There is no official process for the NFL to work through with the IRS to drop its tax-exempt status, and the league's shortest route to achieving its objective of becoming a taxable entity is likely to amend its organizational documents in a way that violates requirements for tax exemption, observers told Tax Analysts.
"The easiest way for the NFL to surrender its tax-exempt status would probably be to simply amend its Constitution and Bylaws to delete the current requirement that the NFL 'is not organized nor to be operated for profit' (section 2.2) and replace it with a contrary statement (e.g., 'is organized for profit')," said University of Notre Dame professor Lloyd Mayer, who added that MLB likely took that step in 2007 to surrender its own status as a section 501(c)(6) organization. "MLB, like the NFL, was and is an unincorporated association, and press reports indicate that MLB simply became a for-profit in order to surrender its tax-exempt status," he said.
That path would offer the NFL several advantages, Mayer said. According to league bylaws, it could make the change as soon as three-quarters of team owners agreed, and it would avoid the need to engage in any new activities "or the awkwardness of claiming that some existing activities are actually inconsistent with IRC 501(c)(6) status," he said. According to letters sent by NFL Commissioner Roger Goodell to the House Ways and Means Committee and team owners April 28, the league's full ownership granted two committees authority to change the league's tax status, which they exercised last week.
The league will forgo its status as a tax-exempt organization effective for returns filed in its 2015 fiscal year, Goodell told team owners in one letter, which he appended to the letter sent to committee Chair Paul Ryan, R-Wis., and ranking minority member Sander M. Levin, D-Mich., informing them of the change. In the letter to owners and presidents, Goodell called the exemption a distraction and said a league study found that giving it up won't affect the function or operation of the league office or management council at all.
While the NFL plans to abandon its exemption, 1985 continuing professional education guidelines say neither the code nor regulations "make provision for voluntary relinquishment of exempt status by organizations that are not private foundations." Allowing an organization other than a private foundation to voluntarily give up its exemption would be an "abdication of the Service's responsibility to the public under section 6104(b)," the guidelines say. Only a proposed change or a change in operation, such as amending a charter to provide for the payment of dividends, can terminate exemption, the guidelines say.
"The 1985 CPE article remains an accurate description of the IRS view on 'relinquishment' of tax-exempt status," Marcus S. Owens, former director of the IRS Exempt Organizations Division, said in an e-mail.
In a 1991 private letter ruling (LTR 9141050), the IRS turned down a request from an organization to terminate its section 501(c)(3) status, saying that once an organization is recognized as exempt under that code section, it cannot voluntarily terminate its exemption.
"There are some rulings, a couple of them anyway, that I've seen in the last year or so that involved an organization forfeiting its tax exemption," said Bruce R. Hopkins of Polsinelli PC, adding that he doesn't know how the organizations did so and that the rulings don't say. "It's never come up in my practice," he said.
Potential Game Plan
Without an official process to follow, the NFL may be faced with having to violate exemption rules. Intentionally violating exemption requirements may not take much, said Ofer Lion of Seyfarth Shaw LLP.
"That's likely a move at the state level -- converting the NFL, an unincorporated association, into a partnership or a stock corporation with its 32 teams as the partners or shareholders," Lion said. "After doing that, it would be 'organized for profit,' tripping its exempt status."
Tax-exempt organizations that are nonprofit, non-stock corporations under state laws can amend their articles of incorporation to include provisions that don't meet code requirements for exemption, like those barring the provision of particular services to members or one expanding membership beyond a particular line of business, said Owens, now with Loeb & Loeb LLP.
"The next step would be to notify the EO Division in Cincinnati of the change and request modification of the entity's status to that of a taxable organization," Owens said. "Of course, care should be taken to avoid changes that could have a tax impact on members, such as an immediate distribution of assets, or [that could] implicate other federal or state laws. Some states may have requirements for notice/approval by state officials."
There may be another option for the NFL. Under the Pension Protection Act of 2006, organizations failing to file returns for three consecutive years have their exemptions automatically revoked.
But that move "would probably cause an even bigger 'distraction' than its exemption has been as of late," Lion said.
Goodell's statement that the league office will file returns as a taxable entity starting with the NFL's 2015 fiscal year makes that unlikely, Hopkins said. "I think they're going to come up with something, whether it's a restructuring or amending documents, that will get them out from under the exemption right away," he said. "If I was advising them, I probably would go the route of putting something in about expressly authorizing particular services to members and then taking the position that that's a violation of the organizational test, and then take the position that they don't qualify."
The Advantages of Dropping Exemption
The league's announcement that it plans to drop its exemption isn't surprising, said John Colombo, a professor at the University of Illinois College of Law. The exemption doesn't give the NFL much of a benefit, it resulted in negative publicity, and if the league doesn't have to a file a Form 990, "Return of Organization Exempt From Income Tax," it won't have to disclose sensitive information like Goodell's salary, Colombo said.
Not having to reveal executive compensation would be one significant change the NFL would experience as a result of its move, Owens said. "Another would be that the NFL would be free to pursue revenue generating activities, such as the provision of particular services to members, that otherwise would have been restricted or prohibited for a (c)(6) organization," he said.
Even if the NFL will have to file a Form 1120, "U.S. Corporation Income Tax Return," that doesn't necessarily mean it will face a large tax bill, Owens said. That's because the NFL "may well be able to avail itself of deductions that may not be apparent from the face of a Form 990," he said.
On its Form 990 for the tax year ended March 31, 2013, the most recent return available, the NFL reported total revenues of about $327 million but a negative number of more than $304 million for net assets. The return also listed Goodell's reportable compensation as about $44 million.
Another advantage of shedding exempt status is freedom from the prohibition on private inurement, which the league was subject to as a 501(c)(6) organization. "The punishment for engaging in private inurement is loss of exemption, which is the very thing the NFL seeks," said Ellis McGehee Carter of the Carter Law Group. "Since the NFL is not subject to excess benefit transactions, insiders should not be penalized if they convert and appropriate the NFL's assets," she said.
Congress was already pressuring the league to drop its exempt status, with the House Oversight and Government Reform Committee on March 25 sending a letter to Goodell seeking information on the league's operations as an EO. Oversight Chair Jason Chaffetz, R-Utah, in February said he was considering asking Goodell to appear before his committee to explain why the league deserved its exemption.
Other professional sports organizations, including the NHL and PGA Tour, are tax exempt. Hopkins said the NFL's move "takes away some of the pressure," but he added that "assuming there's a tax bill they can pass," Congress will eventually take away exempt status from other professional sports groups.
"I think there's still enough there for the Congress to want to repeal the provision," he said. "It's a whole lot better to go out on your own terms than to have it imposed."