Taxing the Tax-Exempt

by Robert I. Evans and Avrum D. Lapin

The leaders of the 1.8 million non-profit organizations across the United States need to brace themselves for the next inevitable budgetary shock. Organizations ranging from public charities, private foundations, civic leagues, colleges and universities, hospitals, arts and cultural institutions, houses of worship and fraternal groups are being targeted as an income stream for cash strapped municipal governments. Although they each support different causes and missions, the massive number of U.S. non-profits have historically received special dispensation from being saddled with real estate taxes and other imposed fees for services such as police and fire protection. The federal government’s 501(C)(3) classification has yielded financial immunity in exchange for the valuable services they provide to their communities.

As various municipalities across the U.S. look to generate more income, especially from real estate taxes, some creative elected officials and other bureaucrats are looking to the non-profit world as a source for new revenue. Cities are now gently encouraging non-profits to voluntarily contribute “usage fees” commensurate with their property values. Some cities are even suggesting how much exactly should be contributed. But more harsh and aggressive systems are coming soon.

Impetus for a change in thinking began in Boston a few months ago, where Mayor Thomas Menino has been especially vigorous in seeking voluntary tax payments from the 40 largest non-profits in a city that has an extraordinary percentage of non-profit land owners. The Boston Globe reports that these 40 non-profits have properties valued at over $13.6 billion. Many are hospitals and universities, which by law are tax exempt but by most views are quite profitable and have multimillion dollar annual budgets and large endowments.

Menino is utilizing words such as “voluntary taxes” and “P.I.L.O.T” program (Payments In Lieu Of Taxes). The general sentiment is being well-received by some groups but is worrying the leaders of non-profits from the largest to the smallest. Recent postings across the Internet and in various publications are highlighting the aggressive nature of the “voluntary” tax program and it seems to be attracting attention in many communities.

Meinino is asking those large non-profits to only contribute 25% of their estimated property tax assessments. Thus, if a building has a $1,000,000 property tax assessment, the city will gladly accept $250,000. This will help fill in budgetary gaps and supplement income for police, fire rescue and snow emergency removals that all entities – both profit and non-profit – are entitled to and make use of.

There are two Jewish institutions in Boston that may be affected. Beth Israel Deaconess Hospital has a property tax assessment value of $24.8 million. Last year, the hospital “voluntarily” paid the city $167,000. Also, the Hebrew Rehabilitation Center received an assessment of $1.1 million. Last year they paid nothing.

The city’s approach has generated negative feedback from two directions. Non-profits feel as though failure to contribute to the city standards can warrant unfair public criticism. How important non-profits position themselves as valuable assets for a community seems to have taken a back seat to community coffers needing more income.

Paying voluntary fees is not a new principle for non-profits. There are currently 18 states and 117 municipalities in the U.S. where some non-profit organizations are voluntarily paying in lieu of taxes (PILOT). They include Pittsburgh, Philadelphia and Minneapolis. But the payments are not always truly voluntary as we recently learned that a Jewish social service agency was planning to erect a new facility; in exchange for qualifying for a zoning variance, the community government imposed a permanent tax/fee of many thousands of dollars.

In general, Boston is currently the only major city that has embarked on an especially vigorous and calculated demand on what organizations should be paying. The evolution of this idea in Boston came in the wake of many larger non-profits expanding and buying up large amounts of land but inequalities abound. In 2010, Boston University voluntarily paid the city $5.0 million and Northeastern paid $31,000, both significantly less than the city’s proposed 25% target, but both institutions seem to be aggressively expanding their real estate holdings.

Mayor Angel Taveras of Providence, Rhode Island, is looking to join Boston’s approach by targeting the top nine universities in his city to aggregately come up with $25 million, which would equal 25% of what their property taxes might be. This would help alleviate the daunting $100 million debt the city is currently facing.

Many other cities are following suit in creative ways of beating the tax exempt loopholes. By easily adjusting the word “taxes” and replacing it with the word “fee” in Pewaukee, Wisconsin, the city is now invoicing non-profits for fire hydrants and in Minneapolis, Minnesota, fees are now being introduced to non-profits for use of city streetlights.

With these new creative tax exemption policies it is still important to consider the following:

  1. The “new normal” that we are experiencing today means new definitions of “non-profit” and non-profits are no longer immune from some of the special treatments they have historically received from various governmental agencies.
  2. The notion of non-profits being perceived as “good citizens” is important and will ultimately become part of an organization’s “selling proposition” and competitive posture as they make their cases for special considerations.
  3. Non-profit boards and executives need to be strategic in how they see their position in their communities and how they interact with their political environments, but more and more governments will expect non-profits of all types and sizes to step forward with voluntary tax payments or fees to cover essential community services.
  4. Non-profits need to understand that the status quo in this area has shifted and will probably not shift back, even as the economy continues to improve. Budgetary impact is obvious for cash-strapped non-profits as well as for governments.
  5. Jewish non-profits of all types and sizes will not be exempted from the effort by governments so the smart organizations should take pre-emptive steps now regarding budgetary projections that include voluntary tax payments at some level. This includes houses of worship as well as federations, smaller hospitals, social service agencies and other entities serving the Jewish community.

This challenge is indicative of the path to generating revenue from untapped resources and we believe will become a matter of fact for non-profits which own real estate. Other non profits which rent facilities will ultimately be asked, too, to make voluntary payments to cover essential protective services. Now is the time to consider budgetary considerations and to calculate what will represent “appropriate” payments to the cash-strapped municipal governments in the U.S. and how non-profits can adjust their own budgets and their thinking about the organizations as community assets.

Robert I. Evans, Managing Director, and Avrum D. Lapin, Director, are principals of The EHL Consulting Group, of suburban Philadelphia, and are frequent contributors to EHL Consulting works with dozens of nonprofits on fundraising, strategic planning, and non-profit business practices. Become a fan of The EHL Consulting Group on Facebook.