ELECTION LAW, TAX LAW, AND FUNDING A 'CONNECTED' PAC

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Matilda Hart
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1 ELECTION LAW, TAX LAW, AND FUNDING A 'CONNECTED' PAC Author: ELIZABETH J. KINGSLEY (Originally published in the journal Taxation of Exempts, Volume 21, Number 03, November/December 2009) Restrictions imposed by the Code on the advocacy of Section 501(c)(3) organizations have regularly withstood legal challenges. This is due in part to the ability of people involved in such a group to create an affiliated Section 501(c)(4) organization that can engage in unlimited lobbying, and for that sister 501(c)(4) to establish a Section 527 organization to conduct political activities. That 527 organization may also be considered a PAC under federal election law. Federal Election Commission (FEC) rules on fundraising for such a "connected" federal PAC erect a substantial barrier in this process, however. An FEC ruling issued a few years ago suggests a way to minimize the practical challenges in establishing a PAC connected to a 501(c)(4) that has been established by a 501(c)(3). However, the FEC opines only on the law it administers, and organizations wishing to follow the roadmap set out by the ruling must also address potential tax issues raised by its holding. PACs and election law Under federal law, PACs are classed in two types "nonconnected" PACs and separate segregated funds (SSFs) established by a corporation. A nonconnected PAC is not supported by a connected organization. It must cover all of its own costs using hard federal PAC dollars that is, money that has been raised subject to the limitations and reporting obligations of the Federal Election Campaign Act 1. By contrast, an SSF (or "connected" PAC) can be supported by a connected organization. Corporate funds, which generally may not be used in connection with a federal election, may pay the administrative and fundraising costs of an SSF 2. The trade-off is that an SSF may solicit funds only from the restricted class of the sponsoring corporation, while a nonconnected PAC may solicit funds from the public at large 3. Restricted class. The group of people that may be asked to contribute to a PAC that is connected to a corporation is determined by their relationship with the corporation. For all corporations, this includes employees at the executive level 4. In addition, for-profit corporations may solicit their shareholders, and nonprofit corporations may solicit their members 5. Nonprofits have widely 1 The terms hard and soft money are not defined in the law, but are used in common parlance to distinguish money raised under the restrictions of the Federal Election Campaign Act from that not subject to those rules C.F.R (b) C.F.R (g). This discussion is, of necessity, a cursory overview. There are exceptions to this blanket statement, such as the ability of a corporation to solicit all of its employees, in writing, no more than two times each year, or the ability of a trade association to solicit the restricted class of its members under certain circumstances. 4 Id. 5 Id.; 11 C.F.R (a).

2 varying definitions of members, under which they may have corporate voting rights, be required to pay dues, participate in organizational activities, or even simply provide a one-time indication of support for the organization's purposes. Not all of these members will qualify as "members" for purposes of the FEC PAC solicitation rules, however. For an organization to have members who can be solicited for PAC contributions, FEC regulations require first that the organization itself qualify as a membership organization, and then that the members meet certain standards. In relevant part, the regulations define a membership organization as a corporation without capital stock that: (1.) Is composed of members, some or all of whom are vested with the power and authority to operate or administer the organization, pursuant to the organization's articles, bylaws, constitution, or other formal organizational documents 6. (2.) Expressly states the qualifications and requirements for membership in its articles, bylaws, constitution, or other formal organizational documents. (3.) Makes its articles, bylaws, constitution, or other formal organizational documents available to its members upon request. (4.) Expressly solicits people to become members. (5.) Expressly acknowledges the acceptance of membership, such as by sending a membership card or including the member's name on a membership newsletter list. (6.) Is not organized primarily for the purpose of influencing the nomination for election, or election, of any individual to federal office 7. These technical requirements, while important, are not hard to meet. Careful drafting of organizational documents and some basic policies for soliciting and communicating with members can easily ensure that an organization meets the FEC's definition of a membership organization. A member, in turn, must meet certain criteria: [T]he term members includes all persons who are currently satisfying the requirements for membership in a membership organization, affirmatively accept the membership organization's invitation to become a member, and either: (i) Have some significant financial attachment to the membership organization, such as a significant investment or ownership stake; or (ii) Pay membership dues at least annually, of a specific amount predetermined by the organization; or (iii) Have a significant organizational attachment to the membership organization which includes: affirmation of membership on at least an annual basis; and direct participatory rights in the governance of the organization 8. Item (i) is obviously not relevant for a typical 501(c)(4) advocacy organization. Section 501(c)(4) members therefore typically qualify as such for FEC purposes by paying annual dues or being given some direct voice in governance, such as the right to elect members of the board. (Under this test, the FEC requires that the members have the right to vote, directly or indirectly, 6 Item 1 can be satisfied if all members of the board are required (in the bylaws, for example) to be members of the organization C.F.R (e)(1) C.F.R (e)(2).

3 for at least one member of the highest governing body, although it also acknowledges that other types of participatory rights might qualify, such as the right to vote on policy questions or approve the annual budget 9.) The SSF's limitation on solicitations can become a serious practical challenge. This is so in the situation common in the nonprofit world of a 501(c)(3) that establishes a related 501(c)(4) to conduct advocacy beyond the limits imposed on the 501(c)(3) (lobbying in excess of the amount permitted to the 501(c)(3) and engaging in political activity prohibited to it) and the 501(c)(4) in turn wishes to create a PAC to support or oppose federal candidates. A large group of members is desirable to ensure that enough money can be raised for the PAC to be effective. If that group of members has voting rights, however, the burden of sending notice and holding an annual meeting can be significant, in terms of both money and staff time and energy. Requiring the payment of annual dues is easier for the organization, but still presents a major barrier for a related 501(c)(4). Where the sister 501(c)(3) has been in existence for a long time and developed a reputation and a significant base of support, it will likely draw in most new supporters. To ask those people to agree to give an additional amount as (non-deductible) dues to join as a 501(c)(4) member, so that they may be asked to give still more non-deductible funds to its PAC, is not likely to draw an overwhelming response. The combination of the payment requirement and the affirmative act of accepting membership in yet another organization, which the individual who is not a tax-law specialist may find difficult to distinguish from the group he or she already supports, acts as a substantial obstacle to political advocacy. Affiliation. There is, however, another option. A corporation may also solicit the restricted class of an affiliated corporation 10.In many cases of related 501(c)(3) and 501(c)(4) organizations, the original 501(c)(3) organization qualifies as a membership organization, with members who meet the requirements of the FEC regulations. Thus, if the two organizations are affiliated according to the FEC's standards, the 501(c)(4) would be allowed to solicit PAC funds from any individual human being who is a member of the 501(c)(3) 11. Certain relationships will cause organizations to be per se affiliated. These include a corporation and its subsidiaries, a union and its locals, and a membership organization and its state or local chapters. Outside of these situations, affiliation is determined by weighing a set of numerous factors, which include whether: One organization has the ability to direct or participate in the other's governance through provisions of the governing documents or through formal or informal practices or procedures. The organizations have common or overlapping membership, which indicates a formal or ongoing relationship between them. The organizations have common or overlapping officers or employees, which indicates a formal or ongoing relationship. One organization arranges for funds in a significant amount or on an ongoing basis to be provided to the other organization C.F.R (e)(2)(iii). 10 Affiliation has other consequences. PACs established by affiliates are themselves considered affiliated. The PACs share contribution limits, so must carefully coordinate to avoid accepting more from a donor or giving more to a candidate than is legally permitted. 11 PAC contributions may be solicited only from non-corporate members. 11 C.F.R (b)(1); see also 11 C.F.R (c)

4 One organization or its agent had an active or significant role in the formation of the other 12. A recent FEC ruling directly addressed the application of these factors to a related 501(c)(3) and 501(c)(4). In Advisory Opinion , the Commission considered a 501(c)(4) that had been established by a 501(c)(3) membership organization. Both organizations met the definition of membership organization. The request provided significant detail on the ways the organizations met the multi-factor affiliation test: (1.) The (c)(4) was established by vote of the (c)(3)'s executive board. (2.) The (c)(4)'s principal purpose is to advocate the (c)(3)'s legislative priorities before Congress. (3.) The (c)(4)'s membership consists almost exclusively of individuals who are (c)(3) members. (4.) The (c)(4)'s bylaws create significant governance overlap, including a majority of the (c)(4) board consisting of directors who are current or former (c)(3) officers, plus three others defined by membership in the (c)(3) or former leadership roles in it, and only one (c)(3) board member appointed by the other directors. (5.) Officers of the (c)(4) have a pattern of being immediate past or current officers of the (c)(3). (6.) The (c)(3), pursuant to contractual agreement, employs the (c)(4) to provide advocacy services to the (c)(3). (7.) Employees of the (c)(3) provide various advocacy-related services pursuant to a contractual agreement whereby the (c)(4) pays the (c)(3) for such services. (8.) By contractual agreement, the (c)(4) leases office space from the (c)(3) and pays the (c)(3) for general and administrative services associated with such leased space. These factors taken together provide an extremely strong case for finding affiliation between the two organizations. Interestingly, however, the FEC's reasoning did not rely on this level of detail to reach its conclusion. The opinion as issued stated that because the 501(c)(3) established the 501(c)(4), and because no other facts presented would lead to a contrary conclusion, the two organizations were affiliated. As a result, the 501(c)(4) and its connected PAC would be permitted to solicit PAC contributions from qualifying 501(c)(3) members. Tax law considerations Unfortunately, the inquiry cannot end here. The election law analysis may resolve all concerns for the 501(c)(4)'s solicitation, but the sister 501(c)(3) still has to contend with questions about giving a non-501(c)(3) access to its 501(c)(3) membership list in order to permit the other organization to solicit PAC contributions. Even if the 501(c)(4) pays fair market rental for this use, there is a concern that by allowing the access for a political fundraising message, the 501(c)(3) is facilitating that political activity. It is generally considered safe for a 501(c)(3) to rent its mailing list for political purposes if the list is made widely available in the market place without partisan discrimination. The IRS has expressed the opinion that allowing one candidate in a race to rent a 501(c)(3) list, but refusing to rent the list to his or her opponent would be prohibited campaign intervention 14. Renting a 501(c)(3)'s list to an affiliated organization for political uses (PAC fundraising) falls between these two extremes, and there is no legal authority that clearly determines the answer C.F.R (g)(4)(ii). 13 Available at saos.nictusa.com/saos/searchao?submit=ao&ao= Rev. Rul , CB 1421, Situation 18.

5 There is a good legal argument to be made that a 501(c)(3) may rent its membership list to a related organization without imposing a restriction on using the list for electioneering as long as (1) the affiliate pays fair market value and (2) the 501(c)(3) does not participate in selecting or editing any electoral communications 15. This conclusion that a 501(c)(3) may give a sister organization access to its list is almost certainly correct if the 501(c)(3) generally rents its list out to other organizations, but even if not it likely holds true for a rental to a related organization. This conclusion flows from the constitutional dimension to the relationship of 501(c)(3)-501(c)(4) or 501(c)(3)-501(c)(6) sister organizations. In Regan v. Taxation With Representation 16, the Supreme Court held that the prohibition on substantial lobbying imposed on Section 501(c)(3) organizations is constitutional because the government is not required to subsidize an organization's lobbying with public funds (in the form of tax deductions for donors' contributions). However, the Court simultaneously confirmed a previous decision that the government cannot deny a benefit to a person because that person exercises a constitutional right. Implicit in the Court's opinion, and explicit in a concurrence joined by three justices, is the idea that this second tenet is satisfied only because of the way the IRS administers the Code by permitting a (c)(3) to create a (c)(4) to engage in the lobbying that the (c)(3) cannot itself do. Central to the concurrence in Regan, the significance of which is acknowledged in a recent IRS Field Service Directive 17, is that the only requirements the IRS will impose on this relationship are (1) that the (c)(3) and the (c)(4) be separately incorporated and (2) that they maintain records that are adequate to show that tax-deductible contributions are not used to pay for lobbying. The holding in Regan was subsequently applied by the District of Columbia Circuit in Branch Ministries 18. There, the court upheld the constitutionality of the political campaign prohibition against a church in part because the church could have created a (c)(4) that then could have created a PAC to engage in political campaign activities 19. In other words, the ability of a 501(c)(3) to have a special relationship with another type of 501(c) organization is key to the constitutionality of the limits put on the 501(c)(3)'s core First Amendment activity. There is no known precedential authority that would require a 501(c)(3) to prohibit a related organization from using its list for electoral purposes, even if the list is provided on an exclusive basis, so long as the related organization paid fair market value for the list. However, a nonprecedential internal training article suggests that the IRS might take this position 20. The article notes that a Section 501(c)(3) organization should not subsidize the political campaign activities of its related organization, just as it may not subsidize the activities of a Section 527 political organization. It goes on to expressly state that a subsidy can take several forms, including allowing the (c)(3)'s mailing list to be used on a preferential or non-arm's length basis. Because the IRS is known to have not raised objections to allowing a related 501(c)(4) to have access to a 501(c)(3) list on a preferential basis for non-political activity (e.g., fundraising for the 501(c)(4), or 501(c)(3)-permissible program work), it is likely that the intent of this statement is 15 This does not mean that staff whose time is split between the two corporations pursuant to a staff-sharing agreement may not help the 501(c)(4) choose which candidates to support, but when doing so the staff must be working for the 501(c)(4) and not wearing their 501(c)(3) hats AFTR 2d , 461 US 540, 76 L Ed 2d 129, 83-1 USTC 9365, CB 90 (1983). 17 Memorandum for all EO Revenue Agents from Marsha A. Ramirez, Director, Exempt Organizations Examinations, dated 7/28/08, available at AFTR 2d , 211 F3d 137, USTC (DC D.C., 2000). 19 While both Regan and Branch Ministries looked at the 501(c)(3)-501(c)(4) relationship, there is no reason a 501(c)(6) should be treated any differently for these purposes. 20 Thomas and Kindell, "Affiliations Among Political, Lobbying and Educational Organizations," Exempt Organizations Continuing Professional Education Technical Instruction Program for FY 2000 (1999), available at

6 to restrict rentals only where the communication for which the list is rented is a political message, which would include PAC fundraising. This warning against allowing a (c)(4) preferential access to its related (c)(3)'s list appears to go further than what is permitted under Regan namely, that as long as a (c)(3)'s related (c)(4) is separately incorporated, the (c)(3) only has to make sure that any substantial lobbying or political campaign activities being conducted are not paid for using tax-deductible contributions. If the related (c)(4) pays fair market value for the (c)(3)'s list, tax-deductible contributions are not being used to fund impermissible activities as long as the (c)(3) does not otherwise participate in the list's use for electioneering. Making the list available to the (c)(4) specifically for electioneering might lead to the conclusion that the (c)(3) is participating in the electioneering, but that should be curable by making the list available to the (c)(4) for any purpose and leaving it to the (c)(4) to decide whether it is used for electioneering. Organizations considering such rentals cannot know whether the IRS could be persuaded to agree with this analysis without obtaining a private letter ruling or accepting the risks that the IRS may address the issue on audit. Ultimately, court action may be necessary to vindicate this approach, and even then there is no guarantee the court would agree that a 501(c)(3) may allow a related 501(c)(4) preferred access to rent its membership list. It is an interesting line of reasoning, but untested. Given that the IRS holds the (c)(3) ban on political campaign intervention to be absolute, and revocation of exemption is a possible result of violating the ban, there is without question some risk in allowing a non-501(c)(3), even a sister 501(c)(4), to rent a 501(c)(3)'s membership list for the purpose of sending PAC solicitations. A less risky approach than renting the entire list for the purpose of PAC solicitations would be to allow the 501(c)(4) to rent the 501(c)(3) list for a limited purpose solicitation of contributions or membership as well as offering a non-paying option to opt in to receive future communications from the 501(c)(4). As a general matter, a 501(c)(3) can rent its list to a sister organization to solicit contributions, and the other organization would retain ownership of anyone who gave in response and could correspond freely with them. By analogy, the 501(c)(3) can rent its list to the sister organization for the general purpose of asking people to sign up for a mailing list, to receive policy alerts, and otherwise hear from the 501(c)(4). Those who respond can reasonably be considered names owned by the 501(c)(4), which could then communicate freely with them. Future rentals would not be necessary for the 501(c)(4) to communicate with those who opt in. The 501(c)(3) would never rent its list for political communications. And under the FEC standards, the 501(c)(4) is free to raise PAC funds from these 501(c)(3) members. In sum, there are four possible conceptual approaches to this list rental situation. From riskiest to safest, they are: (1.) The 501(c)(3) allows the 501(c)(4) to rent its membership list for specific PAC solicitations but does not otherwise rent the list out. (2.) The 501(c)(3) adopts a general policy of allowing the 501(c)(4) to rent its list. (3.) The 501(c)(3) allows the 501(c)(4) to rent its list only to send a communication that is not expressly political. The 501(c)(4) then has the right to communicate further with those who respond to this first communication, e.g., by opting in to hear about its policy advocacy work. (4.) The 501(c)(3) adopts a policy allowing other organizations, including the 501(c)(4), to rent its list, with limits imposed based only on objective factors, such as not conflicting with the 501(c)(3)'s own mailing schedule. There is one final consideration to bear in mind: the 501(c)(4) may solicit only current 501(c)(3) members. Specifically, under option 3 (the opt-in solicitation), it cannot get an opt-in from a member and solicit PAC contributions from them in perpetuity. If the 501(c)(3) gives the

7 501(c)(4) access to its current membership list to verify membership status on an ongoing basis, the potential problems of this ongoing access return. Perhaps a one-time (annual) rental for the sole purpose of enhancing the 501(c)(4)'s list by cross-referencing would be sufficient, presuming a sufficient payment is made. Of course, the 501(c)(4) may also want to develop its list of opt-ins into independently qualifying 501(c)(4) members, a process that will be easier once they have experience hearing about the 501(c)(4)'s work than if they had been initially approached to join a new, unfamiliar group. Conclusion The affiliation between a 501(c)(4) and a 501(c)(3) may allow the 501(c)(4) to solicit PAC contributions from the 501(c)(3)'s members without running afoul of the federal election law. To get access to that list of names, however, it must at a minimum pay fair market value for the rental. It is risky but arguably defensible for the 501(c)(3) to allow a related 501(c)(4) to rent its list on a recurring basis to send substantive communications, including PAC solicitations. A safer approach is to give the 501(c)(4) access to the 501(c)(3) membership list to invite people to join a mailing list used to communicate about the 501(c)(4)'s policy advocacy, and to limit PAC solicitations to those who opt in to this list (which is the 501(c)(4)'s list, not the 501(c)(3)'s). Safest of all is to make the list generally available for rental to anyone, but many organizations do not find this desirable.

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