Explosion of Political Groups Seeking Tax-Exempt Status May Have Led to IRS Scandal

The agency may have acted unfairly, but it may be time to give tax-exempt political groups a second look

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The types of groups the IRS was targeting also fall under the heading of so-called "social welfare" organizations, which can obtain tax-exempt, 501(c)(4) status.

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The IRS has admitted that one of its offices submitted conservative organizations seeking tax-exempt status to particular scrutiny, and that's not all. Now it appears the agency also pinpointed groups concerned with teaching about the Constitution and organizations committed to making the U.S. "a better place to live." The admissions have sparked bipartisan outrage and left the IRS seemingly without a defender.

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Targeting groups because of their political ideologies is "outrageous," in the words of President Obama at a Monday press conference. But to target a group for being political, in whatever way, may be a smart IRS policy, and some experts believe the agency should do more of it, or at least clarify how it does these investigations.

That's because the types of groups the IRS was targeting also fall under the heading of so-called "social welfare" organizations, which can obtain tax-exempt, 501(c)(4) status. The IRS states that these organizations may participate in political activities, so long as they are "organized exclusively to promote social welfare." That creates a hazy zone of political activity: according to the Center for Responsive politics, 501(c)(4) organizations "may engage in political activities, as long as these activities do not become their primary purpose."

Deciding exactly which groups fall into that definition is a tricky business.

"It's a very blurry line, and it's very hard to determine," says George Yin, professor of law and taxation at the University of Virginia School of Law. "There's a balance, and political activity and advocacy would tend to remove you from eligibility in that category."

In that sense, an IRS official may see the words "tea party" on an application for tax-exempt status and be justified in investigating further, believing the Tea Party to have political associations, as its words and deeds would suggest. Examining groups that appear blatantly political is good policy, Yin says.

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"The notion that the IRS would try to determine whether an organization is likely to be political without taking into account kind of the intrinsically political nature of the application is kind of like tying your hands behind your back," Yin says. "It's like trying to figure out whether a pile of apples, which ones are bad apples and which ones are good apples, without being able to visually inspect them or taste them or test them in other ways."

The problem is that the IRS admits that it targeted groups with "tea party" in their names but does not appear at this point to have done likewise for groups with typically liberal watchwords like "progressive" in their names.

The IRS is already in the middle of a firestorm, and it can expect its 501(c)(4) workload to grow. As Reuters reported this week, the number of applications to obtain 501(c)(4) status ballooned from 1,500 in 2010 to 3,400 in 2012, a likely outcome of the Supreme Court's 2010 Citizens United ruling, which made 501(c)(4)s popular destinations for money from donors hoping to stay anonymous.

Crossroads GPS, a group founded by Karl Rove that was one of the top spenders in the 2012 election cycle, is an example of a high-profile 501(c)(4). Groups advocating for positions that are held by one party or a specific candidate in a race have exploded since the Citizens United ruling.

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"The IRS' Exempt Organizations Division appears to have been overwhelmed by the rapid increase in 501(c)(4) applications in the last election cycle, and some of its employees were either poorly trained or improperly directed," said J. Gerald Hebert, executive director of campaign finance advocacy group Campaign Legal Center, in a Monday statement.

So while the IRS contretemps has already spawned a political firestorm on both sides of the political aisle, one result could be a renewed call for clarity in U.S. tax law. Along with the Campaign Legal Center, transparency advocacy group the Sunlight Foundation on Monday voiced concern over the ambiguity in current tax law.