In recent years, many nonprofit charitable organizations have increasingly relied for their support on payments for services rather than from charitable contributions. In an attempt to increase revenue from these mission-related activities, many charities have turned to the for-profit sector for sources of capital as well as technical advice and assistance. This, in turn, has led to joint arrangements with for-profit entities, the establishment of for-profit subsidiaries, and the adoption of new investment strategies that deviate significantly from the traditional mode of passive investing in stocks and bonds.
Various terms are used to describe these new activities—social entrepreneurship, cross-sector partnerships, socially-responsible businesses and hybrid business developments—but all share purposes, motives, and financial structures that do not fit easily within the traditional legal framework of nonprofit organizations. This shift has led federal and state regulators to question the propriety of some of these arrangements, as well as the appropriate tax treatment. Regulators are concerned that charities’ assets will improperly benefit private individuals, that charities may exploit the privilege of tax exemption for the benefit of non-charitable interests, and that charities’assets may be put at undue risk.
In the past, the most common type of venture was conducted and financed directly by the tax-exempt organization itself. Examples include a museum shop that sells items unrelated to its exempt purposes, or a pharmacy operated by a hospital that serves both patients and nonpatients). The concern of regulators with these ventures is that they will become the principal activity of the organization, and not merely incidental to its primary exempt purposes.
EXAMPLE: A nonprofit public television station entered into a joint venture with a for-profit entity that operates a national chain of retail stores selling educational products. The for-profit entity contributed all of the start-up and operating capital, along with all the functions necessary to run the retail operation. The nonprofit organization contributed its name and reputation and agreed to advertise the store in its broadcasts. In return, the nonprofit receives royalty payments and equity incentives.Another type of venture that became popular in the 1980s was conducted by a separate legal entity controlled by an exempt organization. These ventures were often tax-exempt themselves, or in some instances were taxable. In the case of a taxable venture, regulators will be concerned as to whether the venture is operated sufficiently independent of the parent so that its activities cannot be attributed to the parent, thereby putting at risk the tax-exempt status of the parent.
The most recent trend in “venturing” involves combining private and charitable interests into “joint activities” involving tax-exempt organizations and private individuals and business corporations in which the private interests have a major stake. Organizations contemplating one of these new-style joint ventures will find that the pathway is not always clear. Furthermore, a failure to protect charitable assets can lead to drastic penalties - including loss of federal and state tax exemption, imposition of penalty excise taxes on directors and officers and legal challenges by state officials. In addition, financial arrangements between persons with substantial influence over the affairs of the exempt organization or its joint venture could trigger excise tax penalties under the intermediate sanctions provisions of the Internal Revenue code.
The purpose of this study is to describe the parameters of permissible behavior for these new joint ventures, as well as to point out unsettled areas and the pitfalls that should be avoided. There are many new joint venture arrangements that the Internal Revenue Service will view as jeopardizing tax exemption or that state regulators will consider to be illegal. Accordingly, the limitations suggested herein are conservative and it is possible that some of the recommended safeguards may not ultimately be required. However, for an organization that wants to venture, but also wants to avoid challenges by government, they provide a “safe harbor.”
In the ensuing discussion, references to nonprofit organizations and to “charities” are to those trusts and corporations that are described in section 501(c)(3) of the Internal Revenue Code that are not private foundations as that term is defined in Section 509(a) of the Code. Private foundations are excluded solely because the provisions of Chapter 42 of the Code apply special limitations to the participation by these organizations in joint ventures, limitations that are beyond the scope of this study.
Four Types Of Joint Venture Activities:
There are four general types of activities which are commonly conducted jointly by nonprofit organizations together with individuals and for-profit companies. These activities form a useful starting point for delineating the parameters of permissible behavior, although in each instance, the specific terms of the arrangement with private entities will ultimately determine whether the joint venture is appropriate for the nonprofit organization.
1. Ventures To Exploit Specific Assets
Joint ventures have been used for many years to exploit specific assets of a nonprofit organization. Examples include venture capital investments, the amalgamation of investment portfolios, and joint arrangements formed to exploit specific types of assets that the exempt organization has developed, such as intellectual property rights. These were the first type of joint arrangement that the Internal Revenue Service approved, and have caused the least trouble for regulators.
2. Ventures Serving Support Function for the Exempt Organization
Joint ventures have been formed to develop facilities or services that serve a support function for an exempt organization. Examples include medical office buildings developed by hospitals and staff doctors, and electric power plants developed by universities in partnership with public utilities.
3. Ventures Serving Ancillary Activities of the Exempt Organization
Joint ventures have been established to conduct activities that involve services or facilities ancillary to the primary operations of the tax-exempt organization, but more central to its operations than those in category 2. Although the activities of the joint venture contribute importantly and directly to the conduct of the exempt purpose or function of the nonprofit organization, they are secondary in importance and, in many instances, relatively small in comparison with the exempt organization’s entire operations. Examples include ambulatory surgery centers and clinical laboratories operated by nonprofit hospitals in partnership with local physicians, and partnerships consisting of universities and their faculty members established to market products developed during the course of research.
4. Ventures Involving Transfer of All Assets of the Exempt Organization
Joint ventures have been developed with proprietary firms in which the principal operating assets of the nonprofit organization (those that underlie the basis for recognition of its tax-exemption) are transferred to and operated by a new entity, leaving the exempt organization with no substantial exempt activities. The most common example is a “whole hospital joint venture,” a transaction in which a hospital’s facilities and services are transferred to a partnership owned jointly by the hospital and one or more for-profit entities, with the new partnership operating as a taxable venture and not an exempt entity. Another common example is a partnership formed by exempt and nonexempt entities to operate low-income housing.
Legal Forms For Joint Ventures
A “joint venture” is sometimes defined as a cooperative arrangement among individuals or corporate entities formed for the purpose of carrying on a particular enterprise. In common parlance, it is usually considered to be synonymous with a partnership. However, a joint venture can be established in any one or a combination of three legal entities: corporations, partnerships, and limited liability companies. There are federal and state law ramifications for each of these legal forms and in almost all cases the choice among them will be made on the basis of who will be liable for the debts incurred in the venture — a state law question — and how its profits will be taxed — a federal law question — with tax considerations most often being paramount.
Business corporations offer complete protection to their shareholder-owners from liability for the debts of the company. As such, they are a particularly attractive form for conducting joint ventures. However, the tax ramifications often preclude their use. Under the federal tax laws, a corporation is treated as a separate taxpayer, subject to income tax at a maximum rate of 35%, a tax that can be completely avoided by using one of the other two forms. An even greater tax drawback in many instances is the fact that upon dissolution of the corporation, appreciation in its assets will be taxed to the corporation and then again to the shareholders. It is possible to form a corporation that is treated as a pass-through entity for tax purposes (called an “S Corporation,” as opposed to a “C corporation”) thereby avoiding the two levels of tax. However, all items of income or loss flow through from an S corporation to its exempt shareholders as unrelated business taxable income, subject to corporate income tax as are the proceeds from sale of S corporation shares by a tax-exempt owner. In addition, unlike the other pass-through entities described below, an S corporation will recognize gain at the corporate level upon distribution of appreciated property.
Partnerships can take two forms, limited and general. With a general partnership, the partners share operating responsibility and each one is liable for the debts of the others. A limited partnership is comprised of one or more general partners who assume operational responsibilities for the partnership and one or more “limited partners” who serve as passive investors. The general partners are usually subject to liability to the same extent as partners in a general partnership, while the limited partners are not and, depending on the terms of the partnership agreement, they can be afforded the same protection from liability as shareholders of a corporation. Under the federal income tax laws, both general and limited partnerships are disregarded for tax purposes, and the income and deductions of the partnership are passed through to the partners, thereby avoiding the separate level of taxation imposed on corporations and the separate tax on appreciated assets imposed on dissolution.
Limited Liability Companies
A limited liability company is a relatively new legal form that, in time, will likely supplant the partnership as the most common vehicle for conducting joint ventures. An LLC offers to its “members” (analogous to stockholders of a regular corporation) the protection from liability afforded in the corporate structure while affording the same tax treatment as a partnership in which income and expenses are passed through the partners. Unlike limited partnerships, limited liability companies offer protection to members who participate in the management of the entity as well as passive investors. To be taxed as a partnership, rather than a corporation, an LLC that has more than one member has merely to elect this status. Limited liability partnerships are another new legal form, similar to LLC’s. However, a limited liability partnership is a less useful legal form for a joint venture because, in almost all instances, it will afford protection to a partner only from vicarious liability for torts, not from liability for commercial debts and other contract liabilities.
NONPROFIT ORGANIZATIONS AS GENERAL PARTNERS
A charity considering conducting a joint venture must initially determine the type of organization through which the venture will be conducted. In the eyes of the regulators, participation as a shareholder in a business corporation or as a member of an LLC raises fewer concerns than participation in a partnership because of the protection from liabilities that such entities afford. The regulators greatest concerns have to do with the theoretically unlimited obligations of general partners to the other partners, raising questions of whether the nonprofit is conferring prohibited private benefit on the private owners.
EXAMPLE: An exempt organization that runs a shelter for the homeless, established a limited partnership to purchase a farm on which it will grow produce and raise livestock for use in the shelter. The for profit organizations are the limited partners and the exempt organization serves as the sole general partner and operates the farm. (PLR 9308034)State laws governing partnerships impose duties upon general partners that could place a charity that serves as a general partner in direct conflict with the requirements for tax-exemption under Section 501(c)(3) of the Internal Revenue Code, as well as state laws requiring exclusive devotion to the charitable purposes of the corporation. For example, under state partnership law, a general partner will often be under a duty to further the financial interests of the other partners. This requirement is directly in conflict with the Internal Revenue Code and state charity law, which mandate that nonprofit organizations operate exclusively for the public benefit and only incidentally for private benefit. State laws also impose unlimited liability upon a general partner for the debts of the partnership, while the Internal Revenue Code prohibits a nonprofit organization from conferring private benefits on an individual, including, in this case, relieving for-profit general or limited partners from the burdens of the entity’s debt.
For many years, these perceptions of state partnership laws led the IRS to categorically deny exemption to any organization that entered into a joint venture with for-profit entities in which the nonprofit organization served as general partner. However, the IRS changed its position in response to a 1980 decision of the Tax Court in the case of Plumstead Theatre Society, Inc. v. Commissioner, 74 Tax Court 1324 (1980), aff’d 675 F.2d 244 (9th Cir.1982), in which the court approved such an arrangement. The case involved a tax-exempt theatre production company that needed capital to mount a production already scheduled for performance. In order to attract investors, the Society created a limited partnership and offered limited partnership interests to individuals and for-profit entities willing to accept a share of any profits, but also to assume a portion of any losses. The Ninth Circuit Court, affirming the decision of the Tax Court, reversed the Service’s revocation of the theatre company’s exemption on the basis that the nonprofit had no obligation to return the limited partners’ capital contributions from its own funds, that the limited partners had no control over the nonprofit’s activities, and that none of the limited partners were involved in the operations of the theatre company.
Following this decision the Service abandoned its prior per se rules and formulated the basis on which tax-exempt organizations could become general partners in joint ventures without violating the terms of their exemption. Although these criteria continue to evolve in response to new court rulings and the IRS, the basic contours of a safe harbor have been articulated and, if followed, will protect a tax-exempt charitable organization from loss of exemption as well as attack by a state attorney general for failure to carry out its charitable mission.
The IRS Two Part Test For Partnership Joint Ventures
The IRS has set forth two distinct requirements — referred to herein as the Charitable Purpose Test and the Private Benefit Test — to determine whether a nonprofit organization remains qualified for tax exemption while participating as a general partner in a limited partnership with for-profit entities. If a nonprofit general partner fails to satisfy either test and the activities of the joint venture are substantial, the IRS may seek to revoke the organization’s tax exemption.
1. The Charitable Purpose Test
Under the Charitable Purpose Test the nonprofit organization’s participation in the joint venture must accomplish an exempt purpose. This would include performing religious, charitable, scientific, literary, and educational activities that serve as the basis for qualification for exemption under Section 501(c)(3) of the Internal Revenue Code. For example, a nonprofit organization whose purpose is to alleviate community deterioration that enters a limited partnership with a for-profit entity to develop low-income housing would satisfy the Charitable Purpose Test. A joint venture to operate a ski resort in another state would not.
2. The Private Benefit Test
The Private Benefit Test focuses on the manner in which the joint venture is structured. In general terms, the test requires the nonprofit organization to demonstrate that the agreement governing the limited partnership permits it to act exclusively in furtherance of its exempt purposes and not for the benefit of the for-profit limited partners in more than an incidental way. In practical terms, this test can be satisfied by incorporating provisions of the joint venture agreement and avoiding others. The nature of these provisions is described below.
State Law Considerations
Under state law, tax-exempt charities are under a duty to preserve assets donated or held for charitable purposes. One of these duties relates to the type of investments the charity is permitted to make. In general, the law prohibits speculation and requires a degree of diversification. A “whole organization joint venture” may involve a degree of risk and a concentration of investment that is incompatible with these state laws. In such a case, a state court, acting on the motion of the attorney general, would have the power to block the transaction or require its rescission, as well as surcharge the directors and officers for any losses that were incurred. Thus, although enforcement by the Internal Revenue Service is more widespread, one should not ignore state law requirements.
Income From The Joint Venture — Applicability Of UBIT
Text Box: EXAMPLE: An exempt hospital, in order to obtain financing to build and operate a magnetic resonance imaging center formed a limited partnership with a for-profit health care provider with experience operating such a facility and the capital to finance its creation. Both the hospital and the for-profit serve as general partners and local doctors invested as limited partners. The Service held that the arrangement would not jeopardize the hospital’s tax exemption on the grounds that the facility was needed in the geographic area and was an activity that would be furthering the hospital’s exempt purpose of providing medical care, so long as the joint venture was operated on a nondiscriminatory basis and provided for equitable profit-sharing. The Service also ruled that income from the joint venture will not be subject to UBIT. (PLR 8833038)The Unrelated Business Income Tax (UBIT) applies to the net income earned by an otherwise tax-exempt organization from trade or business activities that are performed on a regular basis and that do not contribute substantially to the carrying out of the organization’s exempt purpose. If a nonprofit general partner’s participation in a limited partnership with for-profit entities satisfies the Charitable Purpose Test, the income it derives from the joint venture is earned from activities related to its exempt purpose and thus will be exempt from UBIT.
UBIT may apply, however, if a nonprofit organization participates in a joint venture that fails the Charitable Purpose Test but does not result in loss of tax exemption. As discussed above, such a situation would arise if the activities of the joint venture are insubstantial in relation to the overall activities of the participating nonprofit general partner. Since the activities of the joint venture are unrelated to the nonprofit general partner’s exempt purposes, UBIT will apply unless the income earned from the joint venture falls within a category of income specifically excluded from the definition of unrelated business income. This includes dividends, interest, annuities, royalties, and rents paid by a taxable subsidiary to its exempt parent, but only if the parent exercises less than 50% control of the subsidiary, and only if the venture was not debt-financed.
Effect On Public Charity Status
A nonprofit organization that is considered a “public charity,” and not a private foundation, will not lose that status if it participates as a general partner in a limited partnership with for-profit entities so long as the joint venture meets the IRS two part test. For the purpose of making this determination, the activities of the joint venture will be attributable to the participating nonprofit organization. Thus, even if a nonprofit organization conducts all of its exempt activities through a joint venture — for example, a whole hospital joint venture — it may still qualify as a public charity.
Use Of A Subsidiary To Serve As General Partner In A Joint Venture
As an alternative to participating as the general partner in a limited partnership, a nonprofit organization can incorporate a for-profit subsidiary to serve as general partner. Since such a subsidiary is treated as a separate legal entity if it has a real business purpose and is operated independently from its nonprofit parent, its participation in the joint venture will not jeopardize the tax-exempt status of the nonprofit parent. However, as noted above, if the exempt organization has a 50% or more ownership interest in the subsidiary, any payments by the subsidiary to the nonprofit parent for interest, annuities, royalties or rent will be subject to the unrelated business income tax.
NONPROFIT ORGANIZATIONS AS LIMITED PARTNERS
EXAMPLE: In order to facilitate the construction of student housing, a tax-exempt college entered into a limited partnership with a local construction firm. The college was to serve as a limited partner, contributing capital to the partnership, and receiving a share of the profits. The construction firm would be the general partner with day-to-day responsibility for constructing the housing. The service ruled that the college’s investment would not jeopardize its exempt status, but the income might be subject to UBIT.State laws governing limited partnerships do not impose duties and responsibilities upon limited partners that potentially conflict with the requirements for nonprofit status under the Internal Revenue Code. When a nonprofit organization participates in a limited partnership as a limited partner, the nonprofit organization has no legal duty to further the economic interests of its for-profit partners in derogation of its obligation to operate for the benefit of the public interest. Charitable assets are not at risk because the liability of the nonprofit organization for the debts and other liabilities of the joint venture is limited to the amount it invests. For these reasons, in joint ventures where the nonprofit organization takes a limited partnership interest, the two part test does not apply and participation by a nonprofit organization is not grounds for revocation of tax exemption.
One should note, however, that the difference between a limited and general partnership interest is not always clear, and in some cases it may be difficult to categorize a nonprofit organization’s role in a joint venture as one or the other without a detailed analysis of the obligations of each of the parties to each other. Accordingly, when creating a limited partnership, one should make certain that it will meet the criteria for general partnership interests described above.
Income From The Joint Venture — Applicability Of UBIT
EXAMPLE: Ten nonprofit hospitals and a for-profit entity formed a joint venture to provide mobile medical services to rural communities. The nonprofit hospitals serve as limited partners and the for-profit entity serves as general partner. Because these medical services are needed, unique, and otherwise unavailable, the activities of the joint venture contribute importantly to the exempt purposes of the limited partners. Income from the joint venture will not be subject to UBIT. (PLR 9109066)Where a nonprofit organization serves as a limited partner in a joint venture, the primary concern will be whether the income that the nonprofit organization earns is subject to the tax on unrelated business income. The nonprofit limited partner’s share of profits may be subject to UBIT whether or not the income is actually distributed from the limited partnership. Taxation will depend primarily on whether the activities of the joint venture are related to the nonprofit limited partner’s exempt purposes.
To be considered “related,” the activities must contribute importantly to the nonprofit organization’s achievement of its exempt purposes other than by merely providing funds. For example, if a nonprofit university invests in a joint venture which operates a spaghetti factory, its earnings would be taxable since manufacturing pasta does not contribute importantly to its educational mission. This holds true even if the joint venture is highly successful and provides the university with funds to hire ten new professors. On the other hand, if a nonprofit school of performing arts invests in a joint venture that operates a theater, the net earnings from ticket sales will be exempt if it demonstrates that its students derive valuable educational training by performing there.
Certain kinds of income from joint venture activities may not be subject to UBIT even if the activities are unrelated to the nonprofit organization’s exempt purpose. Generally, income characterized as dividends, interest, annuities, royalties, or rents is not subject to the tax. When earned by a limited partnership, these types of income retain their characteristics when distributed and are exempt from UBIT when received by the nonprofit limited partner. Whenever possible, it is advantageous for a nonprofit organization to structure the profit-sharing provisions of a joint venture in order to take advantage of these exceptions. However, as noted above, the exemption from the unrelated business income tax for interest, annuities, royalties and rents does not apply to payments the nonprofit organization receives from a subsidiary of which it has 50% or more control..
NONPROFIT ORGANIZATIONS AS MEMBERS OF LIMITED LIABILITY CORPORATIONS
EXAMPLE: A nonprofit community service organization created a limited liability company to conduct a joint venture with a for-profit health maintenance organization. The company provides job-placement, child care, and counseling services to enable women to find jobs and leave the welfare rolls. It won a state contract to provide these services under the state's welfare reform program. The nonprofit entity provides the facilities and the staff for the operation, and the for-profit entity provides expertise in risk management and mental health counseling. The joint venture also provides consulting services to other organizations that are conducting similar programs.
Even though the Internal Revenue Service’s concerns regarding the obligations of general partners do not appear to apply to participation of a charity as a member of a limited liability company, the Service has not ruled explicitly that the role of a managing member of an LLC is different from that of a general partner. Of particular concern is the question, not yet definitively decided by the Service and the Courts, of whether the control requirements applicable to general partnership interests apply when a nonprofit is a minority owner of an LLC. Another way of addressing the problem is to determine if, and where there is a dividing line between a passive investment and an active one. Service spokesmen have acknowledged that this is a problem area. They have also indicated that the nature of the exempt activity and the motives for making the investment may be pertinent in determining whether control of the venture by the charity is a necessary requirement. Definitive guidance is needed, as this is one of the important unresolved questions in regard to the propriety of any new venture activity.
DOS AND DON’TS FOR PARTNERSHIP JOINT VENTURES
In light of the fact that a partnership is the most advantageous arrangement for joint ventures, the following are some “dos” and “don’ts” designed to address the concerns of regulators that the venture will violate the rules relating to private benefit. They also should serve as cautions to joint venture organizers to use proper legal forms.
The following “dos” and “don’ts” are designed to address the IRS’s concerns regarding its two-part test:
In The Organizing Documents For The Venture
· Clearly Set Forth an Exempt Purpose
The partnership agreement or other governing documents should explicitly state the exempt purpose of the joint venture and assert an obligation to put that purpose ahead of economic objectives.
· Maintain Control
The governing documents should reserve for the nonprofit organization a majority of formal voting control so that it may act unilaterally to ensure that the joint venture accomplishes its exempt purpose. A mere veto over the joint venture’s activities does not satisfy this requirement. For example, if there are six equal voting members of a joint venture, the nonprofit organization must control four of them. Even though control of three votes would enable the nonprofit organization to effectively block any action by the partnership, it could not act to accomplish exempt purposes without the vote of at least one of the for-profit partners.
· Shelter the Exempt Organization from Liability to the Maximum Extent Possible.
The joint venture agreement should contain provisions that shelter a nonprofit general partner from unlimited liability to the greatest extent possible. In states where this cannot be done directly by agreement between the partners, it can be accomplished by requiring insurance or indemnification. The existence of other general partners may also mitigate the risk to the nonprofit organization’s assets. For example, a limited partnership agreement could provide that only the for-profit general partners are obligated to protect the interests of the limited partners.
· Avoid Improper Guarantees
In addition to sheltering itself from unlimited liability to the greatest extent possible, a nonprofit joint venturer must also refrain from making improper guarantees to the for-profit limited partners. For example, an agreement that obligates a nonprofit general partner to return the for-profit partners’ capital contributions from its own funds in the event of insolvency exposes the nonprofit organization’s assets to undue risk. Other examples of guarantees to be avoided include a minimum investment return, indemnification for future environmental liability, or an agreement to fund a loss reserve.
· Incorporate Special Precautions When Dealing With Insiders
When a nonprofit serves as general partner in a limited partnership in which its own officers, directors, or other individuals who exert influence or control over its activities are limited partners, it must take special precautions to insulate itself from potential conflicts of interest that may arise. Specifically, the nonprofit organization must establish an independent committee, consisting of individuals who are not parties to the joint venture, to monitor its participation and represent its interests. Under provisions of the Internal Revenue Code commonly referred to as Intermediate Sanctions that came into effect in 1996, excess benefits conferred on these insiders may lead to substantial monetary penalties on both the insiders and the managers who approved the nonprofit organization’s participation in the joint venture.
In The Operation Of The Venture
· Retain an Arm’s Length Relationship.
Joint ventures must not operate to enrich the for-profit venturers with no corresponding benefit for the nonprofit participant. Thus, the organization must deal evenhandedly with both a nonprofit general partner or manager, and for-profit limited partners or members. Services and property contributed to the joint venture by the partners should be valued at fair market value (or at not less than fair market value if provided by the nonprofit organization). The nonprofit organization should not loan money to the joint venture at a below-market rate of interest but could make a loan at a market rate or higher.
· Be Sure No Excess Benefits Are Paid to Any Joint Venturer
For-profit joint venturers should not receive more than reasonable compensation for the sale of property or services to the joint venture. For example, management services provided to the joint venture by a for-profit partner must be billed at or below market rates and the agreement governing the provision of the services may not include unreasonable terms such as granting the for-profit partner a unilateral right to renew. Finally, the for-profit venturer should pay fair market value when purchasing assets from the venture. Giving the nonprofit participant a right of first refusal on the sale of the assets of the venture is an effective means of complying with this rule.
· Exercise Control Over Partnership Operations
In addition to provisions in the organizing documents granting control to the nonprofit general partner, the Service has announced that it will look to the actual operation of the partnership to ascertain whether the charity does in fact exercise the control it retained.
· Strike a Good Business Deal
To ensure that it does not confer unearned benefits on its for-profit partners or co-venturers, a nonprofit venturer must strike a deal for itself that makes good business sense. If the nonprofit is a partnership, or an LLC taxed as a partnership, it should ensure that investments in the limited partnership by the for-profit partners are real and substantial. Allocations of income, deduction or credit from operations of the joint venture should be based on the partners’ capital contributions and assumed risks. Finally, special allocations to any partner should be avoided.
Tax-exempt charitable organizations are afforded great leeway in the manner in which they carry out their charitable mission - so long as their primary activities and focus are directed to fulfilling the mission and so long as they do not confer benefit on private parties other than benefits that are incidental to the fulfillment of their mission. These two requirements are necessary requisites for obtaining and retaining tax-exempt status. They are the same prerequisites that must be met any time a tax-exempt organization enters into a joint venture with private entities that are not tax-exempt. Neither state law nor the federal tax laws prohibit joint ventures. They do serve to remind the venturers that there are constraints associated with the privilege of tax exemption. Once these constraints are recognized and accounted for, the possibilities for creating innovative ventures, whether designed to create new sources of income or to carry out a charitable mission in a new context, are virtually unlimited. Rather than be fearful of such innovation, it is to be encouraged.