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WHAT SHOULD MY PRIVATE FOUNDATION DO FOR THE HOLIDAYS?

First and foremost, let me wish everyone who reads SocEntLaw the safest and happiest of holidays.

Next, I want to share something that, as the Grinch would say, has me “puzzled and puzzled ‘till [my] puzzler [is] sore.”*

Specifically, I cannot figure out why the Brewer Family Foundation’s tax lawyer, Ebenezer Scrooge, is insisting that the Foundation may buy $500,000 of stock in BP or give $500,000 to GreenPeace to celebrate the season, but that the Foundation cannot risk investing the same amount in SunSleigh, Inc. a “social enterprise” developing an affordable solar-powered car. I think old Ebenezer finally has lost it, and the Foundation needs a new tax lawyer.

Let me explain. Although not huge in terms of value, the imaginary Brewer Family Foundation’s mission is nonetheless a big one: to save the world, especially the environment. The Foundation’s endowment is $100 million and as required for tax purposes every year the Foundation distributes to charity at least 5% of the value of the Foundation’s assets. We’ve already met our 5% goal this year, but because our endowment is really well managed and generating an average 10% annual return, we’re feeling more generous than usual this December and have an extra $500,000 to spend. We’ve narrowed down our choices to the following three:

• Buying stock in BP (because we think BP stock is a really good investment right now even though it runs contrary to our mission of protecting the environment); or
• Giving money to GreenPeace expressly because we think GreenPeace hates oil companies and cares about the environment more than any other charity (except, of course, the Foundation); or
• Investing in SunSleigh, a local, privately-held company raising money to develop an affordable solar-powered car.

Personally, I would like the Foundation to invest the extra $500,000 in SunSleigh, but Ebenezer says we can’t.

More background: As I mentioned, SunSleigh is a private “social enterprise” company located here in Atlanta that is developing an affordable solar-powered car. A $500,000 investment in SunSleigh would equate to 1% of the SunSleigh stock. Like the Foundation, the owners of SunSleigh are so committed to the environment that they plan to sell the SunSleigh for as little as possible so long as they can generate a 2% return on invested capital. No doubt the investment will be very risky, and the Foundation might lose all $500,000, but in my well-considered judgment, SunSleigh really could help save the environment if it is successful. In fact, I sincerely and realistically believe that the Foundation might do more to save the planet by investing in SunSleigh than it could ever accomplish through all of its other investments and annual grants to environmental charities like GreenPeace. Moreover, SunSleigh really needs the Foundation’s $500,000 because it has been unable to attract normal investment capital due to SunSleigh’s commitment to keep the car’s costs low and pay only a 2% dividend forever.

So, I called my favorite tax lawyer, Ebenezer Scrooge, just to make sure that I was on solid legal and tax ground if the Brewer Family Foundation invested $500,000 in SunSleigh. After grilling me on all the particulars of the Foundation’s assets, mission, tax filings, annual distributions, and SunSleigh’s ownership, business plan, and stock offering—which, by the way, were all fine and legally compliant as far as Ebenezer was concerned—I was extremely disappointed to hear Ebenezer tell me that if the Foundation invested $500,000 in SunSleigh it could face a $50,000 penalty tax. Even more outrageous, Ebenezer said that I personally might have to pay a $50,000 tax as well. Further, if the Foundation invested in SunSleigh and lost the $500,000, then according to Ebenezer the IRS conceivably could revoke the Brewer Family Foundation’s tax exempt status.

I couldn’t believe my ears! After listening at length to Ebenezer explain in detail the complicated and confusing tax law applicable to private foundations, and after getting more and more frustrated, I finally said somewhat angrily to Ebenezer: “You mean to tell me that, in carrying out the Foundation’s mission to protect the environment, for a mere one-half of one percent of the foundation’s assets the tax law would prefer that I buy stock in BP or give the same amount of money to GreenPeace instead of investing in an idea that could make both BP and GreenPeace obsolete?”

Ebenezer sheepishly said, “Yes, that’s right.”

Then, I exclaimed, “You and the tax law are nuttier than a Christmas fruitcake.” I immediately hung up the phone and poured myself a spiked glass of eggnog to calm my nerves.

Do you know why Ebenezer probably is right? Revisit SocEntLaw in the future for the answer.

* “And the Grinch, with his Grinch-feet ice cold in the snow, stood puzzling and puzzling, how could it be so? It came without ribbons. It came without tags. It came without packages, boxes or bags. And he puzzled and puzzled ’till his puzzler was sore. Then the Grinch thought of something he hadn’t before. What if Christmas, he thought, doesn’t come from a store. What if Christmas, perhaps, means a little bit more.”
― Dr. Seuss, How the Grinch Stole Christmas

‘TIS THE SEASON… TO INVEST

Thanksgiving marks the beginning of the busiest consumer buying period of the year in the U.S.  This year, however, investors may want to consider spending more time shopping for stock than stuff.  The New Year will bring an increase of 14% in the federal tax rate for many investments – up from a rate of 0% for qualifying investments made on or before December 31, 2010 (yes, that means no federal tax).

And the holiday cheer offered by this potential tax benefit is not limited to outside investors.  Others who may want to consider a change in their end-of-year financial plans include:

  • Entrepreneurs – if you were thinking about forming a company or contributing additional capital to your new business at the beginning of 2011, you may want to accelerate your plans.
  • Option/warrant holders – if you hold vested options/warrants, you may want to evaluate an early exercise of your rights.
  • LLC members – have you been considering a change in form of entity?  Conversion to a corporate form before the end of the year could qualify the stock you receive for tax free treatment on capital gains.

More Details

Under the Small Business Jobs Act of 2010 (signed into law on September 27th by President Obama), there is a 100% exclusion from federal tax for any capital gains realized from certain investments in “qualified small business stock” made between September 27, 2010 and December 31, 2010.  The excluded capital gain for qualifying investments is also excluded for purposes of the alternative minimum tax.  On January 1, 2011, the capital gains rate applicable to qualified small business stock will return to 14%, and gains will no longer be excluded for alternative minimum tax purposes.

Section 1202 of the Internal Revenue Code includes a number of requirements and limitations for this tax benefit, some of which are summarized below.  As the list below is not exhaustive, you should review the details of any proposed investment with an attorney or tax adviser to ensure that it qualifies.

  • The issuer must be a C corporation.
  • The stock must be acquired at original issuance from the issuer (not from a third party or secondary offering).
  • The stock must be held for at least five years.
  • The aggregate gross assets of the issuer (including majority parents and majority-owned subsidiaries) may not exceed $50 million at issuance.
  • The issuer must engage in the active conduct of a “qualified trade or business.”  Examples of businesses that do not qualify include: banking, insurance, financing, leasing, investing, farming, mineral extraction, hospitality businesses, and a variety of service businesses where the principal asset of such trade or business is the reputation or skill of its employees (such as those in health, law, consulting, and financial services).

Questions?

We at Campbell Law Group would be happy to help you evaluate whether or how you might be able to take advantage of this extraordinary opportunity.  In particular, feel free to contact me or Jochem Tans.

This content is provided solely for general informational purposes.  It does not constitute legal advice regarding any specific facts and circumstances, and its dissemination does not create an attorney-client relationship.   If you are interested in learning more or want to discuss a particular situation, you should contact one of us or another attorney or tax adviser.