CAP Regulatory Compliance & Law 3 — Questions and Answers
Question 1: Which IRS revenue ruling established that a private foundation's investment in a program-related investment (PRI) does not jeopardize its exempt status?
- Rev. Rul. 74-450
- Rev. Rul. 77-316
- Rev. Rul. 71-447 (Correct answer)
- Rev. Rul. 68-489
Correct answer: Rev. Rul. 71-447
Rev. Rul. 71-447 confirmed that program-related investments furthering charitable purposes do not constitute jeopardizing investments under IRC Section 4944.
Question 2: A private foundation wants to pay reasonable compensation to a disqualified person for personal services. Which exception to the self-dealing rules applies?
- The charitable purpose exception
- The personal services exception under IRC Section 4941(d)(2)(E) (Correct answer)
- The arms-length exception
- There is no exception; all compensation to disqualified persons is prohibited
Correct answer: The personal services exception under IRC Section 4941(d)(2)(E)
IRC Section 4941(d)(2)(E) allows private foundations to pay reasonable compensation to disqualified persons for personal services that are necessary to carry out the foundation's exempt purpose.
Question 3: Under state law, which legal doctrine requires charitable trustees to diversify investments and avoid speculative risks unless special circumstances apply?
- The Cy Pres doctrine
- The Uniform Prudent Investor Act (UPIA) (Correct answer)
- The Rule Against Perpetuities
- The Doctrine of Charitable Purpose
Correct answer: The Uniform Prudent Investor Act (UPIA)
The Uniform Prudent Investor Act requires trustees to diversify investments and adopt a portfolio approach, considering risk and return in the context of the entire trust portfolio.
Question 4: A donor contributes artwork valued at $50,000 to a museum. The museum intends to sell the artwork immediately rather than use it in its exempt function. What is the donor's allowable deduction?
- Fair market value of $50,000
- Cost basis only (Correct answer)
- Zero deduction is allowed
- 50% of fair market value
Correct answer: Cost basis only
When a charity's use of donated property is 'unrelated use' (i.e., selling rather than displaying the art), the donor's deduction is limited to cost basis, not fair market value.
Question 5: Under the Uniform Trust Code (UTC), what is the state attorney general's primary role regarding charitable trusts?
- Setting investment policies for charitable organizations
- Enforcing charitable trusts and representing the public interest in charitable assets (Correct answer)
- Approving all grants made by private foundations
- Collecting excise taxes on behalf of the IRS
Correct answer: Enforcing charitable trusts and representing the public interest in charitable assets
State attorneys general have primary authority to enforce charitable trusts and protect the public interest, including investigating misuse of charitable assets.
Question 6: A 501(c)(3) public charity engages in substantial lobbying activities. What is the primary consequence under the Internal Revenue Code?
- The charity must register as a 501(c)(4) instead
- The charity may lose its tax-exempt status (Correct answer)
- The charity must pay a 10% excise tax on lobbying expenditures
- Individual board members become personally liable
Correct answer: The charity may lose its tax-exempt status
Under IRC Section 501(h) and general exemption rules, a public charity that engages in substantial lobbying risks losing its 501(c)(3) tax-exempt status.
Question 7: Which of the following must a donor-advised fund (DAF) sponsoring organization do before making a grant to a foreign charity?
- Obtain IRS pre-approval for the grant
- Exercise expenditure responsibility or conduct an equivalency determination (Correct answer)
- Register the foreign charity with the state attorney general
- Limit grants to $10,000 per foreign organization per year
Correct answer: Exercise expenditure responsibility or conduct an equivalency determination
DAF sponsors granting to foreign organizations must either exercise expenditure responsibility or conduct an equivalency determination confirming the foreign charity meets U.S. public charity standards.
CAP Regulatory Compliance & Law 3
Which IRS revenue ruling established that a private foundation's investment in a program-related investment (PRI) does not jeopardize its exempt status?