Anything Goes — especially jumping to unsubstantiated conclusions

Michael LoBue writes: Stanford University’s Center on Philanthropy and Civil Society recently published a study entitled “Anything Goes: Approval of Nonprofit Status by the IRS.” They pose marginally good questions — but, their synthesis of the data is not just weak, it’s dangerous!

Below are the four top questions they address in the paper. It’s not clear whether they formulated the questions before or after collecting the data — either way, the questions themselves convey a strong bias not the least bit supported by the data. Their questions are below with the authors' answers, along with completely plausible alternatives to their biased answers.

1. Do we need 50,000 new 501(c)(3)s every year? Do we have too many nonprofits?

They offer no basis for answering this question other than the increase in tax exempt application filings. Implicit in their question is that historical trends represent the right amount of tax exempt organizations for our economy. They don’t even attempt to suggest possible factors that might have caused this interesting spike in nonprofit, tax exempt organizations. Here are two easy ones:
• Welfare, as we knew it for decades, essentially ended just before the rise in tax exempt filings began. Given the very nature of charitable nonprofits, which is the focus of their analysis, could the documented rise be an expected private response to address the needs that were previously addressed through government welfare programs?
• Or, perhaps it’s related to the growth of the Internet? Ironically, other academic departments at Stanford have contributed significantly to the commercial establishment and growth of the Internet that is decentralizing markets and society. Perhaps this increase is a byproduct of the Internet’s impact on our society - empowering individuals and private groups to take control of their lives and communities?
2. Need an organization demonstrate anything beyond the so-called “non-distribution constraint” — no profits to shareholders — in order to obtain nonprofit status? Does the charitable sector not have any substantive content to it beyond not-for-profit?
    
   Here the authors are essentially advocating for some charity police. Hmm? Maybe a presidential tzar position like: Overlord of Charity Correctness”? The answer to their question is “NO”, the non-distribution constraint is fine as it is — or at least it's a minor problem compared to other priorities.
   • Part of what is so elegant about the system as it has developed over the 20th century is that it is completely market-based and not political or ideological in any way. To even consider having some “worthiness test” makes as much sense in the U.S. as selecting a state religion. The way it is today is consistent with our pluralistic society.
3. Have Americans conflated the undeniable importance of freedom of association with an entitlement to tax benefits?
    
   This question, to quote comedian Louis Black: “just takes my breath away”!
    
   The implication of the question is clear — the authors see some 501(c)(3) filers as tax dodgers and cheats. However, their supporting evidence is woefully lacking. They state on page 3 of their report:

   ”In 2008 Americans donated more than $300 billion to 501(c)(3) organizations, costing the United States Treasury an estimated $50 billion in foregone tax revenue.”
    
   (We’re then directed by footnote to a specific table on page 308 of the 430-page 2010 Federal budget document — I went there and didn't find "an estimated $50 billion in foregone tax revenue" for this category. I did find, rounded to the nearest billion:

   • $47b for charitable contributions other than education and health
   • $5b for deductibility for charitable contributions (health)
   • $5b for deductibility for charitable contributions (education)

   They may have actually underestimated "their problem" by as much as 20% — but it doesn’t matter, because the basic claim is bogus unless it takes into consideration at least the following:
   1. Evidence that the dollars donated to charity would not have been exempt from taxes for other reasons;
   2. Add in tax flows from the operations of the tax exempt organizations (e.g., payroll taxes, benefits, other taxable activities engage in by the organizations);
   3. New taxes resulting from the sector’s success; (e.g., re-development projects, education and job retraining programs, etc.) and
   4. Cost savings in the form of lower taxes needed in the future because of the sector's preventative role, in the sense that "an ounce of prevention is worth a pound of cure".
   The authors of this study are suggesting that the $50 billion quoted is the result of some cost benefit analysis and the net LOSS is $50 billion to the US government. Not only have they potentially misstated the cost, they haven’t factored in the benefit side. After they leave their offices to meet with others on campus to learn more about the Internet and how it might be democratizing societies, they should stop by the Department of Economics and learn something about cost benefit analysis.


4. Is the IRS the best agency to issue determinations of nonprofit status?
   First off, this is a poorly worded question. The IRS does not determine whether an organization is a “nonprofit” or not, but whether or not its activities are “exempt for taxes”. Indeed, they describe this process in their study. Whether a legal entity is for profit or nonprofit is a determination made by our 50 states and, upon occasion, Congress. So we need to be clear that this is all about tax status — about the money!
    
   Given that the IRS does NOT determine the basic nature of legal entities, 51 other jurisdictions in this country are already engaged in this practice, a strong argument can be made that sufficient checks and balances already exist in the system. I would contend that the IRS is the right agency to determine tax status. I do agree with the authors that Congress should increase funding to help the Service process applications in a more timely manner — although I would not argue that it is among the most pressing problems in the nonprofit sector.

Is there abuse in the system? Of course there is — it would be naive to think otherwise. However, this study has added nothing to our understanding of the nature and extent of the abuse. Listing < 1% of the organizations approved for tax exemption in 2008 as "unworthy" in the authors' view is hardly compelling evidence of serious abuse. Quite the contrary, it suggests that this is a model process worth emulating, by industry as well as government.

Message to PACS — we all can use a better set of metrics for evaluating the benefits of the work of the nonprofit sector. If you’re not already aware of the University of San Francisco’s Institute for Nonprofit Management (IoNM) and their regional report series, I suggest you study them. They are excellent in both their analysis (normative characterization of the sector based on data) and synthesis (thoughtful recommendations for the relevance of the data).

Here is a research project that might be a better use of your time than trying to find and mock new organizations — take the IoNM's profile of the nonprofit sector in San Francisco and, using IoNM's model, profile nonprofit sectors in at least four other US cities similar in size to SF, and compare them. Why San Francisco? It's unlikely that any other metropolitan area in the US has the concentration of nonprofits as San Francisco: 1 nonprofit charity for every 183 city residents! IoNM has performed some comparisons within California, but I'm not aware of any such comparisons across the nation.

In closing, my fear is that your work will be misrepresented and misused, which to some extent has already happened by Stephanie Strom in her December 5 article entitled “Charities Rise, Costing U.S. Billions in Tax Breaks.” Oh my, what would Glen Beck do with the mis-information in your report? Come on - don't we have a right to expect more out of Stanford University for its tax exempt status?