IRS Finalizes Rules for Program-Related Investments

The IRS just released final regulations that provide guidance to private foundations and foundation managers on program-related investments, also known as PRIs. This is good news for private foundations since many have been reluctant to take advantage of this tax planning tool, largely due to lack of guidance from the IRS.

Often underutilized because they are perceived by some as high risk — primarily because of the lack of guidance from the IRS as to what qualifies as a PRI — they offer attractive benefits to both private foundations and the causes that they support.

If an investment is classified as a PRI, the amount is considered part of the annual gift of the foundation. This is important in private foundations because these investments qualify as gifts to satisfy the annual 5% minimum gifting requirement of private foundations. Additionally, the loan is not considered part of the assets of the foundation for purposes of determining the minimum 5% distribution.

Benefits of PRIs to Private Foundations

PRIs offer private foundations the opportunity to make investments as loans in the hopes of getting a reasonable rate of return. PRIs can be an attractive alternative to a grant, because the money will circle back to the foundation, whereas grant money will never be seen by the foundation again. PRIs are an excellent means of leveraging philanthropic dollars.

Charitable Causes Benefit from PRIs

PRIs benefit the nonprofit sector because they offer access to funding — often at much lower rates — that might not be available through more traditional funding sources, like bank loans.

A Few Points About PRIs

They can’t be used for political campaigning or lobbying. PRIs must be made primarily to support a foundation’s tax-exempt purpose. Finally, they can’t be significantly motivated by the desire to make a profit.

What the New Rules on PRIs Mean for Foundations

The final regs adopt nine new examples that illustrate the types of charitable purposes that can be advanced by PRIs. Note that the examples are numbered sequentially after 10 examples that already exist.

1. PRIs may accomplish a variety of exempt purposes, such as advancing science by funding R&D of drugs to treat diseases primarily affecting the poor (Example 11), protecting the environment by funding a recycling operation (Examples 12 and 13) and promoting the arts by funding a space to house an art exhibition. (Example 17).
   
   
2. PRIs may provide relief to the poor and distressed by funding a failing business that employs a large number of disadvantage people (Example 14).
   
   
3. PRIs may fund activities in one or more foreign countries (Examples 15 and 16). These PRIs could, for instance, involve natural disaster relief or educational programs.
   
   
4. PRIs may earn a high potential rate of return (Example 12).
   
   
5. PRIs may take the form of an equity position in conjunction with making a loan (Example 13).
   
   
6. A private foundation’s provision of credit enhancements can qualify as a PRI (Examples 18 and 19).
   
   
7. PRI recipients can be individuals or entities that are not within a charitable class themselves, provided that the recipients are the instruments through which the private foundation accomplishes its exempt activities (Examples 11, 12, 13, 14 and 16).

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