As companies across the nation grapple with the reality of complying with the Corporate Transparency Act (CTA), which went into effect on January 1 of this year, certain nonprofits that expected to be exempt from such toils and tribulations are taking a second look because the federal agency tasked with administering the new law has made ambiguous statements that imply the CTA does apply to some tax-exempt entities.

Background

The CTA was enacted by Congress to combat money laundering and other illicit financial activities by requiring businesses to report about their beneficial owners. The sweep of the legislation is broad, requiring every corporation, LLC, or other similar entity formed or registered to do business in the United States to report unless an exemption applies. Entities that do not qualify for an exemption and fail to meet their reporting obligations face possible civil and criminal penalties. One of the key exemptions makes the CTA inapplicable to nonprofits that are exempt from federal taxes under section 501(a) of the Internal Revenue Code (the Code), such as charities described in section 501(c)(3). Federal agency Financial Crimes Enforcement Network (FinCEN) has released regulations that further clarify the scope and reporting requirements of the CTA.

Exemption for Tax-Exempt Entities

The exemption for tax-exempt entities covers “any organization that is described in section 501(c) of the Internal Revenue Code of 1986 (determined without regard to section 508(a) of such Code) and exempt from tax under section 501(a) of such Code …” To understand the breadth of this exemption, organizations must understand how the exemption from federal tax works. Section 501(a) exempts from tax those organizations described in section 501(c), including organizations like schools, churches, and other charities.  There is no requirement in section 501(a) or (c) that the nonprofit apply to the IRS for the tax-exemption or that the organization even provide notice to the IRS of its position. That requirement is found in a different section of the Code, section 508(a), which is the Code section that Congress instructed readers to ignore in determining whether an organization is tax-exempt and therefore exempt from the CTA.  Accordingly, if the nature and activities of an organization fall within one of the categories described in section 501(c), then the organization should automatically be exempt from the CTA. 

FinCEN’s Unclear Position

FinCEN may take a narrower view. In the preamble to its final regulations administering the CTA, FinCEN stated, “Some commenters asserted that the exemption should cover entities that had applied to the IRS for tax-exempt status but were still awaiting a determination.” The use of “should” in this statement implies that FinCEN’s lawyers believe that a newly formed nonprofit organization is subject to the CTA until it receives a determination letter from the IRS recognizing its tax-exempt status. This interpretation would run contrary to the plain language of the statute, which clearly says to ignore the Code’s notice and application requirement. FinCEN does nothing to dispel the confusion when, in the paragraph addressing these comments, it summarily dismisses them as calls to “expand this statutory exemption” and declines to do so. By not providing a clear statement in the preamble addressing this issue despite summarizing comments in a way that mischaracterizes the statute, nonprofits are left wondering what FinCEN’s position is on this issue.

Why This Matters

Requiring newly formed nonprofits to report under the CTA and then file a subsequent report claiming the exemption once they receive a determination letter would impose a significant burden on these organizations, many of which are small and may not have the financial resources to obtain legal counsel. However, the implications of FinCEN’s statements go beyond newly formed nonprofits. If newly formed nonprofits cannot claim the exemption without a determination letter in hand, then it follows that existing nonprofits without a determination letter cannot rely on the exemption either. This is a much larger pool of organizations because many nonprofits, such as churches, are not required to apply for recognition by the IRS of their exempt status. See section 508(c). We don’t believe requiring every nonprofit that does not hold a determination letter to file with FinCEN is consistent with the wording of the statute or Congress’s intent. 

Conclusion

We are hopeful that FinCEN will issue additional guidance clarifying this issue.