As described elsewhere on our site, an equivalency determination (ED) is a written opinion, by a qualified U.S. tax practitioner, that a non-U.S. organization is equivalent to a U.S. public charity. The ED does not make a judgment on the value of the work conducted by the non-U.S. organization or the efficacy of its programs. It is simply an opinion that the organization's purposes and activities align with those required to be recognized as a tax-exempt charity in the U.S.
While there are several reasons an organization might not qualify as equivalent, the two most common reasons are
- Its income is not sufficiently diverse to pass a public support test.
- Its governing documents do not expressly dedicate the organization's assets to charitable purposes on dissolution.
Distribution of Assets on Dissolution
As explained in our prior post on dissolution, public charities and their foreign equivalents must be required — either by applicable law or by their governing documents — to distribute any remaining assets on dissolution either for charitable purposes or to the government for public purposes. The U.S. Internal Revenue Service (IRS) has advised that assets must be distributed
- For charitable purposes;
- For purposes identical to those of the organization (assuming that the organization itself has exclusively charitable purposes); or,
- To a governmental entity exclusively for a public purpose.
The above purposes are known as "exempt purposes."
Dissolution Requirements in Other Countries
A number of countries have similar, though rarely identical, requirements with respect to charities in their jurisdictions. For example, in India, to be recognized as a tax-exempt charity under Section 80G of the Income Tax Act (PDF), the organization's governing document may not "contain any provision for the transfer or application at any time of the whole or part of the income or assets ... for any purposes other than a charitable purpose." Other countries require that a charity's assets on dissolution devolve to another charity, which also effectively dedicates the assets to charitable purposes. A notable example is The Charity Law of the People's Republic of China, which requires that "assets remaining after liquidation shall be transferred, in accordance with the charter of the charitable organization, to charitable organizations with the same or similar aims." Another example is the Federal Law that Promotes the Activities Conducted by Civil Organizations (PDF) in Mexico, known as the "Promotion Law." This law requires that "should any dissolution take place, they shall transfer their assets to [an]other organization duly registered with the Registry."
However, in those countries where the law does not require an explicit dedication of assets for exempt purposes, local nonprofits have no real incentive to incorporate such language in their governing documents. In fact, for many such organizations, their intent is clear, and absent the imminent threat of dissolution, they may see little benefit of documenting as much in the governing document. Unfortunately, U.S. tax law rules are unwavering in the dissolution requirement. As the IRS has noted (PDF):
The organizational test must be met by the creating document or state law. It cannot be met by oral representations or representations made in other documents.
See Reg. 1.501(c)(3)-1(b)(1)(iv).
Therefore, without an explicit statement in the governing documents or under local law dedicating the organization's assets to charitable purposes on dissolution, an organization will fail to be deemed equivalent.
Dissolution Requirements in France
Perhaps the country where we most often encounter this problem is France. The most common nonprofit entity type in France is an "association" formed under the Law of July 1, 1901 (PDF). While this law covers charitable nonprofit associations, it also governs noncharitable nonprofit associations such as trade associations or business leagues. Such entities in the U.S. are also nonprofit, but not "charitable," because their purposes are not exclusively for the public benefit. (For more on the difference between "nonprofit" and "charitable," see our blog post on this topic.)
The Law of July 1, 1901 simply states that,
In the case of voluntary, statutory or court-ordered dissolution, the association's property will be distributed according to the articles of association or, lacking such statutory provisions, following the rules determined by the General Meeting.
Accordingly, a nonprofit association in France has no binding requirement that its assets be distributed for charitable purposes on dissolution. Even organizations that require that assets be distributed to "similar organizations" or for "similar purposes" on dissolution will not necessarily meet the dissolution requirement. Without any further dedication of the assets for charitable purposes, such as a provision pledging the organization's assets exclusively to its own purposes, such language falls short of dedicating assets exclusively for charitable purposes. The IRS said as much in a nonprecedential ruling:
[U]pon dissolution an organization's assets must be distributed for [charitable] purposes to be used in such a manner as to best accomplish the general purpose for which the dissolved organization was organized. … [It is not sufficient if the governing document] provides only that assets must be distributed to an organization "engaged in activities substantially similar to those of the dissolving corporation."
See I.R.S. Gen. Couns. Mem. 39,736 (June 6, 1988).
French nonprofit organizations are not alone in facing the dissolution hurdle; however, they are among the most common entity types not to qualify for this reason. In most cases, the organization has every intent to distribute its assets in the event of dissolution to another charitable entity, or for charitable purposes. Yet without binding language to this effect, an organization may not qualify as equivalent.
Where possible, NGOsource will work with an organization to suggest possible revisions to its governing documents to allow it to meet this requirement. For more information on French laws of relevance to the ED process, visit our ED Resource Center.
- France's Law of July 1, 1901 (PDF)
- Internal Revenue Service: Charity - Required Provisions for Organizing Documents
- Organizational Test – IRC 501(c)(3), IRS EO CPE Text 2004 (PDF)
- Internal Revenue Service: Suggested Language for Corporations and Associations
This article is for general informational purposes only and does not represent legal advice as to any particular set of facts. Please seek legal counsel as you deem necessary.