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Form 990-PF Filers Beware! The Tricky Double Negative of Part VII-B

Paying compensation to directors of tax exempt private foundations can be a delicate matter, especially for relatively modest family foundations.  Most foundation managers are aware that such compensation is generally permissible under the Internal Revenue Code, as long as the compensation is not excessive and the services being provided are necessary to carrying out the exempt purposes of the foundation.  Prudent managers may procure compensation studies which compile and analyze compensation data for comparable services and entities.  In family foundations with small boards, it is often desirable to appoint an independent external “compensation committee” to evaluate such data and make compensation recommendations to the board of directors.

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?”

downloadUnfortunately, 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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Our clients are diverse nonprofit organizations with a broad range of missions, as well as for-profit companies in evolving areas such as social enterprise, corporate philanthropy, joint ventures, technology-driven fundraising, and impact investing.

A.B. Data
AB InBev Foundation
Absolut Company
American Committee for the Weizmann Institute of Science
American Diabetes Association
American Friends of the Hebrew University
American Parkinson Disease Association
Association of Fundraising Professionals
Avalon Consulting
Baton Rouge Area Foundation
Black Lives Matter Global Network Foundation
Bleeding Blue for Good Fund
Bradley Cooper’s One Family Foundation
BrightFocus Foundation
Brooks Brothers
Chadwick Boseman Foundation for the Arts
Changing Our World
Charity Defense Council
Christian Appalachian Project
Doctors of the World/ Medecins du Monde
Doctors Without Borders/ Medecins San Frontieres
Drug Policy Alliance
Duke University
Emory University
Estee Lauder Companies, Inc.
Feed The Children
Food For The Poor
Gerald R. Ford Presidential Foundation
Grameen Foundation USA
Hope for New York
International Campaign for Tibet
International Crisis Group
International Justice Mission
J. Crew Group
Johns Hopkins University
Lautman Maska Neill & Company
Lawyers Committee for Civil Rights Under Law
LSU Foundation

Marts & Lundy
Meyer Partners, LLC
Milken Institute
NAACP Foundation
National Alliance on Mental Illness (NAMI)
National Marrow Donor Program
National Park Foundation
Natural Resources Defense Council
North Carolina State University
North Shore Animal League
Operation Smile
PBS Foundation
Pernod Ricard USA
PetSmart Charities
PopSockets
Population Action International
Project ORBIS International
Public Interest Communication
Rails to Trails
Redeemer Presbyterian Church
Rockefeller Philanthropy Advisors
Save the Children Federation
Sesame Workshop
Simon Wiesenthal
SOS Children’s Villages – USA
Subaru of America
The Little Market
Touro University
United States Equestrian Team Foundation
United Way Worldwide
University of Connecticut
University of Virginia
Vote.org
Whitney Museum of American Art
World ORT
World Wildlife Fund
YWCA USA

A.B. Data
Absolut Company
American Committee for the Weizmann Institute of Science
American Diabetes Association
American Friends of the Hebrew University
American Parkinson Disease Association
American Rivers
Association of Fundraising Professionals
Baton Rouge Area Foundation
BrightFocus Foundation
Burger King McLamore Foundation
Cancer Care
Carnegie East House and James Lenox House Association
Center for Car Donations
Changing Our World
Charity Defense Council
Christian Appalachian Project
Coca-Cola Scholars Foundation
Convoy of Hope
Cornell University
Doctors Without Borders/ Medecins San Frontieres
Drug Policy Alliance
Duke University
Emory University
Feed The Children
Gerald R. Ford Presidential Foundation
Grameen Foundation USA
Helen Keller Services
Hope for New York
Human Rights Watch
Humane Society of US
Indiegogo
International Campaign for Tibet
International Crisis Group
International Justice Mission
Japanese American National Museum
Johns Hopkins University
Lane Bryant Charities
Lautman Maska Neill & Company
Lawyers Committee for Civil Rights Under Law
LSU Foundation
Mattel
Meyer Partners, LLC
Milken Institute
National Breast Cancer Coalition
National Marrow Donor Program
Natural Resources Defense Council
North Carolina State University
North Shore Animal League
Obama Foundation
Operation Smile
PBS Foundation
Pernod Ricard USA
PetSmart Charities
Population Action International
Project ORBIS International
Public Interest Communication
Rails to Trails
Redeemer Presbyterian Church
Rock and Roll Hall of Fame and Museum
Rockefeller Philanthropy Advisors
Sesame Workshop
Simon Wiesenthal
SOS Children’s Villages – USA
Steinhardt Foundation
Subaru of America
United States Equestrian Team Foundation
University of Montana Foundation
University of Nevada, Las Vegas Foundation
Whitney Museum of American Art
World ORT
World Wildlife Fund
YMCA USA
YWCA of New York City
YWCA USA

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news & events

Our attorneys’ recent contributions to the media and nonprofit sector publications.

news & events

Check out our attorneys’ recent contributions to the media and industry publications.

Secure Your Data – Seriously, AFP New York Chapter News
As Jon Dartley, a data privacy and security attorney at Perlman and Perlman says, “It is vital to have the appropriate legal terms in the contract to protect your interests.”  Find out what your liability limit is.  Have it in writing who bears the responsibility and cost of a data breach.  And, have the vendor agree on a specific timeframe within which they need to advise you of a data breach.

Warning: Don’t Cut Legal Corners When Mixing Social And Business Impact,  Forbes
Particularly striking is that (Karen) Wu believes this is the “first multi-state regulatory activity involving cause marketing in almost two decades.”

Is stealing, then giving back, OK?
Cliff Perlman lends his advice on theft within a nonprofit.

Buyer Beware: Negotiating Terms in Technology Agreements
Jon Dartley provides tips on negotiating contracts with technology vendors.

Four Ways Charitable Giving Could Change with a Tax Overhaul
Cliff Perlman remarks on the possible threat of a change to charitable deduction.

How To Deal With Residual Data, Nonprofit Times
Jon Dartley’s advice on addressing “data exhaust”.

Secure Your Data – Seriously, AFP New York Chapter News
As Jon Dartley, a data privacy and security attorney at Perlman and Perlman says, “It is vital to have the appropriate legal terms in the contract to protect your interests.”  Find out what your liability limit is.  Have it in writing who bears the responsibility and cost of a data breach.  And, have the vendor agree on a specific timeframe within which they need to advise you of a data breach.

Warning: Don’t Cut Legal Corners When Mixing Social And Business Impact,  Forbes
Particularly striking is that (Karen) Wu believes this is the “first multi-state regulatory activity involving cause marketing in almost two decades.”

Is stealing, then giving back, OK?
Cliff Perlman lends his advice on theft within a nonprofit.

Buyer Beware: Negotiating Terms in Technology Agreements
Jon Dartley provides tips on negotiating contracts with technology vendors.

Four Ways Charitable Giving Could Change with a Tax Overhaul
Cliff Perlman remarks on the possible threat of a change to charitable deduction.

How To Deal With Residual Data, Nonprofit Times
Jon Dartley’s advice on addressing “data exhaust”.

perlman & perlman philanthropic sector law firm blue and green logo

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perlman & perlman philanthropic sector law firm blue and green logo

click to exit page

silk lanterns

who we work with

Our clients are diverse nonprofit organizations with a broad range of missions, as well as for-profit companies in evolving areas such as social enterprise, corporate philanthropy, joint ventures, technology-driven fundraising, and impact investing.

who we work with

Our clients are diverse nonprofit organizations with a broad range of missions, as well as for-profit companies in evolving areas such as social enterprise, corporate philanthropy, joint ventures, technology-driven fundraising, and impact investing.

A.B. Data
AB InBev Foundation
Absolut Company
American Committee for the Weizmann Institute of Science
American Diabetes Association
American Friends of the Hebrew University
American Parkinson Disease Association
Association of Fundraising Professionals
Avalon Consulting
Baton Rouge Area Foundation
Black Lives Matter Global Network Foundation
Bleeding Blue for Good Fund
Bradley Cooper’s One Family Foundation
BrightFocus Foundation
Brooks Brothers
Chadwick Boseman Foundation for the Arts
Changing Our World
Charity Defense Council
Christian Appalachian Project
Doctors of the World/ Medecins du Monde
Doctors Without Borders/ Medecins San Frontieres
Drug Policy Alliance
Duke University
Emory University
Estee Lauder Companies, Inc.
Feed The Children
Food For The Poor
Gerald R. Ford Presidential Foundation
Grameen Foundation USA
Hope for New York
International Campaign for Tibet
International Crisis Group
International Justice Mission
J. Crew Group
Johns Hopkins University
Lautman Maska Neill & Company
Lawyers Committee for Civil Rights Under Law
LSU Foundation

Marts & Lundy
Meyer Partners, LLC
Milken Institute
NAACP Foundation
National Alliance on Mental Illness (NAMI)
National Marrow Donor Program
National Park Foundation
Natural Resources Defense Council
North Carolina State University
North Shore Animal League
Operation Smile
PBS Foundation
Pernod Ricard USA
PetSmart Charities
PopSockets
Population Action International
Project ORBIS International
Public Interest Communication
Rails to Trails
Redeemer Presbyterian Church
Rockefeller Philanthropy Advisors
Save the Children Federation
Sesame Workshop
Simon Wiesenthal
SOS Children’s Villages – USA
Subaru of America
The Little Market
Touro University
United States Equestrian Team Foundation
United Way Worldwide
University of Connecticut
University of Virginia
Vote.org
Whitney Museum of American Art
World ORT
World Wildlife Fund
YWCA USA

A.B. Data
Absolut Company
American Committee for the Weizmann Institute of Science
American Diabetes Association
American Friends of the Hebrew University
American Parkinson Disease Association
American Rivers
Association of Fundraising Professionals
Baton Rouge Area Foundation
BrightFocus Foundation
Burger King McLamore Foundation
Cancer Care
Carnegie East House and James Lenox House Association
Center for Car Donations
Changing Our World
Charity Defense Council
Christian Appalachian Project
Coca-Cola Scholars Foundation
Convoy of Hope
Cornell University
Doctors Without Borders/ Medecins San Frontieres
Drug Policy Alliance
Duke University
Emory University
Feed The Children
Gerald R. Ford Presidential Foundation
Grameen Foundation USA
Helen Keller Services
Hope for New York
Human Rights Watch
Humane Society of US
Indiegogo
International Campaign for Tibet
International Crisis Group
International Justice Mission
Japanese American National Museum
Johns Hopkins University
Lane Bryant Charities
LSU Foundation
Mattel
Meyer Partners, LLC
Milken Institute
National Breast Cancer Coalition
National Marrow Donor Program
Natural Resources Defense Council
North Carolina State University
North Shore Animal League
Obama Foundation
Operation Smile
PBS Foundation
Pernod Ricard USA
PetSmart Charities
Population Action International
Project ORBIS International
Public Interest Communication
Rails to Trails
Redeemer Presbyterian Church
Rock and Roll Hall of Fame and Museum
Rockefeller Philanthropy Advisors
Sesame Workshop
Simon Wiesenthal
SOS Children’s Villages – USA
Steinhardt Foundation
Subaru of America
United States Equestrian Team Foundation
University of Montana Foundation
University of Nevada, Las Vegas Foundation
Whitney Museum of American Art
World ORT
World Wildlife Fund
YMCA USA
YWCA of New York City
YWCA USA
Lautman Maska Neill & Company
Lawyers Committee for Civil Rights Under Law

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We strive to maintain a culture characterized by respect, opportunity, diligence, mutual empowerment, entrepreneurship, and fair reward for efforts made on behalf of clients and the firm.

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