Can “commercial” activities ever be charitable? New York does not think | Bond Schoeneck & King SARL

As we have previously summarized here, the IRS recently provided much-needed clarification to LLCs seeking to qualify as tax-exempt under Section 501(c)(3) of the Internal Revenue Code. (IRS Notice 2021-56). Given these new directions, we expressed our optimism about the expanded use of 501(c)(3) limited liability companies, which can have significant advantages over not-for-profit companies in a variety of settings. Unfortunately, where the IRS provided a roadmap for tax exemption, New York responded by closing the roads.

On March 10, 2022, the New York State Attorney General issued comments in response to Notice 2021-56 (as requested by the IRS) advocating that “[w]here state law, as in New York, does not allow the creation of an LLC for charitable purposes, the IRS should refuse to allow 501(c)(3) eligibility for domiciled LLCs in this jurisdiction. This statement is based on the Attorney General’s interpretation of Section 201 of the New York Limited Liability Company Law (governing the formation of LLCs) which permits LLCs to be organized solely for and to engage in “legal Business In the Attorney General’s view, this excludes training for “charitable” purposes because Section 102(e) of that Act defines business as “any trade, profession, profession or commercial activity”.

In practice, we have seen the immediate implementation of the Attorney General’s view by the New York State Department of State, which now appears to enforce the “commercial purpose” requirement. For example, in response to our efforts to amend LLC articles of association to comply with the notice, the Department of State issued rejection letters stating the following: “Please note that a limited liability company does not may use only for commercial purposes” and “note that charitable purposes are unacceptable.

In our experience and based on review of publicly available filings, the Department of State has not taken this position in the past. The organization’s articles of association have been successfully filed for many years for expressly charitable purposes, including direct references to section 501(c)(3) of the tax code and similar language. As early as 2007, the New York City Department of Tax and Finance issued a ruling letter that required the LLC seeking the ruling, apparently a New York LLC, to meet the following requirement: that ” articles of organization and/or operation the LLC’s agreement, if any, must state that there will be no pecuniary profit and that the LLC will operate on a non-profit basis pursuant to Section 420 -a” so that property held by the LLC is exempt from property tax. This is consistent with the broader recognition under New York law that modern nonprofits can engage and actually engage in “commercial” activities. Thus, for example, the Court of Appeal ruling in Consumers Union of US, Inc. v. New york recognizing that the so-called “business judgment rule”, which originated in corporations, which protects from judicial review the judgments of boards of directors on “business” decisions, also extends to the decisions of boards of non-profit corporations.

This leaves many “not-for-profit” LLCs in existence (with or without a 501(c)(3) exemption), including ignored entities that rely on single member 501(c)(3) exemption status. 3)) with many questions about the far-reaching impact. of this change and without realistic options for reorganization or reform in New York. These questions include, more fundamentally, what does this new interpretation mean for existing New York LLCs that have charitable purposes? Do they not validly exist under New York law, since they have no “commercial” purposes, so that their activities will be considered to be conducted directly by their members? Or is it just that their charitable/501(c)(3) goals suck? Will the New York State Attorney General attempt to provide answers to these questions, or will the State Department? Or will it be left to the courts? Will the IRS agree with New York’s view, or will it rely on its own ability to interpret federal tax laws and come to a different conclusion?

One thing is certain: while the value and path to exemption for the 501(c)(3) LLC has never been clearer, you clearly cannot form one in New York.

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