Private Foundation Excise Tax Rates
The Pension Protection Act of 2006 (PPA) increased the excise tax rates for violations of many of the private foundation rules. In most cases, the first-tier taxes were doubled. These changes are effective for private foundations upon the foundation’s first tax year beginning after August 17, 2006. For private foundations with calendar tax years, this translates into an effective date of January 1, 2007. Below is a review of the changes to the first-tier taxes:
Self-dealing: Internal Revenue Code (IRC) Section 4941 prohibits all acts of self-dealing, which are defined generally as financial transactions with disqualified persons (such as related corporation and foundation board members) using foundation funds. With the PPA changes, a 10 percent initial excise tax is imposed on the self-dealer. In addition, a five percent tax is imposed on foundation managers who participated in the transaction knowing that it was self-dealing; the tax on foundations managers is capped at $20,000 per act of self-dealing.
Minimum payout: IRC Section 4942 imposes a minimum payout requirement for private foundations, roughly equivalent to five percent of net investment (non-charitable) assets. The new first-tier tax on the foundation is 30 percent of any undistributed amount.
Excess business holdings: IRC Section 4943 prohibits a foundation and its disqualified persons from having excess business holdings (generally, more than a 20 percent interest in a for-profit company, partnership, etc.). The first-tier excise tax on a foundation that violates these rules is now 10 percent of the fair market value of excess business holdings that are held beyond the permitted time period; the permissible holding period is generally five years.
Jeopardy investment: IRC Section 4944 penalizes a foundation and its managers for any investment that might jeopardize the carrying out of the foundation's exempt purposes. A tax is imposed upon the foundation and foundation managers that participated in making the investment knowing that it was a jeopardy investment. The new tax rate for violating these rules is 10 percent of the investment on the foundation and 10 percent of the investment on foundation managers. The maximum first-tier tax for foundation managers is now $10,000 per investment.
Taxable expenditures: IRC Section 4945 provides a list of various grantmaking and other taxable expenditures that can subject a private foundation and its manager to penalty. For example, funds spent in support of or in opposition to a political candidate, grants to non-charities and certain supporting organizations without expenditure responsibility, and grants for non-charitable purposes would subject a foundation to taxes. The first-tier excise taxes for violating these rules are 20 percent of the impermissible expenditure on the foundation and five percent on foundation managers, with a maximum of $10,000 per expenditure for foundation managers.
The above outlines the new excise taxes for first-tier taxes for violations of the private foundation rules. Second-tier taxes are applied at higher rates when a violation goes uncorrected for a period of time.