Nonprofits & NGOs

Sequestering the Sector

With the threat of a sequester looming, the charitable sector risks being boxed in.

Sequestration used to be about protection: Valuable property was sequestered by a court to protect it during a dispute; some nuns, monks, and other religious figures still live sequestered lives, as will the former Pope Benedict XVI. In a radical semantic shift, sequestered in the US now means decimated by bizarre budgeting.

That shift may be coming to the charitable sector. Once sequestered as in sheltered, it now faces the potential of being sequestered as in squashed.

We’ve had an unwritten but broadly accepted social compact about the charitable sector in the US for a long time now. The deal, so to speak, is that private initiative—not just the public sector—can create public benefit, and we’re willing to give up some tax revenue and some transparency to enable that. We define public benefit very broadly, both for donors and for recipient organizations. With the exception of political donations, we don’t accord one kind of charitable activity higher status than another. We don’t restrict who can direct charitable donations, although we do regulate whether and how the donors can personally benefit. There’s no need to demonstrate that a charitable activity is filling an unmet need, or is successful, for it to be permitted. Anyone with legitimate access to resources can donate them as they see fit; anyone who can get funding can start any type of charity.

We’ve treated the charitable sector much like the business sector, in other words. If you want to invest in a farm-to-table restaurant in San Francisco, go right ahead. No one will tell you there are too many already. If you believe macramé is making a comeback, best of luck to you. The same holds for charitable activity: You can start New York’s 46th adult literacy program or fund research on the effect of gamma-rays on man-in-the-moon marigolds.

We do this, presumably, for two reasons. First, as a nation we cherish the idea that individual initiative, commitment, and creativity can create innovation and progress for society. Second, if we decided to regulate what types of charitable endeavors are most important or effective, the process would become politicized in less time than it takes to read this sentence. Thus, we accept some ineffectiveness and inefficiency in exchange for a form of individual expression and for the potential of astounding success.

That compact has protected nonprofits and donors for a very long time. Even highly publicized examples of fraud or incompetence have been viewed largely as exceptions. But in the past year, the policy environment has been shifting. Between now and the next Congressional election, the nonprofit social compact may be revised significantly.

For the first time in many years, drastic change to the charitable deduction is on the table as part of many budget proposals. Independent Sector and many other nonprofit groups are making a strong case for broad social harm that could result from limiting the charitable deduction. But in an era of rising income inequality, wage stagnation, and persistent unemployment, they face an emerging and very new sensibility that the charitable deduction mostly benefits the rich. Discomfort with (often anonymous) support by the wealthy for political advocacy following the Citizens United case adds to the pressure on the charitable deduction: Most people—and virtually all reporters—refer to this funding as “donations,” and so it’s not always clear to a non-specialist whether they’re charitable or not.

Meanwhile, desperate state, local, and municipal governments are looking harder and harder at the potential revenue from tax-exempt charitable entities, especially the ones that have large land holdings. Universities in particular have been pressured into providing much more support in lieu of taxes. Nonprofit hospitals are particularly vulnerable—not just to make payments, but also to demonstrate why they’re tax-exempt. While it’s not getting the attention that the charitable deduction receives, the argument that a tax-exempt entity is unfairly benefiting from public services can easily be applied to any organization.

Combined, these potential tax-code shifts would rapidly erode the compact that enables most nonprofits to exist: Donors would have less incentive, depressing nonprofit income, while taxes would add a whole new level of cost to strained nonprofit budgets. We need to start thinking about telling the whole story of how the charitable sector functions—how it’s funded, how it uses money, how it delivers services, and why this can’t be done better by the public sector or the for-profit sector.

We’re fooling ourselves by thinking that “everyone” understands how the charitable sector works. It’s simply not true. I’ve been asked who owns a nonprofit or how it manages to operate when it can’t have any savings in the bank. I’ve heard people confuse donating online to a charity with crowdfunding a business. Asked to name a (grantmaking) foundation, the most common answer by Americans was the Red Cross. 

We’ve sequestered ourselves too long by thinking that general goodwill toward nonprofits protects our social compact. It’s time to come out from behind the walls and engage.

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  • BY Dr Jagveer Rawat

    ON February 28, 2013 04:38 PM

    Nice article. In countries like there are many regulations as there is also wideranging corruption. Globally, there needs to be something as ‘auto-regulatory mechanism’, as could be evolved?

  • BY Sue Bochner

    ON February 28, 2013 11:37 PM

    I completely agree with this article.  There are similar issues in Canada.  The charitable sector has to galvanize and tell its story to the public.  You are right:  there are so many misconceptions as to what charities are doing, ought to be doing; and are frenquently maligned by what a few bad apples have done.

    The sector needs a good public relations plan.

  • Stacy Caldwell's avatar

    BY Stacy Caldwell

    ON March 1, 2013 01:23 PM

    Here Here!

  • BY Michael L Wyland

    ON March 11, 2013 08:50 AM

    There were hearings before the US House Ways and Means Committee in the past two weeks or so about the effects of tax reform on the nonprofit sector.  Much time was spent discussing the charitabel deduction.  Those testifying in support of its current form stressed that the charitable deduction benefits *not* the wealthy, but those in need who are served as a result of deductible gifts received by charities.

    There is no interest in eliminating the charitable deduction, but there is interest in limiting it.  Some proposals seek to limit the dollar amount or percentage of a taxpayer’s adjusted gross income that may be affected by gharitable gifts.  Some seek to institute a “floor” below wehich gifts may not be deducted, so that only “significant” gifts may be deducted. 

    There are even proposals to expand the charitable deduction to allow the approximately 70% of filers who do not currently itemize deductions to deduct their charitable gifts.  [These proposals do not recognize that the change in the standard deduction made in 1986 - and indexed for inflation - include a calculated allowance for charitable gifts by non-itemizers.]

    It’s amazing how few people understand how charity works, just as remarkably few people understand how government or business work in practice.  We make erroneous assumptions based on little knowledge and form (usually negative) opinions on those poor assumptions and lack of knowledge.

  • Well-written and well said. For the sake of discussion, I will point out that perhaps the public and policymakers actually understand the nonprofit sector more than you think. Perhaps they see enormous universities and hospitals and wonder, “why do they have the same tax status as the homeless shelter down the street?”. I know many people within the nonprofit sector, who wonder the same thing. I also know many people who do not view the 28% cap on charitable deductions as a “drastic” change, and would happily accept it in exchange for getting rid of the idiotic and onerous sequester cuts that will do far more damage to nonprofits (and the general public) than a 28% cap. And perhaps it is time for nonprofits of a certain size or mission to grow up and pay taxes like every other incorporated entity.
    A discussion does need to happen that highlights the issue of government spending and nonprofit work. Roughly a third of nonprofit budgets comes from government spending. Obviously we believe, as a society, that paying independent nonprofits to provide services is better than the government providing those services directly. But that system has also obscured where nonprofit funding really comes from; I believe the general public does not understand the finance model for many nonprofit programs (particularly in human services)- the federal government gives money to the states, and then the state contracts with nonprofits to perform services. Educating the public regarding this reality, and arguing for a far more positive view of government spending, is more important than educating them about the theoretical underpinnings of the nonprofit tax structure.

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