IRS Letter an ‘Indictment’ of NIL Collectives’ Exempt Status
A recently disclosed tax-exempt determination letter casts further doubt on whether most collectives should qualify as federal charities.
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IRS LETTER AN ‘INDICTMENT’ OF NIL COLLECTIVES’ EXEMPT STATUS
BY DANIEL LIBIT
April 6, 2024 3:43pm
A recently disclosed tax-exempt determination letter casts further doubt on whether most collectives should qualify as federal charities.PHOTO BY CHIP SOMODEVILLA/GETTY IMAGES
If they didn’t get the memo the first time, a recently disclosed IRS document appears to more definitively challenge the nonprofit status of most NIL collectives.
On Friday, the watchdog publication Tax Notes obtained and published a copy of a denial letter the IRS sent in January to a collective seeking tax-exempt status, which widely ratifies the previous guidance issued last summer by a top official in the IRS Office of Chief Counsel.
In light of the new document’s revelation, Phil Hackney, a former IRS lawyer and nonprofit organization expert, suggests NIL collectives should get out—or stay out—of the 501(c)(3) world.
“This seems to be an indictment against [the tax-exempt status of] all the collectives and should mean the other collectives lose their status as well,” Hackney, who teaches at the University of Pittsburgh School of Law, told Sportico.
Last May, Lynne A. Camillo, the IRS’s Deputy Associate Chief Counsel, circulated a 12-page advice memorandum that called into question whether organizations seeking to facilitate NIL opportunities for college athletes “furthers an exempt purpose under section 501(c)(3).”
By then, the IRS had received scores of applications for tax-exempt status from NIL collectives, most of whom proposed paying college athletes NIL money in exchange for them doing endorsement work with other registered charities. According to Camillo’s analysis, most of these collectives should not qualify as exempt organizations because their private interest—paying college athletes NIL money so they’ll attend certain schools—“is not a byproduct but is rather a fundamental part” of their purpose.
However, Camillo’s memo was not, itself, precedential, and dozens of NIL collectives have received 501(c)(3) status, enabling them to receive tax-deductible contributions. Furthermore, since Camillo’s memo, the IRS has not provided any additional public guidance or formal position statements, leaving it an open question as to whether her analysis was official policy.
On Jan. 11, Camillo spoke at the D.C. Bar Tax Conference, where, according to Bloomberg Tax, she said that the IRS was “considering all options” in how it would deal with the tax-exempt status of NIL collectives, but added that it wasn’t a top agency priority.
The day before, the IRS’s tax exempt and government entities office in Cincinnati sent its final determination letter denying an NIL collective seeking 501(c)(3) status. The collective, whose name and identifying features are redacted, appeared to make the same, general case for its exempt status as a number of already exempt collectives. According to the determination letter, this collective proposed that it would sign independent contractor agreements with college athletes and compensate them with NIL money for doing promotional work with other charitable and educational organizations. The NIL money conveyed to the athletes would be pooled together from “fans, alumni … and generous private donors.”
Nevertheless, the IRS determined, in this case, that the organization failed the two main tests for it to be recognized as exempt under federal law and Treasury Department regulations.
“Based on the facts presented in your application, you serve a private rather than a public interest, because you confer benefits primarily on student athletes of a particular university’s sports teams for the use of their NIL,” the IRS wrote. “You have not demonstrated that these student athletes belong to a charitable class.”
Furthermore, the letter stated, the group’s proposed activities would result in a direct benefit “to a limited group of individuals,” a group of college athletes, irrespective of their “demonstrated need.” The letter noted that the collective proposed spending a significant portion of its gross receipts to acquire NIL rights, such that this could not be considered “incidental” to its exempt purpose.
The determination letter cites, as precedent, much of the same case law that Camilla referenced in her memo, including Better Business Bureau of Washington D.C., Inc. v. United States, in which the Supreme Court held that if an organization’s non-exempt purpose was substantial enough, it would preclude exemption despite its potentially other charitable activities.
To the extent that a number of collectives have received 501(c)(3) determination, Hackney thinks that likely owes to administrative error.
“If you got status, it just means you got it through an overwhelmed process,” Hackney said.
Hackney notes that the IRS’s gutting in the wake of the 2010 Tea Party targeting scandal, when the agency, then under President Barack Obama’s administration, was found to have targeted conservative organizations seeking tax-exempt status. In May 2013, the Treasury Inspector General for Tax Administration released an audit report that found IRS officials had been “using inappropriate criteria to identify organizations” seeking 501(c)(3) status, which included their searching for applicants with “Tea Party” in their name.
In the political fallout, conservatives successfully prevailed upon Congress to slash the IRS’s funding—cutting the budget of its Exempt Organizations division from $102 million in 2011 to $82 million in 2016, according to the Washington Post—all while the number of applications for tax-exempt status were growing by leaps and bounds. According to the IRS, it now receives more than 95,000 applications each year.
Now that this determination letter is public, Hackney says those who prepare and sign the non-profit tax returns of NIL collectives are taking a risk.
“It puts a real burden upon the professionals who are advising these organizations,” Hackney said. “Can they in good faith give legal advice or auditing advice that the organization continues to qualify? In my own, personal opinion, I wouldn’t sign off on one.”
Following Camillo’s memo last summer, a number of collectives planning to organize as charities quickly pivoted to for-profit status, either anticipating an unfavorable determination by the IRS or because they wanted to quell any uncertainty for their donors.
In the meanwhile, a growing number of for-profit collectives have partnered with the company Blueprint Sports, which utilizes a companion charity, the BPS Foundation, so its collective clients can still receive tax-deductible contributions from donors. As Sportico previously reported, the nexus between the two entities has raised a number of conflict-of-interest questions.
As a practical matter, most collectives likely have little to worry about, at least in the near term.
Though very rare, it’s not entirely unprecedented for the IRS to conduct a systematic review of a swath of organizations that had previously been granted exempt status. In the early 1990s, the IRS had approved the status of around 200 credit counseling agencies, which were organized as nonprofits.
The entities promised to provide financial literacy and other educational services to individuals who were struggling with debt. However, after a number of media reports and public complaints about the activities—accusing the organizations of merely selling commercial, debt-reduction plans—and changes to federal and state laws, the IRS commenced a compliance initiative, in which it revoked, terminated or proposed terminating dozens of organizations’ tax status.
