The Magazine

Non-Profits Without Honor

Senator Grassley tackles the trillion-dollar tax-exempt sector.

Dec 10, 2007, Vol. 13, No. 13 • By JOHN J. DILULIO JR.
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Jesus, they preach, not only wants you to love the poor--Jesus wants you to get rich, or at least to live debt free! "They" are the Christian televangelists atop the multimillion-dollar media ministries being scrutinized by Senator Charles Grassley. The Iowa Republican has given them until December 6 to answer questions concerning their salaries, perks, and finances.

Senator Grassley is not just investigating nonprofit smoke where there's hellfire. In 2006, he held hearings exposing how some nonprofit hospital executives favor themselves with lavish travel and country club dues. "Not only," he scolded, "is there very little difference between for-profit and nonprofit hospitals when it comes to serving the community, but also .  .  . very little difference on executive compensation." In recent years, he has proposed myriad reforms to help ensure that nonprofit organizations put charitable good works before outsized perks.

The trouble with America's trillion-dollar (yes, trillion) tax-exempt sector, though, goes deeper than greedy executives or corrupt practices. The fundamental problem is that government routinely confers diverse public subsidies on nonprofit organizations that follow the law's letter while doing only incidental things to benefit their communities or the public at large.

Nonprofit organizations are exempt from taxes on property and investments; receive contributions of cash or property that are tax-deductible for the citizens or corporations making the contributions; receive government funds in the form of grants, loans, or vouchers to members; and are free to compete for certain government grants or contracts.

Take your favorite private college or university. It occupies land and buildings that generate zero local property tax revenue. Nonprofit-owned property costs local governments billions of dollars each year in foregone taxes. In my hometown of Philadelphia, the loss is about $90 million a year. In 2005, for a married couple earning $125,000 on their joint tax return, the net cost of a dollar donation to their alma mater was just 72 cents; for a more prosperous duo making $319,000 a year or more, it was just 65 cents. Many low-income or special-needs students' tuition payments originate as government grants or loans, and many faculty and staff receive government research grants--more in government money each year, in many cases, than the school receives in alumni contributions.

To qualify and stay qualified for these myriad public subsidies, the school need not give Uncle Sam its firstborn, nobody needs to work for free, and students are not restricted to studying nursing or other subjects that most citizens would consider socially useful. Instead, a nonprofit institution needs only to avoid enriching board members or other principals as such, and use any "excess revenues" to advance its publicly (and often nebulously) stated educational, charitable, or other public-spirited purposes.

Thus, a private college or university can pay its president $500,000 a year or more (scores of private colleges and universities do so, with ever more topping $1 million in total annual compensation). It can hoard a huge endowment and hire high-end talent to manage it (Harvard, with an endowment of $35 billion, just did). On its annual Internal Revenue Service 990 reporting form, it can list community service initiatives that also benefit student-members, need-sensitive but not need-blind admissions policies, and the like as proof that it is producing public benefits for people other than its own full-paying customers, salary-drawing denizens, and wined-and-dined donors--never mind if the do-good-for-others items don't sum to even a penny of each dollar that the institution expends annually.

The IRS recognizes over two dozen categories of organizations that can be exempt from federal income taxes, ranging from country clubs to labor unions, business associations to grant-making foundations. But religious organizations dominate the sector in numbers and finances. "Churches" is a term that the IRS uses officially and generically to encompass local houses of worship and congregations (churches, synagogues, mosques, and others), plus what the IRS terms "integrated auxiliaries" (for example, church members who do church-supported work but under a separate name).

Churches need not apply for IRS recognition or file the 990 form in order to enjoy tax-exempt status and receive tax-deductible donations. Why? The IRS tax guide for churches opens by noting that "Congress has enacted special tax laws applicable to churches, religious organizations and ministers in recognition of their unique status in American society and of their rights guaranteed by the First Amendment."

The power to tax, the federal courts have consistently and correctly reasoned, is the power to deter if not to destroy. Concerns about how tax exemptions might constitute "indirect establishment" have been dominated by concerns about how taxing religion might negate religious free-exercise rights. So the judges have kept both federal and state government regulations on "entry" into the "church market" to a bare minimum.

Some tax-exempt televangelists may be abusing their nonprofit privileges, but the faith-based nonprofit subsector as a whole is not. Indeed, a case can be made that urban churches provide an especially big civic bang for the tax-exempt buck.

To illustrate, let's go back to Philly where, as noted, nonprofit property lightens city coffers by about $90 million a year. As in every big city, giant secular nonprofits headquartered there loom large in that loss, but let's lay it all at the churches' doors. Similarly, deductible donations to nonprofit organizations cost the federal treasury billions of dollars that would otherwise be paid in income taxes. For Philly alone, a sure overestimate for the faith-based tax-deductibility drain on the federal treasury would be $100 million a year. This brings our purposely inflated faith-based financial loss tally for the City of Brotherly Love to $190 million a year. Call it an even $200 million.

Now, in Philadelphia as in other cities, faith-based organizations, almost all without government financial support or technical assistance, supply scores of social services to nonmembers. To name just a few: food pantries; summer day camps; recreational programs for children and teenagers; clothing closets; drug and alcohol prevention; neighborhood cleanup; blood drives; job counseling and placement; outreach to the homeless; computer training; health screening; crime watch; day care; prison ministry; after-school programs; anti-gang violence programs; and welfare-to-work programs.

The Other Philadelphia Story, a 2006 book by University of Pennsylvania researcher Ram Cnaan, counts only the social services supplied by local religious congregations. It confirms previous estimates that the congregations' annual "replacement value"--what it would cost, on average, to supply the services that the city's congregations supply each year--easily exceeds $140,000 per congregation, for a grand total of about $250 million a year. The primary beneficiaries are disadvantaged children and youth who are not members of the faith group that serves them.

That is already net $50 million a year over our intentionally inflated cost calculation. And this doesn't count social services supplied to nonmembers by faith-based organizations that are not religious congregations or associated with religious congregations. For instance, many independent Catholic schools in Philadelphia have student populations in which low-income non-Catholic students are the majority. The city's black churches have led in expanding the Big Brothers Big Sisters of America mentoring program for the children of prisoners. The city's Latino community-serving ministries are major civic seedbeds of volunteering and philanthropy. As Harvard's Robert D. Putnam and his colleagues concluded in a 2006 report released by the National Conference on Citizenship:

Affiliation with a religious organization is a strong predictor of secular civic habits (volunteering, giving to secular causes, voting, or giving blood) and an important incubator of social capital.

Amen. Yet it costs low-income, non-itemizing folks who put a dollar in the collection plate a whole dollar. One might insist that a high-income citizen giving to her well-endowed alma mater somehow yields greater benefits than a low-income citizen giving to her favorite community-serving church. But go ahead, try and prove it.

Or, one might simply retreat to the formal-legal position that tax-exempt status is not now by law contingent on producing actual, measurable benefits, but hinges only on asserting a broadly defined charitable purpose, and in seeing to it that no excess revenues benefit board members or other principals. True, but that does not make it right.

For instance, it doesn't sit right when a secular private university that does nothing much for its local community gets a government grant to document the efficacy of a local faith-based youth antiviolence program when the participating religious nonprofit groups themselves are discriminated against in the government grant-making process or have been summarily denied public funding to expand their civic good works.

The key nonprofit distinction is not religious or secular, large or small, national or local. It's who really serves disadvantaged members, nonmembers, or the public at large, how, and how much. It is time to consider revamping federal, state, and local laws governing nonprofit organizations so as to restrict full-fledged tax-exempt status to organizations that predictably and reliably produce significant nonmember benefits.

Ask not what nonprofit organizations do for their employees or members. Ask instead what they actually do for their local communities and for their country. Ask how much, all sanctimonious or self-serving rhetoric aside, they dedicate in money, manpower, building space, or other resources to producing these benefits. Some well-endowed private universities will come out looking great and deserving almost every break in the book; others will come out looking .  .  . well-endowed. Some grassroots ministries will prove to practice even better than they preach while others will scream Elmer Gantry, or worse. And so on.

Or simply ask what would happen if given nonprofit organizations disappeared tomorrow. Ask whether, in fact, organizations within the tax-exempt sector need all the subsidies and breaks they get in order to survive or thrive.

Tax-exempt for what and for whom?--those are the fundamental questions to begin asking in earnest, and they will rapidly take us well beyond concerns about the nonprofit sector's vulnerability to gross mismanagement, ethical lapses, dirty deeds, or felonious actions.

The next president, Democrat or Republican, should have a "philanthropy czar" in the West Wing whose only job is to report objectively on how the nation's massive nonprofit sector serves the public interest (or not), and to recommend legislative and other reforms to improve the sector's self-governance and call it to public account the way that government once called for-profit corporations to public account. I hereby nominate the steadfast Senator Grassley.

John J. DiIulio Jr., a contributing editor to THE WEEKLY STANDARD, is the author of Godly Republic: A Centrist Blueprint for America's Faith-Based Future.