Checking Up on Charities in This Season of Giving

Holiday giving can take many forms, including charitable donations. Charities provide critical services to people in need and, in return, those organizations don’t pay taxes—as long as they follow certain rules. With the holiday season upon us, today’s WatchBlog focuses on why it can be challenging to check up on charities.

Becoming (and staying) tax-exempt

Charities must adhere to accepted charitable purposes and follow these rules to be eligible for tax-exempt status:

• earnings may not benefit individual or private shareholders
• no propaganda or influencing legislation
• no campaigning for or against a candidate for public office.

Organizations must apply to the IRS to get tax-exempt status. Once approved, they must file annual information and tax returns. There were 1.08 million tax-exempt charitable organizations in 2011, according to the IRS.  

Struggling to keep tabs on tax exemptions

The IRS and state governments oversee the tax-exempt sector, which includes charities. However, several consecutive years of budget reductions at the IRS have reduced the number of IRS agents and raised concerns about its ability to oversee these and other organizations.

In addition to declining resources, the IRS is grappling with challenges that complicate oversight efforts:

• No hard measures of compliance. The IRS can’t measure compliance in the charitable sector as a whole, within specific segments (such as universities or hospitals) or for particular aspects of noncompliance (such as political activity). Not knowing the size of the problem means that the IRS doesn’t know how it’s doing or where to target its limited resources.
• Limits on states’ use of IRS data. Requirements for safeguarding taxpayer data make it difficult for states to use data that the IRS shares with them to investigate potential fraud and abuse.
• Lack of digitized data. The e-filing rate for tax-exempt organizations is significantly lower than for other taxpayers, meaning there is less data readily available for analytics.

The IRS has taken some actions to address these challenges, such as working with state regulators to clear up the confusion surrounding the use of taxpayer information.

But because charities are such a large part of the economy—and the holiday season—it’s important to get it right. Our report highlighted a matter for Congress to consider and made several recommendations to the IRS, which it agreed with and is taking steps to implement.

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