Payout Requirements for Type III Supporting Organizations That Are Not Functionally Integrated, 42335-42339 [E7-14925]

Agencies

• Internal Revenue Service
• DEPARTMENT OF THE TREASURY

[Federal Register Volume 72, Number 148 (Thursday, August 2, 2007)]
[Proposed Rules]
[Pages 42335-42339]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: E7-14925]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[REG-155929-06]
RIN 1545-BG31


Payout Requirements for Type III Supporting Organizations That 
Are Not Functionally Integrated

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Advance notice of proposed rulemaking.

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SUMMARY: This document describes rules that the Treasury Department and 
the IRS anticipate proposing, in a notice of proposed rulemaking, 
regarding the payout requirements for Type III supporting organizations 
that are not functionally integrated, the criteria for determining 
whether a Type III supporting organization is functionally integrated, 
the modified requirements for Type III supporting organizations that 
are organized as trusts, and the requirements regarding the type of 
information a Type III supporting organization must provide to its 
supported organization(s) to demonstrate that it is responsive to its 
supported organization(s). Sections 1241 and 1243 of the Pension 
Protection Act of 2006 amended the law with respect to Type III 
supporting organizations prompting a need to revise the Treasury 
Regulations regarding the four matters mentioned above. These new 
requirements and criteria would apply to Type III supporting 
organizations as defined under sections 509(a)(3)(B)(iii) and 
4943(f)(5) of the Internal Revenue Code (Code). This document also 
invites comments from the public regarding the proposed payout 
requirement and the proposed criteria for qualifying as functionally 
integrated. All materials submitted will be available for public 
inspection and copying.

DATES: Written or electronic comments must be submitted by October 31, 
2007.

ADDRESSES: Send submissions to: CC:PA:LPD:PR (REG-155929-06), room 
5203, Internal Revenue Service, P.O. Box 7604, Ben Franklin Station, 
Washington, DC 20044. Submissions may be hand-delivered Monday through 
Friday between the hours of 8 a.m. and 4 p.m. to CC:PA:LPD:PR (REG-
155929-06), Courier's Desk, Internal Revenue Service, 1111 Constitution 
Avenue, NW., Washington, DC, or sent electronically via the Federal 
eRulemaking Portal at https://www.regulations.gov/ (IRS REG-155929-06).

FOR FURTHER INFORMATION CONTACT: Concerning submissions, Richard A. 
Hurst at (202) 622-2949 (TDD Telephone) and his e-mail address is 
Richard.A.Hurst@irscounsel.treas.gov; concerning the proposed rules, 
Philip T. Hackney or Michael B. Blumenfeld at (202) 622-6070 (not toll-
free numbers).

SUPPLEMENTARY INFORMATION:

Background

    The Pension Protection Act of 2006, Public Law 109-280, 120 Stat. 
780 (2006) (PPA), amended the requirements that an organization exempt 
from tax under section 501(c)(3) of the Code must meet to qualify as a 
Type III supporting organization under section 509(a)(3) of the Code. 
This advanced notice of proposed rulemaking describes the rules that 
the Treasury Department and the IRS expect to propose to implement the 
new qualification requirements for Type III supporting organizations 
enacted by Congress and solicits comments from the public.

Public Charities Versus Private Foundations

    Under section 509(a), an organization described in section 
501(c)(3) is a private foundation unless it meets the requirements of 
section 509(a)(1), (2), (3), or (4). Organizations described in section 
501(c)(3) that meet the requirements of section 509(a)(1), (2), (3), or 
(4) are referred to as public charities.
    Private foundations, which are generally divided into two 
categories, operating and non-operating, depending on the type of 
activity in which the foundation engages, are subject to a different 
set of requirements than those applicable to public charities. Sections 
4940 through 4948 impose various restrictions and excise taxes on 
private foundations along with their disqualified persons and 
foundation managers, that are generally not applicable to public 
charities. Furthermore, more stringent deduction limitations apply to 
contributions made to private non-operating foundations than apply to 
contributions to public charities. For example, under section 
170(b)(1)(A), an individual who makes a cash contribution to a public 
charity may deduct up to fifty percent of his or her contribution base 
(a modified adjusted gross income amount) in the year of his or her 
contribution, while the same contribution to a private non-operating 
foundation would be limited to thirty percent of the individual's 
contribution base under section 170(b)(1)(B). In addition, deductions 
for contributions of certain appreciated property to a private non-
operating foundation are limited to the contributor's basis in the 
property under section 170(e)(1)(A), while the same contribution to a 
public charity could result in a deduction based on the property's fair 
market value under section 170(e)(1)(B)(ii).

Supporting Organizations

    Public charities that meet the requirements of section 509(a)(3) 
are known as supporting organizations. To be classified as a supporting 
organization, an organization must satisfy an organizational test, an 
operational test, a relationship test, and a disqualified person 
control test. The organizational and operational tests require that the 
organization be organized and at all times thereafter operated 
exclusively for the benefit of, to perform the functions of, or to 
conduct the purposes of one or more publicly supported organizations 
described in section 509(a)(1) or (2). The relationship test requires 
that the organization be operated, supervised, or controlled by or in 
connection with one or more publicly supported organizations. Finally, 
the disqualified person control test requires that the organization not 
be controlled directly or indirectly by certain disqualified persons.

Relationship Test

    Treasury Regulation (Treas. Reg.) Sec.  1.509(a)-4(f)(2) sets forth 
three structural or operational relationships a supporting organization 
is permitted to have with its supported organization(s). Each 
supporting organization must have one of the three types of 
relationships with the organization(s) it supports to be a supporting 
organization described in section 509(a)(3) of the Code. The purpose of 
the relationship requirement is to ensure that a supporting 
organization has a sufficiently close tie to one or more publicly 
supported organizations such that the supporting organization will be 
accountable to a broader public constituency.
    A supporting organization that is operated, supervised or 
controlled by one or more publicly supported organizations is commonly 
known as a Type I supporting organization. The relationship a Type I 
supporting organization has with its supported

[[Page 42336]]

organization(s) is comparable to that of a parent-subsidiary 
relationship. A supporting organization supervised or controlled in 
connection with one or more publicly supported organizations is 
commonly known as a Type II supporting organization. The relationship a 
Type II supporting organization has with its supported organization(s) 
is comparable to a brother-sister corporate relationship. A supporting 
organization that is operated in connection with one or more publicly 
supported organizations is commonly known as a Type III supporting 
organization.

Qualification Requirements for Type III Supporting Organizations Prior 
to Enactment of the Pension Protection Act

    In general, Treas. Reg. Sec.  1.509(a)-4(i)(1) requires an 
organization to meet a ``responsiveness test'' and an ``integral part 
test'' to satisfy the relationship requirement for a Type III 
supporting organization.
    Responsiveness Test: General Rule. Treas. Reg. Sec.  1.509(a)-
4(i)(2)(i) provides that an organization is ``considered to meet the 
`responsiveness test' if the organization is responsive to the needs or 
demands of'' its publicly supported organizations. Treas. Reg. Sec.  
1.509(a)-4(i)(2)(ii) provides that a supporting organization may 
demonstrate responsiveness to its publicly supported organization(s) 
if: (1)(a) One or more of its officers, directors, or trustees are 
elected or appointed by the officers, directors, trustees, or 
membership of its publicly supported organization(s), (b) one or more 
members of the governing bodies of its publicly supported 
organization(s) are also officers, directors, or trustees of, or hold 
other important offices in, the supporting organization, or (c) the 
officers, directors, or trustees of the supporting organization 
maintain a close, continuous working relationship with the officers, 
directors, or trustees of its publicly supported organization(s); and 
(2) by reason of such arrangement, the officers, directors, or trustees 
of its publicly supported organization(s) have a significant voice in 
the investment policies of the supporting organization, the timing and 
the manner of making grants, the selection of the grant recipients by 
the supporting organization, and otherwise directing the use of the 
income or assets of the supporting organization.
    In addition, with respect to an organization that was supporting a 
publicly supported organization before November 20, 1970, Treas. Reg. 
Sec.  1.509(a)-4(i)(1)(ii) provides that additional facts and 
circumstances, such as a historic and continuing relationship between 
the supporting organization and its supported organization(s), may be 
taken into account, in addition to the factors described in the general 
responsiveness test above, to establish compliance with the 
responsiveness test.
    Responsiveness Test: Charitable Trusts. Before enactment of the 
PPA, one way of satisfying the responsiveness test, under Treas. Reg. 
Sec.  1.509(a)-4(i)(2)(iii), required that (1) the supporting 
organization be a charitable trust under state law, (2) each publicly 
supported organization that the trust supports be named as a 
beneficiary under the charitable trust's governing instrument, and (3) 
each beneficiary organization have the power to enforce the trust and 
compel an accounting under State law. As described below, this method 
of satisfying the responsiveness test was effectively removed by the 
PPA.
    Integral Part Test. Treas. Reg. Sec.  1.509(a)-4(i)(3)(i) provides 
that a supporting organization is required to establish that ``it 
maintains a significant involvement in the operations of one or more 
publicly supported organizations and such publicly supported 
organizations are in turn dependent upon the supporting organization 
for the type of support which it provides.'' Treas. Reg. Sec.  
1.509(a)-4(i)(3)(ii) and (iii) sets forth two alternative ways to meet 
the integral part test. The first method is typically referred to as 
the ``but for'' test. In this advance notice of proposed rulemaking, 
the second method of meeting the integral part test will be referred to 
as the ``attentiveness'' test.
    Integral Part Test, Alternative I: the ``but for'' test. Under 
Treas. Reg. Sec.  1.509(a)-4(i)(3)(ii) the ``but for'' test is 
satisfied if ``the activities engaged in [by the supporting 
organization] for or on behalf of the publicly supported organizations 
are activities to perform the functions of, or to carry out the 
purposes of, such organizations, and, but for the involvement of the 
supporting organization, would normally be engaged in by the publicly 
supported organizations themselves.''
    Integral Part Test, Alternative II: the ``attentiveness'' test. The 
``attentiveness'' test, under Treas. Reg. Sec.  1.509(a)-4(i)(3)(iii), 
requires a supporting organization to (1) make payments of 
substantially all of its income to or for the use of one or more 
publicly supported organizations, (2) provide enough support to one or 
more publicly supported organizations to insure the attentiveness of 
such organizations to the operations of the supporting organization, 
and (3) pay a substantial amount of the total support of the supporting 
organization to those publicly supported organizations that meet the 
attentiveness requirement. Rev. Rul. 76-208, 1976-1 CB 161, (see Sec.  
601.601(d)(2) of this chapter), provides that the phrase 
``substantially all of its income'' in Treas. Reg. Sec.  1.509(a)-
4(i)(3)(iii) means at least 85 percent of its adjusted net income.

PPA Amendments to Qualification Requirements for Type III Supporting 
Organizations

    The PPA amended the qualification requirements for Type III 
supporting organizations, modifying both the integral part test and the 
responsiveness test.
    Sections 1241 and 1243 of the PPA enacted Code sections 509(d) and 
4943(f)(5). These provisions define the term Type III supporting 
organization and distinguish between functionally integrated and non-
functionally integrated Type III supporting organizations. These two 
new categories appear to reflect the distinction drawn in the Treasury 
Regulations between those organizations that meet the integral part 
test by meeting the ``but for'' test and those that meet the integral 
part test by meeting the ``attentiveness'' test.
    In conformity with existing Treasury Regulations, new section 
4943(f)(5)(A) defines a Type III supporting organization as a 
supporting organization that is operated in connection with one or more 
section 509(a)(1) or (2) organizations. New section 4943(f)(5)(B) 
defines a functionally integrated Type III supporting organization as a 
Type III supporting organization that is not required under regulations 
established by the Secretary to make payments to supported 
organizations due to the activities of the organization related to 
performing the functions of, or carrying out the purposes of, such 
supported organizations. Although this language appears similar to the 
``but for'' prong of the integral part test, the Staff of the Joint 
Committee on Taxation in its technical explanation of the provision 
notes that there is ``concern that the current regulatory standards for 
satisfying the integral part test not by reason of a payout [i.e., the 
existing ``but for'' test] are not sufficiently stringent to ensure 
that there is a sufficient nexus between the supporting and supported 
organizations.'' See Staff of the Joint Committee on Taxation, 
Technical Explanation of H.R. 4, the ``Pension Protection of 2006,'' as 
Passed by the House on July 28, 2006, and as Considered by the Senate 
on August 3,

[[Page 42337]]

2006 (JCX-38-06) at 360 n. 571, August 3, 2006 (Technical Explanation). 
In particular, the Technical Explanation states that in revising the 
Type III supporting organization regulations the Secretary ``shall 
strengthen the standard for qualification as [a Type III supporting] 
organization that is not required to pay out.'' Id.
    Section 1241(d)(1) of the PPA directed the Secretary to promulgate 
new regulations on the payments required by Type III supporting 
organizations that are not functionally integrated. Section 1241(d)(1) 
of the PPA provides that such regulations shall require non-
functionally integrated Type III supporting organizations to make 
distributions of a ``percentage of either income or assets to supported 
organizations (defined in new section 509(f)(3) of [the] Code) in order 
to ensure that a significant amount is paid'' to their supported 
organizations. The Technical Explanation notes that there is concern 
that merely requiring a Type III supporting organization to pay out 
substantially all of its net income (as under the ``attentiveness'' 
prong of the integral part test) does not necessarily result in 
significant distributions to publicly supported organizations relative 
to the value of the assets held by the Type III supporting organization 
and ``as compared to amounts paid out by nonoperating private 
foundations.'' See Technical Explanation at 360 n. 571.
    Section 1241(c) of the PPA modified the responsiveness test as it 
applies to charitable trusts. Effectively, section 1241(c) provides 
that having each organization that the trust supports be a publicly 
supported organization named as a beneficiary under the trust's 
governing instrument and establishing that each beneficiary 
organization has the power to enforce the trust and compel an 
accounting is no longer sufficient to satisfy the responsiveness test 
as provided in Treas. Reg. Sec.  1.509(a)-4(i)(2)(iii). The Technical 
Explanation states that a Type III supporting organization organized as 
a trust must now ``establish to the satisfaction of the Secretary, that 
it has a close and continuous relationship with the supported 
organization such that the trust is responsive to the needs or demands 
of the supported organization.'' Technical Explanation at 362. Under 
section 1241(e)(2)(A) of the PPA, trusts that operated in connection 
with a publicly supported organization on August 17, 2006, have until 
August 17, 2007 to satisfy the modified responsiveness test under 
Treas. Reg. 1.509(a)-4(i)(2)(ii). For other trusts, the provision was 
effective on August 17, 2006.
    Finally, section 1241(b) added section 509(f)(1)(A), which contains 
another requirement for Type III supporting organizations. The 
provision requires a Type III supporting organization to provide each 
of its supported organizations with ``such information as the Secretary 
may require to ensure that such organization is responsive to the needs 
or demands of the supported organization.''
    As described in this advanced notice of proposed rulemaking, the 
Treasury Department and the IRS intend to propose regulations that 
provide (1) the payout requirements for Type III supporting 
organizations that are not functionally integrated, (2) the criteria 
for determining whether a Type III supporting organization is 
functionally integrated, (3) the modified responsiveness test for Type 
III supporting organizations that are organized as charitable trusts, 
and (4) the type of information a Type III supporting organization will 
be required to provide to its supported organization(s) to demonstrate 
that it is responsive.

Explanation of Provisions

Summary of Proposed Criteria for Qualifying as a Type III Supporting 
Organization

    The Treasury Department and the IRS expect that all Type III 
supporting organizations will be required to meet the responsiveness 
test under Treas. Reg. Sec.  1.509(a)-4(i)(2)(ii). In addition, it is 
expected that Type III supporting organizations that are functionally 
integrated will be required to meet: (A) The ``but for'' test in 
existing Treas. Reg. Sec.  1.509(a)-4(i)(3)(ii); (B) an expenditure 
test that will resemble the qualifying distributions test for private 
operating foundations; and (C) an assets test that will resemble the 
alternative assets test for private operating foundations. Finally, it 
is expected that a Type III supporting organization that is not 
functionally integrated will be required to meet a payout requirement 
equal to the qualified distribution requirement of a private non-
operating foundation. In addition, there will be a limit on the number 
of publicly supported organizations a non-functionally integrated Type 
III supporting organization may support. These proposed criteria for 
qualifying as a Type III supporting organization will replace the 
integral part test in the existing regulations. These provisions are 
explained in more detail below.

Definition of Functionally Integrated Type III Supporting Organization 
and the Applicability of Private Operating Foundation Rules

    Private operating foundations under section 4942(j)(3) share strong 
similarities with Type III functionally integrated supporting 
organizations under section 4943(f)(5)(B) in that both are expected to 
be directly engaged in the active conduct of charitable activities 
rather than only making grants to, or for the use of, charitable 
organizations. The Code and Treasury Regulations provide extensive 
rules used to determine whether a private foundation is a private 
operating foundation. See section 4942(j)(3) and Treas. Reg. Sec.  
53.4942(b). The Treasury Department and the IRS believe that these 
rules provide a useful model for developing standards to determine 
whether a Type III supporting organization is functionally integrated, 
and that adoption of similar rules under section 4943(f)(5)(B) will 
further the Congressional purpose articulated in the Technical 
Explanation of strengthening the nexus between a functionally 
integrated Type III supporting organization and the publicly supported 
organization(s) it supports.
    To qualify as a private operating foundation under section 
4942(j)(3), an organization must satisfy a qualifying distributions 
test and one of three alternative tests described below. Under the 
qualifying distributions test, a private operating foundation must make 
qualifying distributions ``directly for the active conduct of the 
activities constituting the purpose or function for which it is 
organized and operated,'' equal to substantially all (at least 85 
percent) of the lesser of its adjusted net income or its minimum 
investment return. Under section 4942(e)(1), the minimum investment 
return is equal to 5 percent of the excess of (A) the aggregate fair 
market value of all the foundation's assets other than those used (or 
held for use) directly in carrying out the organization's exempt 
purpose over (B) the acquisition indebtedness with respect to such 
assets. Under Treas. Reg. Sec.  53.4942(b)-1(b)(1), a qualifying 
distribution directly for the active conduct of activities constituting 
the foundation's exempt purpose is a distribution that is used by the 
foundation itself to carry out its exempt activities rather than paid 
to other organizations to help them carry out their exempt activities.
    In addition, a private operating foundation must meet one of three 
alternative tests: An assets test, an endowment test or a support test. 
The

[[Page 42338]]

assets test, under section 4942(j)(3)(B)(i) and Treas. Reg. Sec.  
53.4942(b)-2(a), requires that substantially more than half (at least 
65 percent) of the assets of an operating foundation must be devoted 
directly to the private operating foundation's exempt purpose 
activities, or to functionally related businesses (see section 
4942(j)(4)), or both, or are stock of a corporation controlled by, and 
substantially all (at least 85 percent) of the assets of which are 
devoted to, the foundation. The endowment test, under Treas. Reg. Sec.  
53.4942(b)-2(b), requires a foundation to make qualifying distributions 
directly for the active conduct of its exempt activities in an amount 
not less than two thirds of its minimum investment return. The support 
test, under Treas. Reg. Sec.  53.4942(b)-2(c), is satisfied if 
substantially all (85 percent) of a foundation's support (other than 
gross investment income) is normally received from the general public 
and from five or more exempt organizations that are not related to each 
other or the recipient foundation, if the foundation does not normally 
receive more than 25 percent of its support from any one such exempt 
organization; and if the foundation does not normally receive more than 
50 percent of its support from gross investment income.

Description of the Proposed Functionally Integrated Test

    The Treasury Department and the IRS anticipate that the proposed 
regulations will define the term functionally integrated Type III 
supporting organization as a Type III supporting organization that 
meets: (A) The ``but for'' test in existing Treas. Reg. Sec.  1.509(a)-
4(i)(3)(ii); (B) an expenditure test consistent with section 
4942(j)(3)(A); and (C) an assets test consistent with section 
4942(j)(3)(B)(i). It is expected that the expenditure test will require 
a functionally integrated Type III supporting organization to use 
substantially all of the lesser of (a) its adjusted net income or (b) 
five percent of the aggregate fair market value of all its assets 
(other than assets that are used, or held for use, directly in 
supporting the charitable programs of the supported organizations) 
directly for the active conduct of activities that directly further the 
exempt purposes of the organizations it supports. The assets test will 
require the organization to devote at least 65 percent of the aggregate 
fair market value of all its assets directly for the active conduct of 
activities that directly further the exempt purposes of the 
organizations it supports. The Treasury Department and the IRS believe 
that requiring functionally integrated Type III supporting 
organizations to satisfy the expenditure and assets tests, in addition 
to the ``but for'' test, will be stronger than the existing integral 
part test and ensure a sufficient nexus between a supporting 
organization and the organization(s) it supports. These tests also will 
ensure that a sufficient amount is being dedicated directly to the 
active conduct of activities that further the exempt purposes of 
publicly supported organizations.
    The term ``adjusted net income'' is expected to have substantially 
the same meaning as that term has in section 4942(f) and Treas. Reg. 
Sec.  53.4942(a)-2(d). The valuation of assets is expected to be 
determined in a manner similar to the rules under section 4942(e)(2) 
and Treas. Reg. Sec.  53.4942(a)-2(c)(4).
    The Treasury Department and the IRS also intend that certain Type 
III supporting organizations that oversee or facilitate the operation 
of an integrated system that includes one or more charities and that 
may be unable to satisfy the ``direct active conduct'' and ``directly 
further'' requirements of the expenditure and assets tests, such as 
certain hospital systems, will be classified as functionally integrated 
in the proposed regulations if they satisfy the existing ``but for'' 
test.
    The proposed regulations will not permit a functionally integrated 
Type III supporting organization to qualify as functionally integrated 
by using the endowment or support tests that are available to private 
operating foundations as alternatives to the proposed assets test. 
Because the endowment test is similar to the expenditure test, the 
Treasury Department and the IRS believe that the endowment test would 
not provide sufficient additional assurances of a tight nexus between a 
functionally integrated supporting organization and its supported 
organizations. Furthermore the support test, which focuses on sources 
of support received by a private foundation rather than on its 
activities, appears to be inapplicable to the functionally integrated 
concept. By requiring at least 65 percent of the value of all assets of 
each functionally integrated supporting organization to be devoted 
directly for the active conduct of the activities of its supported 
organizations, the proposed assets test is intended to ensure that the 
connection between the supporting and supported organizations is 
significant.

Payout Requirement for Type III Supporting Organizations That Are Not 
Functionally Integrated

    In establishing a payout requirement for non-functionally 
integrated Type III supporting organizations, the Treasury Department 
and the IRS expect to follow the framework of the existing section 4942 
qualifying distribution regulations applicable to private non-operating 
foundations. Private non-operating foundations have operated under 
these qualifying distribution regulations for many years. The Treasury 
Department and the IRS believe these rules are appropriate for Type III 
grant-making organizations, and would further the Congressional purpose 
articulated in the Technical Explanation of ensuring that, as compared 
to amounts paid out by private non-operating foundations, significant 
amounts are being paid to supported organizations even if the 
supporting organization's assets produce little or no income.
    A private non-operating foundation is required under section 4942 
to make certain qualifying distributions or pay an excise tax. A 
private non-operating foundation is generally liable for this excise 
tax under section 4942(a) and (b) if it does not make qualifying 
distributions each year equal to its minimum investment return. The 
minimum investment return is five percent of the aggregate fair market 
value of all the foundation's assets other than those used (or held for 
use) directly in carrying out the organization's exempt purpose over 
the acquisition indebtedness with respect to such assets. Qualifying 
distributions under section 4942(g) are generally those distributions 
(including reasonable and necessary administrative expenses) paid to 
accomplish charitable purposes.

Description of the Proposed Payout Rule

    The Treasury Department and the IRS anticipate that the proposed 
regulations will (A) require a non-functionally integrated Type III 
supporting organization to meet a payout requirement and (B) limit the 
number of publicly supported organizations a non-functionally 
integrated Type III supporting organization may support.
    The payout requirement will call for a Type III supporting 
organization that is not functionally integrated to distribute annually 
to or for the use of its supported organizations an amount equal to at 
least five percent of the aggregate fair market value of all its assets 
(other than assets that are used, or held for use, directly in 
supporting the charitable programs of its supported organizations). 
Additionally, the

[[Page 42339]]

Treasury Department and the IRS are concerned that a supporting 
organization's relationship with and accountability to its supported 
organizations is diminished as the number of its supported 
organizations increases. Accordingly, except for organizations in 
existence on or before the date the regulations are proposed, it is 
expected that the proposed regulations will also provide that non-
functionally integrated Type III supporting organizations will be 
limited to supporting no more than five publicly supported 
organizations. An organization in existence on or prior to the date 
regulations are proposed may support more than five supported 
organizations only if the organization distributes at least 85 percent 
of its total required payout amount to, or for the use of, publicly 
supported organizations to which the supporting organization is 
responsive pursuant to Treas. Reg. Sec.  1.509(a)-4(i)(2)(ii). The 
anticipated proposed payout rules are intended to ensure that a non-
functionally integrated Type III supporting organization has a tight 
nexus with its supported organization(s).
    The Treasury Department and the IRS recognize that requiring an 
existing Type III supporting organization that supports more than five 
supported organizations to provide 85 percent of its total required 
payout to those supported organizations to which it is responsive may 
affect existing donee relationships. The Treasury Department and the 
IRS solicit comments on whether transitional rules are needed with 
respect to this proposed limitation regarding distributions to 
supported organizations.
    The valuation of assets for purposes of the payout requirement is 
expected to be determined in a manner similar to that under section 
4942(e)(2) and Treas. Reg. Sec.  53.4942(a)-2(c)(4). The proposed 
distribution rules will be similar to the distribution rules under 
section 4942. It is expected that amounts paid by an organization to 
accomplish the exempt purposes of its supported organizations will be 
considered as distributed to or for the use of its supported 
organization(s).

Responsiveness Test

    Except as explained below with respect to charitable trusts, the 
Treasury Department and the IRS do not expect to modify the 
responsiveness test. Thus, all Type III supporting organizations will 
be expected to meet the responsiveness test under Treas. Reg. Sec.  
1.509(a)-4(i)(2)(ii). Accordingly, a Type III supporting organization 
will be expected to demonstrate the necessary relationship between its 
officers, directors or trustees and those of its supported 
organization(s), and further show that this relationship results in the 
officers, directors or trustees of its supported organization(s) having 
a significant voice in the operations of the supporting organization.

Responsiveness Test for Charitable Trusts

    Consistent with section 1241(c) of the PPA, discussed in the 
Background section above, the proposed regulations will provide that 
charitable trusts must satisfy the responsiveness test under Treas. 
Reg. Sec.  1.509(a)-4(i)(2)(ii). Thus, for instance, a trust would be 
expected to show that its trustees have a close, continuous working 
relationship with the officers, directors, or trustees of the publicly 
supported organization(s) it supports and that through such 
relationship the officers, directors or trustees of its publicly 
supported organization(s) have a significant voice in the operations of 
the supporting organization. Comments are requested with respect to 
potential transition relief given that the statute directs that this 
modified test apply as of August 17, 2007 to trusts already in 
existence on the date of enactment of the PPA.

Requirement To Provide Supported Organizations With Information 
Regarding Responsiveness

    The proposed regulations will provide rules for the form, content 
and timing of the information Type III supporting organizations are 
required to provide their supported organization(s) under section 
509(f)(1)(A). The Treasury Department and the IRS solicit comments as 
to what information the Secretary should require a Type III supporting 
organization to provide to each of its supported organizations to 
ensure that such supporting organization is responsive to the needs or 
demands of its supported organization(s).

Consequences for Failing To Satisfy the Proposed Tests

    The proposed regulations will clarify that an organization that 
would otherwise be classified as a Type III supporting organization, 
but either does not establish that it is functionally integrated or 
does not satisfy the payout requirement for non-functionally integrated 
organizations in a taxable year, will be classified as a private 
foundation for such taxable year and all subsequent taxable years until 
it terminates its private foundation status under section 507. The 
Treasury Department and the IRS solicit comments on how the 
requirements for a private foundation termination under section 507 
should apply in these circumstances.

Transitional Issues

    Implementation of the new qualification requirements for Type III 
supporting organizations enacted in the PPA will raise transitional 
issues for certain organizations. For instance, an organization that 
currently qualifies as a Type III supporting organization by meeting 
the attentiveness prong of the integral part test might be prohibited 
by its current governing instrument from distributing capital or 
corpus, thus preventing it from being able to satisfy the new payout 
requirement for non-functionally integrated Type III supporting 
organizations without a change to such instrument. The Treasury 
Department and the IRS invite comments regarding potential transition 
rules for supporting organizations in existence as of the date of 
enactment of the PPA that will provide such organizations a reasonable 
opportunity to amend their governing instruments or make other changes 
to comply with the law as amended by the PPA.

Proposed Effective Date

    Except as otherwise noted, the Treasury Department and the IRS 
anticipate that these new proposed rules for Type III supporting 
organizations would apply to taxable years with respect to each 
organization beginning after the date these rules are published in the 
Federal Register as final or temporary regulations.

Request for Comments

    Before the notice of proposed rulemaking is issued, consideration 
will be given to any written comments (a signed original and eight (8) 
copies) or electronic comments that are submitted timely to the IRS. 
All comments will be available for public inspection and copying.

Drafting Information

    The principal authors of this advance notice of proposed rulemaking 
are Philip T. Hackney and Michael B. Blumenfeld, Office of the Chief 
Counsel (Tax-exempt and Government Entities), however, other personnel 
from the IRS and the Treasury Department participated in its 
development.

Kevin M. Brown,
Deputy Commissioner for Services and Enforcement.
 [FR Doc. E7-14925 Filed 8-1-07; 8:45 am]
BILLING CODE 4830-01-P