Administrative Read Reference

Charitable Giving

Overview

Local libraries and public library districts in Illinois are tax-exempt political subdivisions that may receive and administer charitable donations for the present and future benefit of the community. Through the use of donors' gifts, endowments, and bequests, the libraries and public library districts are able to enhance the educational, cultural, and historical value of the area. In addition, the donors are benefited by a wide range of opportunities to express their philanthropy.

The history of America is replete with examples of philanthropy towards our public libraries. Indeed, virtually all public libraries found their genesis in local community groups, Women's Clubs, Reading Circles, and Parent-Teacher Organizations. "Charitable giving"; came in all sizes and types: book loans, lumber, nails, bricks and mortar (and the talent to use them), grass cutting, bake sales, and, yes, cash. Andrew Carnegie, at the turn of the 19th to 20th century, is best remembered for the direct infusion in hundreds of communities of money for library building programs, particularly in Illinois.

About the turn of the 20th to 21st century, Bill and Melinda Gates, through the Gates Foundation grants, contributed even more to public libraries (a point of fact that is of some consequence when hearing from folks who think the internet or modern computers, of which the Gates are pretty well informed, will somehow replace or supplant the need for public libraries anytime soon).

One fact is clear, charitable giving to libraries and public library districts has and does make it possible for libraries to serve the future generations.

What Libraries Should Know About Receiving Charitable Gifts

To encourage charitable giving in the private sector, Congress has, for more than 60 years, granted favorable tax treatment to charitable contributions by individuals. In addition, many organizations benefit greatly when a charitable gift is made. However, when a person or organization makes monetary or property donations for the benefit of an organization such as a local library or public library district, some of the most common questions such as these commonly arise. "How does a local library or public library district qualify to accept charitable gifts?" "Should the local library or public library district set up a foundation?" "Are there other alternative methods available?" "What are the tax benefits and/or consequences, both to the donor and the local library or public library district, of charitable gifts to the library?" The following paragraphs attempt to briefly answer these questions.

Charitable Foundation Status

There are two ways in which an Illinois public library may qualify to accept a charitable gift. The first method is to set up a tax-exempt foundation qualified under the Internal Revenue Code, §501(c)(3). First, the local library or public library district would have to establish a not-for-profit organization "organized and operated exclusively for . . . literary or educational purposes." Technically and legally, this corporation would be a separate entity from the library. The most common example in Illinois would be a not-for-profit Illinois corporation organized through the Secretary of State’s office. Articles of incorporation, bylaws, a board of directors, a registered agent, a registered office, and an annual report filing are all necessary elements for such an organization. This relatively inexpensive and easy not-for-profit incorporation does not by itself make the entity either tax-exempt itself or contributions to it tax-deductible.

The second step, since the IRS defines a charitable contribution as a "contribution or gift to or for the use of" certain types of organizations, the corporation would have to apply to the IRS for "charitable foundation status," commonly called 501(c)(3) status. Once established, the foundation may receive charitable contributions, much like the well-known 501(c)(3) foundations (e.g., the American Cancer Society, the United Way).

The basic method of forming a foundation is not only a lengthy process, in terms of forms and approval from the IRS, but expensive in terms of application and renewal fees, annual tax returns, and accountant or attorneys' fees, and a highly technical process with many traps for the unwary. In addition, although a donor's charitable contributions are usually deductible for tax purposes, a transfer of money or other property to a charitable organization is not always an allowable charitable contribution for tax purposes. A charitable gift is deductible only if it is made to or for the use of a charitable organization qualified to receive such a gift. The precise question of deductibility should and must be left to the donor and his or her attorney or accountant, since it varies somewhat, based on the donor's particular status.

Until 2014, when the IRS significantly modified this process by creating a simpler alternative for smaller not-for-profit charities, this option of forming a foundation was usually not the best approach. The burdens, not just of initially establishing the state and federal aspects of a 501(c)(3), but also the annual filing requirements, always lead to “overhead” costs that are deducted from the donations themselves. In fact, many such 501(c)(3)s (numbering over 500,000 nationwide) have been shut down by the IRS over the past decade for failure to follow the applicable rules of operation and reporting.

But, in 2014, the IRS did simplify the application process (and lowered the filing fees somewhat) for its part of the process (i.e., the tax-exempt application for smaller not-for-profits). The application Form 1023 (26 pages, plus required attachments) was reduced to Form 1023 EZ (3 pages, which can be filed online only), so long as the corporation’s gross receipts are under $50,000 and it has assets under $250,000. This change is designed to reduce the 9 month application backlog and lower the filing “user” fee to $400.00. For many of the library programs, this small not-for-profit class may likely apply and will significantly reduce the initial burden. However, it does not alter the required local (i.e. state) steps or the annual requirements of both state and federal law reporting. These costs remain significant and should not be underestimated. Thus, the operation as a 170(c)(1) may still be the better way.

Usually the Better Way

The second method - and, we believe, usually the better way - by which the local library or public library district may qualify to receive charitable gifts is inherent in its nature as a part of a municipality (local library) or a sovereign political subdivision (public library district). Both types of libraries fall within the term "political subdivision" as used by the IRS. The Internal Revenue Code §170(c)(1) states any political subdivision may receive charitable contributions, "but only if the gift is made for exclusively public purposes."

Under Illinois library law, any person or group of persons may make donations of money or property for the benefit of any local library or public library district. [75 ILCS 5/1-6 and 75 ILCS l6/30-75] Title to the donation vests in the library board of trustees, upon acceptance according to the terms of the donor's deed, gift, devise, or bequest. The library's board of trustees automatically becomes a special trustee of the donated property under the library statutes without having to form a separate corporation or apply for the §501(c)(3) status of a foundation. Because of §170(c)(1) of the IRC, political subdivisions do not have to file for qualification as a §501(c)(3) organization initially, nor report annually to the IRS with information tax returns. This preferred status has the effect of saving great sums of money, both initially and annually ever after, thus benefiting the charitable goals rather than the lawyers and accountants.

The benefits of §170(c)(1) and being part of a municipality or political subdivision (rather than forming a foundation) are:

  1. The libraries save money. 
    1. The municipality / political subdivision has already been "incorporated" when it was formed or organized under Illinois law, thus, there is no need to form a separate not-for-profit organization or to incur the initial or annual costs for doing so.
    2. There are no additional state forms to be completed initially or annually and no annual reporting besides the annual state library report.
    3. There are no additional filing fees or attorneys' fees.
    4. The §501(c)(3) application to the IRS and subse¬quent determinations are not needed since §170(c)(1) applies.
    5. There is no waiting for approval from the IRS, no filing fees incurred, no annual state or federal tax returns, and no separate audits.
  2. The donor will receive a tax deduction if the donor's status is otherwise qualified.
  3. The restrictions placed on the donation under §501(c)(3) are the same under §170(c)(1).
    1. The donor can direct how the charitable donation is to be used. For example, the donor might instruct the board of trustees to use the charitable donation to purchase computers (the library, however, does not have to accept such terms).
    2. If the gift is accepted, the library board of trustees is bound legally to honor the donor's request.
    3. Like the foundation, a charitable donation given to a §170(c)(1) municipality or political subdivision may be a long-term investment.

The extent to which individuals may deduct charitable contributions for income tax purposes is limited by federal law. Limitations are imposed both on the amount of the contribution that may be deducted and on the extent to which the contribution deduction may reduce a donor's taxable income.

The income tax results of such gifts differ widely among individual donors. The tax benefits derived from charitable giving depend ultimately on the nature of the property given, the types of organizations to which donations are made, the current and future income level of the donor, and the donor's marital status. A word of caution: Neither the libraries nor the library board of trustees can give accurate advice regarding the taxability of a donor's contributions. Donors should seek the tax advice of counsel or their accountant to ensure they are in compliance with their tax returns and deductions.

The humanitarian and moral aspects of private philanthropy have always been its primary motivating force. The tax benefits resulting from charitable giving, however, have assumed increasing importance as our tax system has grown in complexity and scope. Donors who make charitable contributions to governmental units under §l70(c)(1) must be aware that they can receive a favorable tax deduction. They are not treated more favorably by contributing to a §501(c)(3) foundation. Moreover, the initial costs and the annual fees incurred by a foundation are much higher than any incurred by a unit of government such as a library, so that more of the principal should be available for actual use or the "end purpose" of the donation and less for "administration" and accountants’ or attorneys’ fees. Even the very best managed and operated charitable foundations lose over 5% of their donations to various "overhead" reporting expenses, both state and federal. The poorly managed, almost scandalously operated "charitable" foundations lose 50% of donations to such "middlemen" overhead costs and salaries.

Of course, the size of expected donations may influence the decision regarding the creation of a corporation/foundation. If the initial set-up costs are $1,000 and the annual costs $200 to $300, then donations in the range of $5,000 to $15,000 may not justify the costs involved (i.e., the costs match the income from such principal or even may require use of some of that principal). On the other hand, donations in six figures, particularly if more likely to be made to a foundation rather than a governmental unit, can well justify those costs, which is why so many Illinois school districts, not likely to receive any direct donations from the public, tend to form foundations and pay those costs, as they have little alternative. But even here, consideration should be given to much cheaper options (see discussion below of the ILA's Fund for Illinois Libraries, formerly operated by ILSDO).

The three most common concerns expressed are that 1) potential donors do not wish to give to a tax-supported governmental unit; 2) the bylaws of many private corporation’s foundations (which presumably have already been approved by the IRS and are not otherwise in need of amendment) require 501(c)3 status of their donors, thus keeping governmental units from benefiting there from; and 3) creating a foundation will focus library/community energies on private fundraising and thereby supplement library revenues. The third point does not in fact hold true. The success of energetic fundraising does not rely on the use of foundations. In other words, there are many examples of successful and energetic fundraising done by governmental units (and their “friends”), particularly public libraries, without the use of foundations, and there are many examples of ineffective and unsuccessful fundraising in which foundations have been established (and where eventually the annual costs and requirements lead to dissolution, either voluntarily or by state and federal action, or even where the failure to file information returns penalties are much larger than any and all donations received).

There are two thoughts to keep in mind: 1) never use paid, professional fundraising, and 2) your success will depend on locating, recruiting, retaining, and utilizing the type of committed and talented, local people who themselves are donors and will encourage others to donate (whether a foundation is used or not).

As for the other two concerns, if there are foundations likely to donate or grant to the library with such restrictive bylaw provisions and the size of the donations and/or their frequency, will justify the set-up costs and annual costs of a foundation, then it is entirely appropriate to do so. However, the Illinois Library Association’s (ILA) Fund for Illinois Libraries program may be far more preferable (and much cheaper both in the short-term and in the long-term) than forming and operating a 501(c)(3). It is unlikely, but it may be worth the attempt to raise with the foundation the possibility of amending its bylaws to broaden the restriction to include local governmental units or, specifically, public libraries, but the costs of doing so from the foundation’s perspective may be prohibitive. Such a foundation would have the same or similar requirements as a library foundation and it points to the high standard of business activity which the IRS, and to a lesser extent the State of Illinois, requires of 501(c)3 organizations.

As for the hesitancy of a donor to give to a taxing body, it may be a persistent view, but often after the history of charitable support for public libraries is explained the donor will reconsider. In addition, many prospective donors, particularly the more sophisticated, will appreciate the savings of those set-up costs and annual costs of a foundation so that 100% of the principal and income from donations can be used for the library or the intended purpose of the donation.

Due to the necessarily strict state and federal rules for operations of tax-exempt corporations, the attendant high costs of proper operation (as well as the frequent failure of such foundations to meet all compliance without suffering penalties and interest charges), and the occasional need for libraries to have a 501(c)3 alternative for some types of donors, in 1999 the Illinois Library System Directors Organization (ILSDO), then a properly operating 501(c)(3) itself, formed to promote the development of Illinois libraries and initiated a free program for Illinois libraries to use. The Fund for Illinois Libraries was created as a temporary receptacle for donations by donors whose rules or bylaws only permit giving to 501(c)(3)’s. Upon deposit of such payments with the Fund, for the credit of a specific Illinois library, ILSDO immediately sent a comparable payment to the library. It did not serve as an investment advisor or agent, nor was the money invested by the Fund. It was sent directly to the library. But ILSDO, as it had done as a 501(c)(3) all along, filed the required annual state and federal reports and tax returns, thus saving the libraries the responsibility and costs of doing so.

With the demise of ILSDO in 2011, the Fund for Illinois Libraries was reestablished as a program of the Illinois Library Association, also a properly established and operating 501(c)(3) for the promotion, support, and general benefit of Illinois public libraries and specifically its members. Due to the number of participating libraries and donations, the program is no longer free. Modest fees are now charged for processing such donations.

Details on fees and the program itself can be obtained directly from ILA's Fund for Illinois Libraries program. Assuming libraries arrange for only those donations truly requiring 501(c)(3) reception to be sent to the Fund for Illinois Libraries (and not donations from individuals and corporations that may properly go directly to the library as a 170(c)(1)), these fees will be far cheaper than organizing and properly operating a 501(c)(3) themselves.