Dissolution of Private Foundations

December 29, 2010

Authored by: Nathan Boyce

Many 501(c)(3) organizations are finding it necessary to cease operations by dissolving or merging out of existence. In order to effectuate such, 501(c)(3) public charities only need to follow the state law requirements (such as filing articles of dissolution), distribute assets consistent with their organizational documents and file a final IRS Form 990.

But a private foundation that desires to cease operations, in addition to following the steps noted above for public chairites, must also take¬†one of the following steps: (A) notify the IRS of its intent to accomplish such termination and pay a termination tax, (B) transfer its net assets to an organization that has been in existence and “described in Section 170(b)(1)(A) (other than in clauses (vii) and (viii))” for a continuous period of at least 60 months or (C) operate as a public charity for at least 60 continuous months. (507 of the Code). The regulations provide that if option (A) is chosen, the termination tax is equal to the lesser of (i) the aggregated tax benefit resulting from its 501(c)(3) status or (ii) the value of the private foundation’s net assets. The notice of termination must set forth in detail the computation and amount of tax and payment must be made at the time of filing the notice.

In reality, the option (A) termination tax should have no more impact on private foundations than the impact made on Will Smith by the death of half the world in the movie Independence Day. Smith, if you recall, uttered the intended witticism “That’s what I call a close encounter” (undoubtedly for his own amusement as he was the only one of his friends left alive) at the climax of a battle that had devastated human civilization. A private foundation can be easily as untroubled by the termination tax as Will Smith was by the near-extinction of humanity because the termination tax can be so easily avoided. If a private foundation transfers its net assets to a public charity that has only been in existence for 20 months, the private foundation will not have terminated its exempt status under option (B). But it can then file an option (A) notice and pay no termination tax because it has no assets. See Rev. Rul. 2003-13 (if a private foundation provides notice to the IRS “at least one day after it distributes all its net assets,” the termination tax will be zero).

Thus, private foundations do have a few more hoops to jump through than public charities in order to terminate. But these are relatively painless, and should give them ample leisure to utter witticisms of their own. I recommend “That’s what I call a terminator!”