Navigating Conflict-of-Interest Rules for Private Foundations

Conflict-of-interest policies are a critical component for all not-for-profit organizations, but private foundations face particularly stringent regulations in this regard. While it may seem that transactions benefiting the foundation are acceptable, private foundations must tread carefully. Unlike 501(c)(3) nonprofits, private foundations face strict prohibitions on transactions involving "disqualified persons."

Defining "Disqualified Persons"

The Internal Revenue Service (IRS) casts a wide net when it comes to defining who qualifies as "disqualified persons." This category includes substantial contributors, managers, officers, directors, trustees, and individuals with significant ownership interests in corporations or partnerships that have made substantial contributions to the foundation. Even family members of these disqualified persons fall under this definition. Additionally, if a disqualified person holds more than a 35% ownership stake in a corporation or partnership, that entity is considered disqualified.

Prohibited Transactions

Identifying prohibited transactions can be challenging due to numerous exceptions. However, it is crucial to ensure that disqualified persons do not engage in certain activities with your foundation. These activities include:

• Selling, exchanging, or leasing property
• Making or receiving loans
• Extending credit
• Providing or receiving goods, services, or facilities
• Receiving compensation or reimbursed expenses

Disqualified persons must also refrain from making financial contributions or offering property to government officials on behalf of the foundation.

Potential Penalties

Violating these rules can lead to significant penalties. A disqualified person may be subject to an initial excise tax of 10% of the transaction amount and, if not promptly corrected, an additional tax of up to 200% of the same amount. Furthermore, a foundation manager who knowingly participates in self-dealing may face an excise tax of 5% of the transaction amount, unless their participation was not willful and stemmed from reasonable cause. If the manager refuses to cooperate with the correction, an additional tax of 50% may be imposed.

It's important to note that while liability is limited for foundation managers (capped at $40,000 for any one act), there are no such limits for self-dealing individuals. In severe cases, private foundations that engage in self-dealing risk losing their tax-exempt status.

Going the Extra Mile

As a leader of a private foundation, you must take extra precautions to avoid anything that might be perceived as self-dealing. Transactions involving disqualified persons are strictly prohibited, and failing to adhere to this rule can be financially burdensome. Navigating IRS rules can be complex, making it crucial to seek professional guidance to ensure strict compliance and protect your foundation's tax-exempt status.

In conclusion, private foundations must color well within the lines of conflict-of-interest rules to maintain their mission, reputation, and IRS compliance. For expert guidance on navigating these rules and safeguarding your foundation's integrity, don't hesitate to contact us. We're here to help you steer clear of potential pitfalls and ensure your foundation's continued success.

How HoganTaylor Can Help

The HoganTaylor Nonprofit team of business advisors and CPAs is comprised of former CFOs, controllers, and industry experts with extensive experience providing the guidance organizations need to lean forward again in their leadership. If you have any questions about this content, or if you would like more information about HoganTaylor’s Nonprofit practice, please contact Jack Murray, CPA, Nonprofit Practice Lead.

INFORMATIONAL PURPOSE ONLY. This content is for informational purposes only. This content does not constitute professional advice and should not be relied upon by you or any third party, including to operate or promote your business, secure financing or capital in any form, obtain any regulatory or governmental approvals, or otherwise be used in connection with procuring services or other benefits from any entity. Before making any decision or taking any action, you should consult with professional advisors.