The Tax the Rove Donors Refuse to Pay -- But Democrats Do.

As The New York Times reported last month, many of the big political money committees on the Republican side take the form of 501(c)4 nonprofits.  (c)4’s are tax-exempt but contributions to them are not, and they are allowed to engage in lobbying and some political activity, as long as electoral politics is not their “primary activity.” On the left, most c(4)s are the lobbying arms of organizations like the Sierra Club.

The Times seemed to conclude that organizations like Karl Rove’s American Crossroads, the top spender in this year’s Senate races, had crossed the line beyond which they should be required to register as a political committee under Section 527 of the tax code. If so, they would no longer be able to keep the names of their donors secret.   But, the Times concluded, the IRS wasn’t going to expend resources on reclassifying Rove’s c(4) as a 527 since it wouldn’t result in additional revenues.

But the Times overlooked another tax angle: Donations to a 501(c)4, I had been taught (as a member of the board of a couple of nonprofits), are subject to the gift tax. Donors who gave more than $13,000 to Rove’s American Crossroads would pay an additional tax of 35 percent. There are complicated exceptions and exclusions from the gift tax, including a lifetime credit that in effect means that most people can give away a million dollars -- to family and friends as well as organizations -- without tax. But the gazillionaire Rove donors, such as the Koch brothers, have presumably already used up their lifetime credit, unless they are total misers in all matters other than manipulating the political system.

Rove and American Crossroads say they are not advising their donors to pay the gift tax. No surprise there; since many of their donors are the people who claim they would stop working if their taxes increased by 3 percent, it’s hard to imagine that they would pay a 35 percent tax for the privilege of making a political contribution.

To be fair, there is some question about whether the gift tax should apply to c(4) contributions. Paul Caron, who writes the taxprof blog and teaches at the University of Cincinnati, says that it shouldn’t. Ofer Lion, a Los Angeles lawyer currently teaching nonprofilt law at UCLA, says that the IRS clearly thinks it does and “may well find irresistible” the revenue to be gained by enforcing the rule.

The Alliance for Justice, a progressive group that among other things provides legal advice to nonprofits that want to take full advantage of their legal rights to political activity, publishes a guide that clearly affirms that c(4) contributions are subject to the gift tax but notes in a footnote that “not all tax advisors agree.”

It’s fair to say, I think, that Democrats and progressive groups have traditionally not used c(4) groups as a platform for very large contributions, because they believe the gift tax applies. Republicans and conservatives seem to have no such hesitation. An American Bar Association report in 2003 on the issue said that the gift tax "serves as a penalty for the cautious and no restraint at all for those who are ignorant or tolerant of the risk." It appears that here, as in so many cases, the distinction between the cautious and the risk-tolerant follows party lines.

-- Mark Schmitt

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