WASHINGTON (AP) -- The uproar over the Internal Revenue Service's heavy-handed treatment of conservative groups seeking tax-exempt status can be traced partly to when New York University Law School went into the noodle business.
The 1947 episode — more on that later — helped produce conflicting laws covering the kinds of activities tax-exempt organizations may conduct. The IRS' attempt to enforce those contradictory laws with vague regulations has sown even more confusion, tax lawyers, former agency officials and others agree.
"It's hard for groups to understand what the standards are, and different lawyers have different definitions of where to draw the line," said Abby Levine, who dispenses advice on nonprofit status to scores of groups as legal director of the liberal Alliance for Justice.
While no one interviewed by The Associated Press for this story defended the IRS' targeting of tea party and other conservative groups, no one disputed that the rules governing political activities by tax-exempt organizations are hard for everyone to follow, including the IRS. With one law saying some tax-exempt groups must engage "exclusively" in social welfare work, while a regulation changes the threshold to "primarily," President Barack Obama said last month that the result is "a bunch of ambiguity."
In the spotlight is a section of the tax code that has become increasingly attractive to many organizations in recent years, 501(c)(4), which grants tax-exempt status to so-called social welfare groups. Over the years, such groups have been allowed to participate in overt political activity as long as they focus mostly on social welfare work. While many of them engage in little or no political activity, for those involved in politics the designation offers a valuable feature: It lets donors remain anonymous.
After the Supreme Court in its 2010 Citizens United decision allowed unfettered political spending by companies and unions, campaign spending by social welfare groups exploded. Between the 2008 and 2012 elections it tripled, to $254 million, according to the nonpartisan Center for Responsive Politics, which tracks political expenditures.
The IRS received 3,357 applications for Section 501(c)(4) status last year, nearly double the number in 2010, according to the Treasury Department.
The story behind the confusion began a century ago, when Congress enacted legislation laying the groundwork for the modern income tax.
Exempted from the corporate income tax were nonprofits, including those "operated exclusively for the promotion of social welfare" — the designation that many conservative groups have sought in the current controversy. An IRS history of tax-exempt organizations says it is assumed that provision in the 1913 law was requested by the U.S. Chamber of Commerce.
Fast forward to 1947, when wealthy graduates donated the C.F. Mueller Co., a pasta maker, to the NYU law school. That transaction, and a court ruling letting NYU keep its Mueller profits tax-free, helped call attention to the tax treatment of nonprofits.
NYU and other nonprofits had been fattening their coffers through ownership of factories, department store chains, cattle ranches, the Encyclopedia Britannica and other profitable businesses on which they were not paying taxes. One congressional estimate put the lost tax revenue at $173 million a year, a large amount at the time.
Urged on by President Harry Truman, Congress passed a law in 1950 allowing some nonprofits to keep unrelated businesses if they paid income tax on them.
But that left federal laws stating two things: a 1913 statute saying groups must operate "exclusively" for social welfare purposes and the 1950 law saying they could do unrelated things after all, as long as they paid taxes on the profits.
"So 'exclusively' couldn't mean 'exclusively,' because later law acknowledged these organizations could engage in other activities" if you tax them, said Ellen Aprill, a tax law professor and expert on tax-exempt organizations at Loyola Law School in Los Angeles.
The government soon faced another issue — a 1954 revamping of the entire federal tax code. Feeling a need to overhaul tax regulations, the Treasury Department issued new ones in 1959, producing even more ambiguity.
The new regulations addressed the two laws defining nonprofits by, for the first time, saying groups need only be "primarily engaged in promoting in some way the common good and general welfare." The rules permit "direct or indirect participation or intervention in political campaigns" for or against candidates, as long as that isn't the group's principal activity.
"Congress made no effort to harmonize those statutes," said Marcus S. Owens, a Washington tax attorney who spent the last decade of his 25-year IRS career heading its tax-exempt organizations division. So the government adopted the "primarily" approach "as the only methodology they could think of to harmonize the statutes," Owens said.
Despite decades of IRS rulings and court cases refining the rules, definitions remain hazy for terms like "primarily," ''social welfare" and "intervention in political campaigns." Many lawyers, for example, say "primarily" means such groups can devote up to 49 percent of their resources to campaign activity, while others are more cautious.
While groups are supposed to devote most of their effort to "social welfare," that can include political issues if the work doesn't clearly support or oppose a candidate. That is a blurry distinction in an age when sophisticated political advertising writers tie politicians to specific viewpoints without explicitly calling for their defeat or re-election.
Such opaqueness can serve a purpose, such as letting tax-exempt groups hold fundraisers that are indirectly related to their main mission, experts say.
"I don't think the IRS would ever have wanted as a practical matter to be so severe that organizations are constantly disqualified on a foot fault on some tiny thing," said Richard Schmalbeck, who teaches tax law at Duke University Law School.
The vagueness has persisted for other reasons too, such as making it easier for such groups to wade into politics, benefiting Democrats and Republicans alike, analysts say.
Owens, the former IRS official, said he's unaware of any congressional efforts to clarify the rules over the decades. Though the IRS has removed tax-exempt status of groups supporting each major political party — including the conservative Christian Coalition and the Democratic Leadership Council — the vagueness of the regulations makes it hard to do.
"Congress was pretty happy leaving it up to the IRS to enforce this case by case, rather than stepping in and trying to find a clear, bright line," Owens said. Because the IRS had dealt with groups that clearly overstep the boundaries, "there's been no incentive for Congress to dabble there" with additional fine-tuning, Owens added.
To this day the IRS investigates each group to see whether it is engaging in political activity, using tests such as whether an election is approaching or whether the group gives opposing candidates equal opportunities to participate in events. If it is, the agency determines whether politics is the group's primary activity — a difficult judgment that can involve measuring money, time spent by workers and other factors.
"Congress put the IRS in the position of being the gatekeeper," said Gregory Colvin, a San Francisco attorney who has helped advise numerous nonprofit groups. He said that forces the agency to do "a huge job with an inadequate staff."
Colvin has led a group of tax law experts who have proposed tighter IRS regulations on political activity by tax-exempt groups. He said he would prefer to see political activity restricted to an "insubstantial" part of their work, such as about 15 percent.
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