I learned from examining a local situation, and listening to my neighbors share their anger, may be instructive as nonprofits face another round of challenges from state and local governments as well as federal policy makers.
Just after the new year, several of my neighbors started protesting the closure of a family-run gardening business that had served the neighborhood for generations. What touched off so much anger was not just the loss of a local independent business but the fact that the closure had come from action by the nonprofit American University, whose campus is not far from our community.
The university has become a major commercial real-estate developer and has raised rents so high that it has driven out some of the diverse businesses that have helped shape and serve our neighborhoods. The idea that a nonprofit institution is behind evictions that threaten the valued character of communities — actions that destroy livelihoods — and that American University uses its tax advantages to do so, heightened the anger of many protesters.
My astonished neighbors and I have also started thinking about whether the privileges of tax-exempt organizations and institutions need to be curbed when they become so myopic and self-centered that they wreak destruction on local merchants and longstanding community culture, when they harm the larger public interest in selfish service to their own.
Incentives for Bad Behavior
Today’s charity laws are certainly inadequate to the task; as a matter of fact, they almost encourage questionable behavior. For instance, it is easy for tax-exempt groups to mirror the rapacious behavior of for-profit real-estate developers. American University and other nonprofits don’t have to pay taxes on their real-estate income from debt-free property. That’s surprising to many because nonprofits do have to pay what’s known as the unrelated business income tax on earnings from money-making efforts that aren’t connected to their charitable mission. Although real estate certainly isn’t part of higher education, regulations allow this commercial and residential rental income to remain tax-free.
Astoundingly, there is even a broader privilege for educational institutions, one that also allows American University to avoid income taxes on profitable properties even if they are mortgaged. In fact, they can use their charitable status to set up a wholly owned for-profit corporation to manage their real-estate developments and completely avoid income taxes on them as well, since IRS regulations allow them to be disregarded.
American is far from alone in realizing that power, although investment data aren’t easily available. Just in D.C., I can recall George Washington University students protesting its practices decades ago by accusing it of being a real-estate developer disguised as a charitable institution.
And even if there wasn’t such an exception applying to American University, the perquisites of being a nonprofit are substantial for any organization interested in building up a real-estate business.
After all, when anybody wants to donate a commercial property to a nonprofit like the university, the donor can get substantial charity benefits. It and other nonprofits can also use tax-deductible cash and other donations to purchase commercial property outright. More outrageously, universities can even use government-issued tax-exempt bonds to finance buildings for classrooms, research, and other needs, thereby freeing up fungible dollars to buy up more commercial property for development.
Creative and Humane Alternatives
Some people may applaud American University and other nonprofits for creativity in using any and all available means to generate every last dollar for its principal mission.
But that’s not the kind of behavior we expect of nonprofits. We expect them to be models of morality that justly and humanely distribute resources, rewards, and responsibilities that serve the common good, to do more than offer up the sum of individual benefits.
Perhaps American University does realize that its real-estate work is not in keeping with that standard. The institution participated in voluntary ratings from the Association for the Advancement of Sustainability in Higher Education, which is trying to help colleges measure whether they are doing enough to promote do-good practices. Yet it is quite telling that the university excluded all of its commercial and investment holdings from the data it reported.
There are better ways. American could have creatively dealt with its desire to get more from its tenant, in this case the garden center. For example, it could have said that in exchange for no increase in rent, the garden center could offer academic opportunities to students interested in horticulture — or in learning to run a retail business — or it could work with local community gardens. It could have asked the garden center’s experts to consult with its groundskeepers and landscape designers or otherwise helped advance the university’s mission.
Together they could have advanced sustainability by spreading trees and plants throughout urban Washington and educated local residents about green issues.
The university could have gone many steps further to advance its conservation record by divesting itself of fossil-fuel investments, an action that an advisory committee appointed by the trustees suggested. Instead, the board refused to do so, arguing that harm to the financial interests of the university would be too great — and opted instead to continue to harm the broader public interest.
A Plea to University Presidents
Other practices by American and other colleges also raise questions about the larger common good, especially when it comes to how they treat their lowest-paid workers. For instance, American University hired Aramark, a for-profit corporation, to provide food-service and other workers — a move that has led to student protests and lawsuits because of concerns about the fair treatment of its employees at the university.
As with other universities, American also tried to push down labor costs by hiring people into part-time adjunct positions to avoid an obligation to provide good compensation packages and benefits. Should any charity fight unionization of exploited staff, as American University did when adjunct faculty organized more than five years ago? Does that serve the larger community and the common good?
Clearly, American University is not alone among nonprofits with significant investment portfolios, as it acts much too narrowly to serve its own purposes while adversely affecting others. While it issues lofty statements of social responsibility for its multiple investments and its myriad suppliers, it reports but one action ever taken in their application. And that not only harms people and communities but it increases the turmoil other charities are harder pressed to alleviate.
I tried repeatedly as I reported this column to talk to American University about these concerns but have been denied access and answers. (The university did issue a brief statement to local residents who protested the garden center closing.) Yet I can imagine that its president, Sylvia Mathews Burwell, would have much to say about the public-policy issues I raise and might even suggest some solutions. After all, she was President Obama’s Secretary of Health and Human Services — and held a top job at the Bill & Melinda Gates Foundation.
Perhaps Ms. Burwell can help my neighbors and me, and others around the country, determine whether charities be allowed to benefit from tax advantages in self-serving activities that hurt the common good. And if not, are we ready to rein in the perks of tax exemption that allow such bad behavior to continue if we cannot correct it?
Mark Rosenman is a professor emeritus at Union Institute & University and a veteran nonprofit activist.