Clients new to the world of private foundations (including clients who suddenly find themselves at the helm of family foundations) are often unsure of how to compensate directors, and if it is even legally permissible.  This is not surprising, since, at first glance, the law in this area is puzzling, and several different pieces of the law must be fit together to reveal the full picture.

Among the many peculiar and non-intuitive features of the tax rules for private foundations is that, in the first instance, compensation by a foundation to a “disqualified person” is categorized as an impermissible act of “self-dealing.”  (Foundation directors, their spouses, and their family members – among others – all fall within the law’s definition of a “disqualified person.”)  However, as with many areas of tax-exempt organizations law, this blanket prohibition is followed by a list of exceptions.  The key exception regarding compensation provides that payment of compensation by a private foundation to a disqualified person will not be considered impermissible self-dealing as long as the compensation is not excessive and the compensation is for “personal services which are reasonable and necessary to carrying out the exempt purpose of the private foundation.”

“Personal services” is not a defined term in the statute, but the Treasury Regulations include as examples of personal services: legal services, investment management services, and general banking services.  Further, the term is generally understood to include professional and managerial services rendered by a disqualified person in her capacity as an officer, director, trustee, or executive director of the private foundation.   Much ink has been spilled by others attempting to define “personal services,” and there is a hefty pile of private letter rulings devoted to the topic.  This is understandable since all self-dealing transactions, including impermissible compensation to a director, can result in excise taxes imposed on the self-dealer (e.g. an improperly compensated director), and in certain circumstances, on the other foundation managers and on the foundation itself.  One reason for this onoing uncertainty is that, in the leading case on this issue, Madden v. Commissioner of Internal Revenue, T.C. Memo 1997-395, 74 T.C.M. 440 (1997), the tax court held that the term “personal services” should be construed narrowly and that personal services are “essentially professional and managerial in nature.”  This of course begs the question:  what counts as “professional and managerial?”   That is a question for another day.  For current purposes, however, it is clear that non-excessive compensation to a director for her duties as a director falls squarely within the exception, and is therefore not “self-dealing.”

This background helps illuminate the odd way in which Form 990-PF is structured with respect to reporting on director compensation.  If a private foundation does compensate, or reimburse expenses of, a director or other disqualified person, the organization must answer “Yes” to question 1a(4) of Part VII-B on its Form 990-PF.  That question is straight-forward enough.  It simply asks:  did the foundation “pay compensation to, or pay or reimburse the expenses of, a disqualified person?”

Unfortunately, the crucial follow-up question “1b” is not nearly as straight-forward.  In my practice, I have seen that even experienced preparers will sometimes answer it incorrectly or simply leave it blank.   The awkwardly worded question, which cries out for an English teacher’s red pen, asks:  “If any answer is “Yes” to 1a(1)-(6), did any of the acts fail to qualify under the exceptions described in Regulations…?”  Unless a foundation is intentionally disclosing impermissible activity and including a check to the IRS for excise taxes, the correct answer to this question should be “no”.   By answering “no,” a foundation informs the IRS that “yes” – the compensation (or other transaction) is within the exceptions to self-dealing described in the Treasury Regulations, and therefore is permissible and not subject to excise taxes.

Perhaps what trips up preparers and foundation officials is the section heading for Part VII-B:  “Statements Regarding Activities for Which Form 4720 May Be Required.”   As most informed foundation managers know, Form 4720 is not a form you want to file.  Form 4720 is used to calculate and pay excise taxes for activities that are disallowed under the Internal Revenue Code, and private foundations almost never have a reason to file them voluntarily.  Since Part VII-B, Question 1b refers to the “exceptions” to “self-dealing,” preparers and managers may be eager to answer this question “yes” with the hope that doing so signals “yes, these activities were exceptions to self-dealing.”  However, because of the clunky wording of the question, the answer should almost always be “no.”   A private foundation intending to answer this question “yes” likely has bigger problems than bad grammar.

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CASL applies only to a Commercial Electronic Message (“CEM”).  A CEM is broadly defined in the law as an electronic message (including email, text, or voice messages) that encourages the recipient to participate in a commercial activity, regardless of whether there is an expectation of profit.  A message is a CEM if one of its purposes is to promote or otherwise offer a product, good, service, business or gaming opportunity.   Therefore, even if one purpose is to seek a donation, the message is still a CEM if it includes any of these commercial elements.

Therefore, if your organization is sending email that only asks for a donation and does not include any other promotions, then consent is not required and CASL does not apply at all.  However, if the request for a donation also includes other commercial promotions (ie. “Please visit our Christmas gifts catalogue by following the link below”), then consent is required.

CASL prohibits anyone from sending a CEM without express or implied consent.  Implied consent is assumed if there is an “existing business relationship.”  Generally, there is an existing business relationship if in the last two years the recipient purchased goods or services from the sender.  Implicit consent from a non-business relationship may be inferred from a prior donation to, or volunteer work performed for, a registered Canadian charity, or membership in a club, association or voluntary organization. Even if you have implied consent, you will eventually have to obtain express consent.  For contacts made before July 1, 2014 implied consent expires on July 1, 2017.  For contacts made after July 1, 2014, implied consent expires two years after initial contact.

The truly burdensome aspect of the new law is that consent may not be requested by email.  Instead, requests for express consent should be made by paper or orally, or by checking a box on webpage visited by the party giving consent.  The burden is on the sender of CEMs to demonstrate consent, and records should be kept accordingly.  To obtain express consent under CASL the recipient must actively opt-in (no pre-checked boxes).  The request for express consent must contain information on the purpose for consent, identify the sender (name, address/phone number or email) and notify the recipient that consent can be withdrawn.

CASL also regulates the content of CEMs.  Each CEM sent to recipients must contain the following information: the identity of the sender; contact information of the sender (mailing address and telephone number, email address,

or web address); and an unsubscribe mechanism that is valid for a minimum of 60 days after the message is sent.  If an organization receives an unsubscribe request, it must act on the request within 10 business days.

Organizations are also responsible for ensuring that any third party sending electronic messages on the organization’s behalf are complying with CASL. Contracts between the organization and the third party should include the requirement that the third party be compliant with CASL.

American charities are at a distinct disadvantage in complying with the law because a major exception that is carved out for Canadian charities does not apply to American charities.  Specifically, the regulations do not apply to CEMs that are sent by or on behalf of a Canadian Registered Charity and whose primary purpose is to raise funds for that charity.  However, in order to be a Registered Charity, the charity must actually reside in Canada.  No equivalent exception has yet been granted to charities in the United States which are officially recognized by the IRS or the states.

CASL contains other exceptions, including those relating to family and personal relationships, intra-organization messages, and referrals.  However, confusion and controversy around whether an exception applies can be avoided by obtaining and documenting express consent.

CASL includes significant penalties for non-compliance (up to $10 million per violation for an organization and up to $1 million for an individual). Directors and officers of a corporation can be liable, if they directed, authorized, assented to, acquiesced in, or participated in the commission of the violation.

For more information on CASL, its application and its requirements, please refer to the Government of Canada’s website regarding Canada’s Anti-Spam Legislation at http://fightspam.gc.ca.

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