BILL ANALYSIS Ó
SENATE GOVERNANCE & FINANCE COMMITTEE
Senator Lois Wolk, Chair
BILL NO: SB 323 HEARING: 4/10/13
AUTHOR: Lara FISCAL: Yes
VERSION: 2/19/13 TAX LEVY: Yes
CONSULTANT: Grinnell
NON-PROFIT ORGANIZATIONS AND DISCRIMINATION
Revokes charitable tax exemptions for youth organizations
that discriminate.
Background and Existing Law
I. Tax-exempt Organizations. Tax law has treated
organizations that serve charitable purposes and exist to
serve its members differently from businesses seeking a
profit since Congress enacted the Tariff Act of 1894. That
Act levied a corporate income tax, but excluded
"corporations, companies, or associations organized and
conducted solely for charitable, religious, or educational
purposes, including fraternal beneficiary associations."
Congress believed that these agencies filled a gap in
social welfare programs that the government did not yet
provide, and taxing these entities would divert needed
resources away from them.
Internal Revenue Code 501(c) describes the various forms of
organizations that are exempt from the federal income tax.
Most charities, churches, and other tax-exempt
organizations operate under 501(c) (3), which the IRS
interprets to require the organization to:
Be organized and operated exclusively for purposes
set forth in the code,
Refrain from political action or substantially
attempt to influence legislation,
May not operate so that its earnings inure to the
benefit of private individuals and shareholders, and
Not act illegally or in a way contrary to public
policy, a common law doctrine that requires charities
to operate in a manner that doesn't violate public
policy, or the common community conscience, to enjoy
the benefit of the tax exemption.
IRS may revoke tax-exempt status for any group failing to
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meet the above criteria. Additionally, Internal Revenue
Code 170 allows individuals a deduction against income for
making a contribution to a tax exempt organization.
In California, nonprofit corporations are not necessarily
tax-exempt ones, regardless of federal status. All
nonprofits must apply to the Franchise Tax Board (FTB) for
tax-exempt status, or provide FTB with a copy of the
Internal Revenue Service's (IRS's) determination that the
organization is tax-exempt under the Internal Revenue Code
(AB 897, Houston, 2008). FTB then notifies the
organization of its determination, or its acknowledgement
of the IRS determination, either of which entitles the
organization to an exemption from both the Corporation Tax.
Nonprofits that do not obtain approval from FTB for their
tax-exempt application are subject to tax regardless of its
use of its money. After FTB determination or
acknowledgement, all non-church charities must annually
file a simple form with FTB, known as from the E-Postcard
(Form 199N) with basic information about the organization.
Tax-exempt organizations with average gross receipts over
$50,000 per year must file a more comprehensive annual
return (Form 199). Churches don't have to complete either
form.
Generally, when FTB audits tax-exempt organizations, it
looks at the use of the entity's revenue. FTB may revoke
tax-exempt status, thereby turning the organization into a
taxable corporation, for any taxable year within the
statute of limitations where the FTB finds that the
entity's use of funds doesn't comply with the law. FTB
initiates audits on tax-exempt organizations based on
information in its filings, IRS actions, and letters from
citizens concerned about an organization's use of funds.
Organizations must reapply to FTB using the existing
process to regain its tax-exempt status if revoked.
Additionally, the Sales and Use Tax Law deems as consumers,
not retailers, nonprofit organizations that intermittently
or irregularly sell food, nonalcoholic beverages, and other
property made by the organization's members. The
organization must use the proceeds from the sale to further
its objectives, and also:
Qualify under IRC 501(c) as tax-exempt,
Have as its primary purpose a supervised program of
competitive sports for youth or promote good
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citizenship among youth,
Not discriminate on the basis of race, sex,
nationality or religion,
Is any youth group sponsored by or affiliated with
a qualified educational institution, subject to the
requirement that the affiliated institution does not
discriminate on the basis of race, sex, nationality or
religion, or
Is one of a list of statutorily enumerated groups,
currently Little League, Bobby Sox, Boy Scouts, Cub
Scouts, Girl Scouts, Campfire Inc., Young Men's
Christian Association, Young Women's Christian
Association, Future Farmers of America, Future
Homemakers of America, 4-H Clubs, Distributive
Educational Clubs of America, Future Business Leaders
of America, Vocational Industrial Clubs of America,
Collegiate Young Farmers, Boys' Clubs, Girls' Clubs,
Special Olympics, Inc., American Youth Soccer
Organization, California Youth Soccer Association,
North and South, and Pop Warner football.
As consumers, these organizations neither need to hold
seller's permits nor collect and remit the sales or use tax
when reselling tangible personal property under the
exemption. Instead, the tax is deemed paid when the
organization initially buys the items it subsequently plans
to sell on resale.
In 1967, IRS first denied tax-exempt status to schools that
received state support that overtly discriminated on the
basis of race. On January 12, 1970, a three-judge District
Court for the District of Columbia issued a preliminary
injunction prohibiting the IRS from according tax-exempt
status to private schools in Mississippi that discriminated
as to admissions on the basis of race regardless of whether
they receive state funding. Green v. Kennedy , 309 F.Supp.
1127. IRS then issued Revenue Ruling 71-447, which denied
tax-exempt status to all private schools which practice
racial discrimination, and disqualify charitable deductions
made by individuals to such private schools, as IRS deemed
racial discrimination contrary to public policy. Among
those universities denied tax exempt status under the
regulations was Bob Jones University in Greenville, South
Carolina, which had a stated policy to expel any student
dating outside their race, or those advocating interracial
dating, because they genuinely believed that the bible
prohibited interracial dating and marriage. The University
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sued the IRS, contending that its regulations exceeded its
authority, and violated the University's rights under the
Speech and Religion Clauses of the First Amendment to the
United States Constitution. The United States Supreme
Court sided with the IRS, stating "whatever may be the
rationale for such private schools' policies, and however
sincere the rationale may be, racial discrimination in
education is contrary to public policy. Racially
discriminatory educational institutions cannot be viewed as
conferring a public benefit within the 'charitable'
concept." Bob Jones University v. United States , 461 U.S.
574 (1983). IRS has subsequently denied tax-exempt status
for charities that act illegally or in ways contrary to
public policy.
II. Unruh Civil Rights Act . Congress enacted the Civil
Rights Act of 1875, which provided that all persons shall
be entitled to make full use of inns, public conveyances on
land or water, theaters, and other places of public
amusement, regardless of any previous condition of
servitude. The United States Supreme Court nullified the
statute in 1883, holding that the equal protections clause
of the United States Constitution's 14th amendment did not
allow Congress to regulate private acts, and that the 13th
amendment was limited only to slavery, and didn't prohibit
discrimination in business practices. In response to the
decision, California joined other states to erect its own
statute prohibiting businesses from discriminating against
individuals in 1897. In 1959, the Legislature revised the
statute, renamed it the Unruh Civil Rights Act, and
expanded its application to provide that all citizens are
entitled to the full and equal accommodations in all
business establishments. The Legislature explicitly added
sexual orientation and marital status to the Unruh Act in
2005, although the Act implicitly barred discrimination
against these persons prior to the bill's enactment (AB
1400, Laird). Persons who allege discrimination may either
file a complaint within one year with the Department of
Fair Employment and Housing, who investigates the
complaint, and may attempt to settle or issue an accusation
against the discriminating business. The Attorney General
or district attorney can file suit on a person's behalf to
enforce the Act in specified circumstances. Persons may
also directly file suit against the discriminating party in
court.
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After enactment of the Unruh Act, businesses and private
social clubs that practiced discrimination challenged its
application as an infringement against First Amendment
protections for an individual's choice to enter into and
maintain certain intimate or private relationships free of
arbitrary government interference, and freedom to associate
for the purpose of engaging in protected speech or
religious activities. Case law has further clarified the
distinction between organizations that are truly public and
are subject to the Act, and those that are truly private
and can discriminate as they please: the United States
Supreme Court ruled that the Unruh Act's application to
large, inclusive social clubs doesn't violate protections
of speech and association in Rotary International v. Rotary
Club of Duarte , 481 U.S. 537 (1987).
Additionally, Courts had to determine whether social
organizations with some business operations that
discriminate when awarding membership were considered
"business establishments" for purposes of the Act.
Generally, private social organizations open to a large
part of the public that operate public facilities, and any
organization with business contacts with nonmembers are
subject to the Act. Nonprofits are subject to the Act; the
California Supreme Court explicitly rejected the argument
that nonprofits should be exempt from the Act by virtue of
its status in O'Connor v. Village Green Owners Assn. (1983)
33 Cal.3d 790. Next, the California Supreme Court
subsequently ruled that the Act did not apply to private
social clubs that genuinely are selective in their
membership and in which the relationship among members is
continuous, personal, and social in Warfield v. Peninsula
Golf and Country Club (1995) 10 Cal.4th 594. In that same
case, the Court ruled that a private social club that
engages in regular business transactions with nonmembers is
subject to the Act because of its public nature.
However, the California Supreme Court ruled that the Boy
Scouts of America is not a business establishment, and not
subject to the Act in Curran v. Mount Diablo Council of the
Boy Scouts of America , 17 Cal.4th 670, 952 P.2d 218 (1988).
In that case, the Court deemed that the Mount Diablo
Council was not comparable to other businesses, stating
"the Boy Scouts is an expressive social organization whose
primary function is the inculcation of values in its youth
members, and whose small social-group structure and
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activities are not comparable to those of a traditional
place of public accommodation or amusement."
III. Boy Scouts of America. The Boy Scouts of America
(BSA) is one of the largest youth organizations in the
United States, with 2.7 million youth members and over 1
million adult volunteers. According to its mission
statement, the BSA exists "to prepare young people to make
ethical and moral choices over their lifetimes by
instilling in them the values of the Scout Oath and Law."
The BSA operates under a statutory charter enacted by
Congress in 1916.
Like any multistate organization with thousands of members
and staff, the Boy Scouts of America has a complex
structure. The governing body of the scouting program, BSA
National Council, sets policy, including membership. BSA
National Council has total revenues of more than $500
million, derived mostly from private donations, membership
dues, corporate sponsorship, and revenues from events, and
is considered a tax-exempt organization under Section
501(c)(3). However, this tax exempt status extends only to
BSA local councils and their trust funds, and not to
smaller units.
BSA divides the country into four regions: central,
northeast, southern, and western. BSA groups approximately
300 local councils to form 26 geographical areas within the
four regions. BSA National Council must issue an annual
charter to the local council, which are generally organized
as charitable organizations and oversee smaller scouting
units in their areas. Local councils are funded through
private donations, special events, popcorn sales, and
summer camp activity fees. Councils also determine the
boundaries for districts, which are directly responsible
for the smallest scouting units, including packs, troops,
teams, crews, and ships. Organizations awarded a charter
from BSA National Council to use the scouting program,
known as "chartered organizations," approve the leadership
of the troop, provide a meeting place, admit members, and
operate the unit within the guidelines and policies of both
the chartered organization and the BSA. "Chartered
organizations," are generally religious or civic
organizations such as a church, school, service club, or
other youth group, and its tax exempt status may apply to
the scout unit. Member dues, chartered organization
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contributions, and unit-level fundraising are the primary
sources of income for the smallest scout units.
The BSA membership policy is set by the BSA National
Council. BSA Position Statements in 1978 and 1991 state
that the BSA believes that homosexuality is inconsistent
with requirements in the Scout Oath and in the Scout Law,
important tenets for the BSA. BSA won a United States
Supreme Court Case which upheld its denial to readmit an
openly gay scoutmaster, stating that the organization's
First Amendment right of expressive association trumped New
Jersey anti-discrimination law. Boy Scouts of America et
al. v. Dale , 530 U.S. 640 (2000), On July 17, 2012, the
BSA stated in a news release that after an internal review,
that its membership policy was to not grant membership to
"open or avowed homosexuals." BSA then announced on
January 28, 2013, that it "is discussing potentially
removing the national membership policy regarding sexual
orientation." BSA indicates that it expects its 1400-member
national delegates to consider a resolution to change the
policy on May 23, 2013.
Proposed Law
Senate Bill 323 additionally provides that an organization
organized and operated exclusively as a public charity
youth organization that discriminates on the basis of
gender identity, race, sexual orientation, nationality,
religion, or religious affiliation shall not be exempt from
the Minimum Franchise Tax and the Corporation Tax.
SB 323 amends the Sales and Use Tax Law to preclude
organizations that discriminate on the basis of gender
identity, sexual orientation, and religious affiliation
from being considered a nonprofit organization.
Organizations that so discriminate would be considered
retailers, not consumers, for purposes of the Sales and Use
Tax Law, therefore obligating them to obtain sellers'
permits, and collect and remit the sales and use tax on its
sales of currently exempt items of tangible personal
property. The measure also provides that any nonprofit
private educational institution that sponsors a currently
exempt youth group must also not discriminate on the basis
of gender identity, secular orientation, or religious
affiliation for its sponsored group to retain exempt
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status. Additionally, any of the groups spelled out in law
as exempt, such as Little League, must not discriminate
based on gender identity, race, sexual orientation,
nationality, religion, or religious affiliation to retain
exempt status.
State Revenue Impact
FTB was unable to determine the number of currently exempt
organizations that would be found to practice
discrimination under the terms of the bill. FTB states
that the estimated revenue per currently exempt
organization would be approximately $1,000 per open tax
year.
Comments
1. Purpose of the bill . According to the author, "Despite
California's non-discrimination policy for state-supported
programs and activities, some youth organizations still
exclude potential participants and other organizations
could do so in the future. Even more troubling is that
youth groups that discriminate now, or could in the future,
rather than being penalized, are rewarded with special tax
breaks in the form of exemptions from taxes on items they
sell and on their income. California, and the nation, must
take action to stop the exclusion of LGBT youth.
Therefore, California should lead the way and not reward
these practices with special tax privileges. SB 323 makes
clear that, in accordance with existing California law
prohibiting discrimination in state-supported programs
activities, youth organizations that exclude potential
participants based on their sexual orientation, gender
identity or religious affiliation will no longer be
rewarded with state support in the form of these special
tax exemptions.
Specifically, this bill:
Prohibits discrimination on the basis of sexual
orientation, gender identity or religious affiliation
among youth organizations exempt from sales and use
tax, and
Prohibits discrimination on the basis of sexual
orientation, gender identity, religious affiliation,
religion, race, or nationality among youth
organizations exempt from corporate income tax."
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2. The Heart of the matter . While a complicated change to
tax law, SB 323 presents a clear, social policy question
for the Committee: s should the tax exempt status afforded
to the BSA be revoked because of its policy to deny
membership to openly gay individuals because it's contrary
to California's public policy of ending discrimination
against lesbian, gay, bisexual and transgender persons, in
much the same manner as the IRS revoked tax exemptions for
private schools that practiced racial discrimination more
than 40 years ago? Chief Justice Burger's opinion in Bob
Jones v. IRS validating IRS's revocation of tax-exempt
status for racially discriminatory private colleges clearly
states that the national interest in eradicating racial
discrimination in education trumps a private university's
First Amendment rights to free speech and association. The
Legislature can state public policy for the state by
enacting SB 323, and conform the exemption from its
corporate tax as it pleases to be consistent with that
policy. However, are the effects of BSA's discrimination
against openly gay individuals sufficiently damaging to
merit subjecting the BSA's income from member dues, camp
fees, corporate sponsorships, and proceeds from fundraisers
to the full brunt of the Corporation Tax? In other words,
do BSA's discriminatory practices outweigh its good works
that currently entitle them to the exemption?
3. Be prepared . SB 323 puts California's tax agencies
squarely in the middle of the dispute between the BSA and
groups calling for BSA to end discrimination against openly
gay individuals. The measure asks FTB to make an
administrative determination regarding whether a public
charity youth organization discriminates, in much the same
way as it determines whether a taxpayer inappropriately
claimed a credit or unlawfully failed to include an item of
income. Finding, determining, proving, and defending
discrimination is generally the work of the potentially
discriminated person's attorneys and the Department of Fair
Employment Housing, not for auditors who generally seek to
determine whether an organization used its funds for
charitable purposes. Disputes between FTB and any
organization having its tax-exempt status revoked due to SB
323 would be resolved similarly to any other tax issue,
which allow taxpayers to appeal to the Board of
Equalization (BOE) or the Courts after exhausting their
administrative protests at FTB. While Courts often hear
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discrimination cases, is the BOE well-suited to make these
discrimination determinations? The Committee may wish to
consider whether tax agency enforcement, and California's
current process for adjudicating tax disputes, can make the
determinations regarding discrimination necessary, and
whether additional legal and financial resources will be
necessary to implement SB 323.
4. Lead and follow . California's income tax system is
built largely upon the federal income tax. When Congress
changes the federal income tax, California generally
subsequently conforms to keep the two as similar as
possible for the benefit of taxpayers and tax agencies
alike. However, when it comes to changing the tax code to
reduce the tax code's disparate treatment of same-sex
couples, California is the national leader. California
affords registered domestic partners (RDPs) all the same
rights and benefits as married couples when filing returns
(SB 1827, Migden, 2006), and excludes from a change of
ownership reassessment transfers of property between RDPs
(SB 559, Kehoe, 2007). Meanwhile, the IRS is precluded by
the Defense of Marriage Act to afford similar income tax
treatment for RDPs, and only recently extended community
property tax treatment for same-sex couples. While the
federal government was the first to use revocation of
tax-exempt status to change racially discriminatory
admission policies in private universities, should
California be the first to deploy a similar measure in the
hopes of causing BSA to grant membership to openly gay
individuals? Doing so wouldn't affect BSA's tax-exempt
status for the federal income tax, but if BSA was subject
to the corporate tax in California due to SB 323's
preclusion on discrimination, BSA would have less time and
revenue to operate scouting programs.
5. Don't make me a target . SB 323 seeks to address the
behavior of one, prominent group. While SB 323 doesn't
specifically say "Boy Scouts," it is clearly aimed at them.
The measure doesn't affect the tax-exempt status of BSA
chartered organizations such as churches that may similarly
discriminate against openly gay individuals. The Committee
may wish to consider whether the measure's focus on BSA's
membership policies is sufficient cause to change the law.
6. Inconsistent ? BSA has successfully defended itself
from litigation in the highest courts brought by openly gay
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members denied membership by arguing that the First
Amendment's protections of its rights of expressive
association render it exempt from anti-discrimination laws,
and therefore Constitutionally free to discriminate in
membership as it chooses. However, the group also enjoys
tax exempt status, a legal carve-out that allows
organizations that exist to serve its members and the
public through charity to operate tax-free, that enables
specified organizations to retain more funds to do more
good. Should any organization coherently argue that it is
sufficiently private to be exempt from laws prohibiting
discrimination while simultaneously availing itself of a
tax benefit that depends on the organization providing
public benefits? The Committee may wish to consider whether
a truly private social club that has consistently fought to
protect its rights of expressive association to
discriminate freely should also enjoy a significant tax
benefit awarded to organizations contingent on its public
service and charity.
7. Follow the money . SB 323 only applies to currently-tax
exempt entities; however, the measure does not change a
taxpayer's ability to claim a charitable deduction for
donating to an organization that loses its tax-exempt
status due to SB 323. Denying the deduction would likely
reduce donations to organizations that discriminate,
thereby increasing the incentive to end those practices.
The Committee may wish to consider amending the measure to
also deny charitable deduction treatment to donations made
to the tax-exempt organizations for which it seeks a change
in behavior.
8. Be really prepared . Should SB 323 be enacted, the tax
agencies revoke BSA's tax-exempt status, and any appeal
exhausted, what will happen? Because BSA's IRS exemption
affects both it and its subsidiary units down to its
district councils, those entities would be taxed as
corporations in future years if tax-exempt status is
revoked, directing money away from BSA to the state and
imposing a burden to comply with the tax. BSA National and
district councils would also have to obtain seller's
permits and collect sales and use tax on any sale of
currently exempt items. However, the smaller BSA units,
such as troops, packs, and teams, are likely covered by
their chartered organization's tax exemption. As many
chartered organizations are churches that don't have to
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report to FTB, finding any potential discrimination among
their sponsored BSA troops may be difficult. Additionally,
some smaller units and chartered organizations may not
adhere to BSA National's membership policy, and may not be
discriminating at all.
9. Tax increase . Legislative Counsel has assigned a 2/3
vote key to SB 323, as the measure may lead to a tax
increase on any taxpayer under Section Three of Article
XIIIA of the California Constitution.
10. Suggested amendments . Committee staff recommends the
following amendments:
Requiring FTB to determine compliance with SB 323
prior to informing the taxpayer that it acknowledges
IRS's tax-exemption determination, and allowing
California not to recognize the IRS determination
should discrimination exist, and
Provide that the tax that would apply should FTB
revoke the organization's status due to SB 323 only
apply for taxable years after the effective date of
the bill, and
Clarify that taxpayers that have their status
revoked due to SB 323 and subsequently end
discriminatory behavior can regain status.
Support and Opposition (04/04/13)
Support : Equality California, Los Angeles Gay and Lesbian
Center, California National Organization for Women, City of
West Hollywood; American Civil Liberties Union of
California.
Opposition : Cavalry Assembly of God, Capitol Resource
Institute, First Christian Church, Lighthouse Baptist
Church, Pacific Justice Institute, Traditional Values
Coalition, 36 individuals.