[House Hearing, 113 Congress]
[From the U.S. Government Publishing Office]




                INTERNAL REVENUE SERVICE'S COLLEGES AND
                    UNIVERSITIES COMPLIANCE PROJECT

=======================================================================

                                HEARING

                               before the

                       SUBCOMMITTEE ON OVERSIGHT

                                 of the

                      COMMITTEE ON WAYS AND MEANS
                     U.S. HOUSE OF REPRESENTATIVES

                    ONE HUNDRED THIRTEENTH CONGRESS

                             FIRST SESSION

                               __________

                              MAY 8, 2013

                               __________

                           Serial No. 113-OS4

                               __________

         Printed for the use of the Committee on Ways and Means


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]



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                      COMMITTEE ON WAYS AND MEANS

                     DAVE CAMP, Michigan, Chairman

SAM JOHNSON, Texas                   SANDER M. LEVIN, Michigan
KEVIN BRADY, Texas                   CHARLES B. RANGEL, New York
PAUL RYAN, Wisconsin                 JIM MCDERMOTT, Washington
DEVIN NUNES, California              JOHN LEWIS, Georgia
PATRICK J. TIBERI, Ohio              RICHARD E. NEAL, Massachusetts
DAVID G. REICHERT, Washington        XAVIER BECERRA, California
CHARLES W. BOUSTANY, Jr., Louisiana  LLOYD DOGGETT, Texas
PETER J. ROSKAM, Illinois            MIKE THOMPSON, California
JIM GERLACH, Pennsylvania            JOHN B. LARSON, Connecticut
TOM PRICE, Georgia                   EARL BLUMENAUER, Oregon
VERN BUCHANAN, Florida               RON KIND, Wisconsin
ADRIAN SMITH, Nebraska               BILL PASCRELL, Jr., New Jersey
AARON SCHOCK, Illinois               JOSEPH CROWLEY, New York
LYNN JENKINS, Kansas                 ALLYSON SCHWARTZ, Pennsylvania
ERIK PAULSEN, Minnesota              DANNY DAVIS, Illinois
KENNY MARCHANT, Texas                LINDA SANCHEZ, California
DIANE BLACK, Tennessee
TOM REED, New York
TODD YOUNG, Indiana
MIKE KELLY, Pennsylvania
TIM GRIFFIN, Arkansas
JIM RENACCI, Ohio

        Jennifer M. Safavian, Staff Director and General Counsel

                  Janice Mays, Minority Chief Counsel

                                 ______

                       SUBCOMMITTEE ON OVERSIGHT

             CHARLES W. BOUSTANY, Jr., Louisiana, Chairman

DIANE BLACK, Tennessee               JOHN LEWIS, Georgia
LYNN JENKINS, Kansas                 JOSEPH CROWLEY, New York
KENNY MARCHANT, Texas                DANNY DAVIS, Illinois
TOM REED, New York                   LINDA SANCHEZ, California
ERIK PAULSEN, Minnesota
MIKE KELLY, Pennsylvania
















                            C O N T E N T S

                               __________

                                                                   Page

Advisory of May 8, 2013 announcing the hearing...................     2

                                WITNESS

Ms. Lois Lerner, Director, Exempt Organizations Division, 
  Internal Revenue Service, Testimony............................    42

                       SUBMISSION FOR THE RECORD

The Colleges and Universities Compliance Project Final Report....     6

                   MATERIAL SUBMITTED FOR THE RECORD

Questions For The Record:

Rep. Kenny Marchant..............................................    62
 
INTERNAL REVENUE SERVICE'S COLLEGES AND UNIVERSITIES COMPLIANCE PROJECT

                              ----------                              


                         WEDNESDAY, MAY 8, 2013

             U.S. House of Representatives,
                       Committee on Ways and Means,
                                 Subcommittee on Oversight,
                                                    Washington, DC.

    The Subcommittee met, pursuant to call, at 2:00 p.m., in 
room 1100, Longworth House Office Building, the Honorable 
Charles Boustany [Chairman of the Subcommittee] presiding.
    [The advisory of the hearing follows:]

HEARING ADVISORY

 Boustany Announces Hearing on the Internal Revenue Service's Colleges 
                  and Universities Compliance Project

1100 Longworth House Office Building at 2:00 PM
Washington, May 1, 2013

    Congressman Charles W. Boustany, Jr., M.D., (R-LA), Chairman of the 
Subcommittee on Oversight of the Committee on Ways and Means, today 
announced that the Subcommittee will hold a hearing on the Internal 
Revenue Service's (``IRS'') Colleges and Universities Compliance 
Project Final Report. The hearing will take place on Wednesday, May 8, 
2013, in Room 1100 of the Longworth House Office Building, beginning at 
2:00 P.M.
      
    In view of the limited time available to hear witnesses, oral 
testimony at this hearing will be from invited witnesses only. However, 
any individual or organization not scheduled for an oral appearance may 
submit a written statement for consideration by the Subcommittee and 
for inclusion in the printed record of the hearing. A list of invited 
witnesses will follow.
      

BACKGROUND:

      
    On April 25, 2013, the IRS released the final report of its 
Colleges and Universities Compliance Project. Based on responses to a 
questionnaire distributed to over 400 tax-exempt colleges and 
universities, the IRS audited a sample of 34 colleges and universities 
identified as at risk for noncompliance. The report focused on 
compliance rates among colleges and universities in the following 
areas: (1) unrelated business income tax (``UBIT''), (2) executive 
compensation, and (3) employment tax issues.
      
    During its 4-year investigation, the IRS found significant 
noncompliance and underreporting of UBIT by over 90 percent of the 
audited schools, with income adjustments of about $90 million, and loss 
disallowances of over $170 million. The primary increases to UBIT were: 
disallowed expenses that were not connected to unrelated business 
activities, errors in computation or substantiation of losses, and the 
misclassification of unrelated activities as exempt. With the colleges 
and universities compliance project completed, the Subcommittee will 
review these audit findings, with an eye toward reform. In its review 
of executive compensation and employment tax issues, the IRS found 
colleges and universities setting compensation in the upper bounds of 
what is permissible, and all of its employment tax examinations 
resulted in adjustments.
      
    In announcing the hearing, Chairman Boustany said, ``Given the 
importance of nonprofit colleges and universities, it is critical that 
the Subcommittee continue its review of this segment of the tax-exempt 
sector. The IRS's colleges and universities compliance project suggests 
widespread noncompliance. The Subcommittee has an obligation to explore 
the root of these alarming findings on the audit of our Nation's higher 
education providers. This hearing is an excellent opportunity to 
discuss the results of the compliance project and examine areas for 
improvement in oversight, with an eye toward comprehensive tax 
reform.''
      

FOCUS OF THE HEARING:

      
    The hearing will focus on the findings of the IRS's Colleges and 
Universities Compliance Project final report and will examine the 
causes for the widespread noncompliance found through the audit among 
tax-exempt colleges and universities.
      

DETAILS FOR SUBMISSION OF WRITTEN COMMENTS:

      
    Please Note: Any person(s) and/or organization(s) wishing to submit 
written comments for the hearing record must follow the appropriate 
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waysandmeans.house.gov, select ``Hearings.'' Select the hearing for 
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here to provide a submission for the record.'' Once you have followed 
the online instructions, submit all requested information. ATTACH your 
submission as a Word document, in compliance with the formatting 
requirements listed below, by the close of business on Wednesday, May 
22, 2013. Finally, please note that due to the change in House mail 
policy, the U.S. Capitol Police will refuse sealed-package deliveries 
to all House Office Buildings. For questions, or if you encounter 
technical problems, please call (202) 225-3625 or (202) 225-5522.
      

FORMATTING REQUIREMENTS:

      
    The Committee relies on electronic submissions for printing the 
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guidelines will not be printed, but will be maintained in the Committee 
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    1. All submissions and supplementary materials must be provided in 
Word format and MUST NOT exceed a total of 10 pages, including 
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relies on electronic submissions for printing the official hearing 
record.
      
    2. Copies of whole documents submitted as exhibit material will not 
be accepted for printing. Instead, exhibit material should be 
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    3. All submissions must include a list of all clients, persons and/
or organizations on whose behalf the witness appears. A supplemental 
sheet must accompany each submission listing the name, company, 
address, telephone, and fax numbers of each witness.
      
    The Committee seeks to make its facilities accessible to persons 
with disabilities. If you are in need of special accommodations, please 
call 202-225-1721 or 202-226-3411 TTD/TTY in advance of the event (four 
business days notice is requested). Questions with regard to special 
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materials in alternative formats) may be directed to the Committee as 
noted above.
      
    Note: All Committee advisories and news releases are available on 
the World Wide Web athttp://www.waysandmeans.house.gov/.

                                 

    Chairman BOUSTANY. This Subcommittee will come to order. 
Welcome to this hearing on the IRS' final report on its 
Colleges and Universities Compliance Project. Over the last 2 
decades, tax-exempt organizations have grown increasingly 
complex in their organizational structures and operations. This 
has made it more difficult for the IRS to conduct oversight of 
the sector. Lending to this complexity is the prevalence of 
profit-generating arms and investment activities within the 
tax-exempt organizations that may be subject to unrelated 
business income tax, or UBIT.
    Colleges and universities have been at the forefront of 
this trend toward greater complexity and the expansion of for-
profit activities. These institutions have evolved to meet 
changing needs of students, but also have engaged in activities 
that are not ordinarily associated with higher education's tax-
exempt function. Indeed, colleges and universities are a huge 
part of the tax-exempt sector. They generate a disproportionate 
level of tax-exempt revenue and hold a disproportionate 
quantity of tax-exempt assets.
    In number, colleges and universities represent just 0.5 
percent of the tax-exempt sector but generate more than 11 
percent of the revenue of charitable organizations, nearly $160 
billion in annual revenue, and they hold over $150 billion in 
assets, which is more than 21 percent of the entire charitable 
sector's assets.
    Given the significance of colleges and universities to the 
tax-exempt sector and the compliance difficulties that can be 
associated with such a large concentration of assets and 
revenue, the IRS launched the Colleges and Universities 
Compliance Project to review compliance in this area. The 
project began in 2008 with the IRS sending questionnaires to 
400 randomly selected colleges and universities. The IRS then 
selected 34 of the 400 institutions for further examination 
based on questionnaire responses and Form 990 reporting, which 
suggested possible noncompliance.
    The IRS' examinations focused on under-reporting of UBIT, 
executive compensation, and employment taxes. The final report 
was issued on April 25th of this year. The IRS found almost 
universal noncompliance by some of the most sophisticated 
organizations in the tax-exempt sector. Noncompliance included 
widespread calculation errors and misreporting, 90 percent of 
the 34 institutions had their UBIT calculations adjusted upward 
for a total increase of around $90 million. The adjustments 
came from misreporting income from activities likes facility 
rentals, fitness centers, fitness center operation, golf 
courses as well as the improper classification of loss-
generating activities as trade or businesses to offset for-
profit income.
    While the UBIT rules like many tax rules may involve 
uncertainties, these findings may suggest deeper problems with 
the classification of for-profit activities by colleges and 
universities. Additionally, the report found that many 
institutions were unreasonably compensating top officials. In 
all, wage adjustments totaled around $36 million, with over $7 
million in corresponding taxes and penalties.
    Today, we will hear testimony from Lois Lerner, Director of 
IRS' Exempt Organizations Division. I look forward to hearing 
her views on this troubling report and look forward to taking a 
deeper look at the issues that have been raised. And so I want 
to thank our witness, Ms. Lerner, for being here with us today. 
And with that I will yield to the distinguished Ranking Member 
from Georgia, Mr. Lewis.
    Mr. LEWIS. Thank you, Mr. Chairman. Mr. Chairman, I want to 
thank you for holding this hearing. Today, we will review the 
results of an Internal Revenue Service project on colleges and 
universities. Colleges and universities play an important role 
in our society. They educate our young people and create our 
work force for the future.
    I am honored to have many colleges and universities in my 
district. We have wonderful institutions in metro Atlanta: 
Spelman, Morehouse, Georgia State University, Clark Atlanta 
University, Georgia Tech, and Emory University, to name just a 
few. They are training the next generation of scientists, 
doctors, and engineers. They also provide many positive 
benefits to their local communities.
    I understand that many colleges are large and complex 
organizations. They have sports program that enrich their 
student body and raise revenue for the university. They may 
engage in activities such as advertising and operating golf 
courses, as the chairman stated, that may generate income 
subject to Federal tax.
    The range of their activities is diverse. I commend the 
Internal Revenue Service for taking a closer look at these 
organizations and groups. Projects like this are positive for 
both the agency and the universities. They are useful tools for 
educating each other.
    As we move toward tax reform, it is important that we all 
understand how colleges and universities operate and comply 
with the Federal tax laws. The agency report helps us begin 
this process. I look forward to hearing from our witness today. 
I am pleased that she is here to discuss what the agency 
learned from this report.
    Thank you. And like the chairman, I welcome you.
    And I yield back, Mr. Chairman.
    Chairman BOUSTANY. I thank the gentleman.
    Chairman BOUSTANY. And now it is my pleasure to introduce 
our witness today, Lois Lerner. Ms. Lerner is Director of the 
Exempt Organizations Division at the Internal Revenue Service 
and has been since 2006. Before her appointment, Ms. Lerner was 
Director of the Exempt Organizations Ruling and Agreements 
Division.
    Ms. Lerner, I want to thank you for joining us today, and 
you will have 5 minutes to give your oral testimony. The 
subcommittee has received your full written statement. That 
will be made part of the formal record.
    At this time I also ask unanimous consent to enter into the 
record the final report of the IRS' Colleges and Universities 
Compliance Project. And without objection, it is so ordered.
    [The Colleges and Universities Compliance Project Final 
Report follows:]


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    Chairman BOUSTANY. Ms. Lerner, you are now recognized for 5 
minutes. Thank you.

   STATEMENT OF LOIS LERNER, DIRECTOR, EXEMPT ORGANIZATIONS 
               DIVISION, INTERNAL REVENUE SERVICE

    Ms. LERNER. Thank you, Chairman Boustany, Ranking Member 
Lewis, and the Members of the subcommittee. I appreciate the 
opportunity to come and talk to you today. My name is Lois 
Lerner and I am the Director of Exempt Organizations at the 
Internal Revenue Service, and I am here today to discuss with 
you what we have learned in our recent examinations of tax-
exempt colleges and universities. These examinations were the 
final phase of a multiyear project that began in 2008 with the 
distribution of a wide-ranging questionnaire to 400 public and 
private colleges and universities.
    IRS has a very good relationship with the college and 
university sector, so we asked the National Association of 
College and University Business Officers for input in designing 
the questionnaire so that the recipients would understand the 
questions and we would get the best information. Responding to 
the questionnaire was voluntary and the response rate was about 
97 percent.
    There were no big surprises in these responses. We saw a 
high level of good governance practices and policies, general 
use of the rebuttable presumption and executive compensation 
setting, and a significant amount of unrelated business 
activity.
    After reviewing the responses, along with the 
organizations' 990s and 990-Ts, we selected 34 institutions for 
examination, concentrating on unrelated business income and 
executive compensation. We have completed almost all of these 
exams and released our final report last month. Please keep in 
mind that the schools examined don't represent a statistical 
sample, so the results are not attributable to all colleges and 
universities; and also, because section 6103 of the Internal 
Revenue Code prohibits disclosure of taxpayer information, the 
report and my comments are not taxpayer specific.
    So what did we find in these exams? Significant under-
reporting of unrelated business taxable income. Taxable income 
from unrelated business activities was under-reported at 90 
percent of the schools we examined and the amount totaled about 
$90 million. Amounts were under-reported for 30 different types 
of activities, but the majority of adjustments were made from 
only five, and those were fitness and recreation centers and 
sports camps, advertising, facility rental, arenas, and golf 
courses.
    In total, the IRS disallowed more than $170 million in 
losses in net operating losses, which could result in more than 
$60 million in tax liability for the impacted organizations. 
The most common reasons for these adjustments were that in 
about 70 percent of the schools they were reporting activities 
on their 990-T that didn't qualify as a trade or business 
primarily because they generated continual losses over a 
protracted time period.
    Second, on 60 percent of the forms 990-T examined, colleges 
and universities offset income from unrelated business 
activities with expenses that were not directly connected to 
the activities.
    The third problem area involved net operating losses, which 
are losses reported in 1 year that can be used to offset income 
in other years. On more than a third of the returns examined, 
the schools had either improperly calculated the net operating 
losses or the losses were not substantiated.
    Fourth, nearly 40 percent of the schools incorrectly 
classified activities as exempt or otherwise not reportable on 
the 990-T, and after the IRS reclassified these, there was 
about $40 million in income coming from unrelated activities 
that was now subject to tax.
    We also looked at compensation. Section 4958 of the 
Internal Revenue Code requires that public charities, including 
private colleges and universities, pay no more than reasonable 
compensation to their officers, directors, trustees, and key 
employees. It also imposes a tax on covered individuals who 
receive unreasonable compensation and on the organizational 
managers who approved the compensation. An organization can 
shift the burden of proving unreasonable compensation to the 
IRS if it follows the rebuttable presumption process, and under 
that it must use an independent body to review and determine 
the amount of compensation, rely on appropriate comparability 
data, and contemporaneously document the process.
    Although we found that most of the colleges and 
universities use the rebuttable presumption process to set 
their compensation, at about 20 percent of the schools the 
comparability data was not appropriate, which means that those 
schools failed to establish a rebuttable presumption.
    Problems with the compensation data included data from 
supposedly comparable schools that were not similarly situated, 
compensation studies that didn't specify the selection criteria 
for the supposedly comparable schools, compensation surveys 
that didn't specify whether the compensation amounts they used 
were limited to salary only or included the total of other 
types of compensation as required by Section 4958. We also 
looked at the amounts of compensation paid to top management 
officials and other college and university employees, and that 
information is included in the report.
    Mr. Chairman, Ranking Member Lewis, let me thank the 
Subcommittee again for this opportunity to discuss the report, 
and I would be happy to answer any questions.
    Chairman BOUSTANY. Thank you, Ms. Lerner.
    [The prepared statement of Ms. Lerner follows:]
    
    
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    Chairman BOUSTANY. The final report notes that very few 
colleges and universities sought outside advice about the 
treatment of potentially unrelated business activities, and 
when they did, they frequently received incorrect advice. So I 
have a few questions regarding that. First, do you have any 
thoughts on why such a small number of these universities and 
colleges failed to seek outside advice? Are there any insights?
    Ms. LERNER. I really don't know other than the fact that 
they are large organizations and oftentimes large organizations 
have inside resources.
    Chairman BOUSTANY. Okay. Are you concerned about the high 
frequency of incorrect advice that colleges and universities 
did indeed receive?
    Ms. LERNER. I think it is very important to keep in mind 
that part of our project was to provide information to folks 
about what the rules are and how they play out. If we are 
seeing that high level of concern with regard to folks who are 
actually seeking information, that means we could probably do a 
better job of explaining the rules to them.
    Chairman BOUSTANY. Okay. Because, thirdly, colleges and 
universities and advisers were frequently wrong about the 
classification of activities, allocation of expenses related to 
activities, and it kind of suggests or indicates that the rules 
are not well understood or that the institutions, maybe they 
are taking advantage of ambiguities in the law or some 
combination of the two. Could you comment further?
    Ms. LERNER. Sure. I think in this area everything is very 
facts and circumstances. You have to look at all of the factors 
in a particular institution that is making that judgment. What 
we did not see was organizations that didn't seem to have a 
thought-out reason for classifying things the way they 
classified them. But it is very factual related and there were 
disagreements between the IRS and the organizations, and I 
think by putting this report out and doing some other work 
around the issue, that we can probably benefit the college and 
university sector as well as the exempt sector in general.
    Chairman BOUSTANY. What are your next steps?
    Ms. LERNER. Well, these are very, very narrow exams. As I 
said, there are only 34, and they were selected because they 
appear to have some potential for noncompliance. So we have 
already started a second unrelated business income project. We 
are looking at organizations that are reporting unrelated 
business activity on their 990s but they are not filing a 990-
T. We think that is problematic. That is going on this year and 
we are already developing our projects for next year, which 
will include, I think, a more expansive project that goes 
beyond a particular part of the sector to see if these same 
issues are apparent across the sector.
    Chairman BOUSTANY. Thank you. And we will look forward to 
following up with you on that as it evolves.
    It no secret that the Ways and Means Committee this year is 
looking at tax reform and looking to rewrite the Tax Code. 
There is a consensus that the Tax Code is too complicated for 
many taxpayers and what we need are real solutions for a broken 
Tax Code. This report contains some troubling details about 
tax-exempt organizations and how they report unrelated business 
income and determine executive compensation.
    If the Committee were to consider changes in these areas, 
does the report suggest that there are structural problems with 
the tax-exempt sector or perhaps more targeted changes should 
be contemplated in the Code?
    Ms. LERNER. Again, I think that it is really important for 
us to get more information than just these 34 organizations, 
because they were selected because of potential noncompliant 
activity. I would like to gather more information more broadly 
to see where the real issues are that could be addressed before 
changes were made.
    Chairman BOUSTANY. Do you have a timeframe on that?
    Ms. LERNER. The project that I mentioned, it is already 
ongoing, began in this fiscal year. With examinations, it is 
somewhat difficult. You can't really predict when they will be 
completed. But we are trying to look for ways that we can 
provide information during projects rather than waiting until 
the end of the project.
    It is sometimes difficult because in the beginning of the 
project you might see an issue that doesn't carry through and 
you don't want to give a misimpression that, oh, my goodness, 
this is going on across the sector, when in fact it is not. But 
we will try to get information out to the public as quickly as 
we can.
    Chairman BOUSTANY. I thank you.
    Now I am pleased to yield to my friend, Mr. Lewis.
    Mr. LEWIS. Thank you very much, Mr. Chairman.
    Ms. Lerner, I want somehow in some way for you to clarify 
the report's finding regarding unrelated business income tax 
and compensation. Maybe in your response to the chairman you 
covered this. The report notes that 34 colleges and 
universities were selected from a pool of 400 for examination. 
Were these colleges a valid sample of all colleges and 
universities? Are there any assumptions that can be made based 
on these examinations regarding the practice of all colleges 
and universities?
    Ms. LERNER. The questionnaire was a statistically valid 
sample, so that can be looked at as how colleges and 
universities in general act. With regard to the examinations, 
it was not a statistically valid sample, so the results really 
only apply to the 34 organizations that were examined.
    Mr. LEWIS. Do you think from this examination, from this 
study, that you learned something or came across something that 
would be helpful to the IRS in other nonprofit charitable 
groups when you investigate or conduct an examination?
    Ms. LERNER. Yeah, I think we did. The compensation piece is 
not our first crack at compensation. We have been looking at 
this for some time. There have been allegations of 
inappropriate compensation in the tax-exempt arena for quite 
some time.
    Our first study on this was across the board. It looked at 
small, large, medium-size organizations, as well as private 
foundations and public charities. We did not find rampant 
improper compensation, but we did see some areas that created 
issues for us, and so we have continued that view.
    And I think the compensation piece that we saw here with 
regard to the rebuttable presumption and the use of comparables 
is an important one. This is the first time we have actually 
looked beyond the fact that the organizations were using 
comparables to see whether the comparables were really, in 
fact, comparable. And when I speak to groups about this, what I 
caution the board Members and the executive directors about is, 
don't just accept the report from a compensation consultant, 
you need to ask them questions about this, because it can be 
done correctly and obviously the organizations are trying to do 
it correctly. So that is one piece that I think would apply 
across the board.
    Mr. LEWIS. Sometimes you read reports, news reports by way 
of radio or television where a college president, a university 
president has been paid a certain salary and maybe the football 
coach is being paid much more. Do you look at things like that?
    Ms. LERNER. We do, and we did look at it here when we 
gathered information about how people were being paid. But 
there are separate rules for individuals that fall under 
Section 4958 of the code than there are for other individuals. 
So Section 4958, where I talked about the rebuttable 
presumption of reasonableness, in a private charitable college 
under 501(c)(3), the pay for everyone has to be reasonable. The 
law requires that it be reasonable, that charitable dollars go 
for charitable purposes.
    How you get to the reasonable is by looking at other like-
situated organizations, people who are in the same part of the 
country, who have the same level of responsibility, who did the 
same kinds of jobs with a similar size organization. You look 
at those, and if you can find comparable jobs, then you look at 
what those people are getting paid and that is the way that 
organizations do set the compensation.
    The rebuttable presumption process and the excise tax, 
however, do not apply; only applies for officers, directors, 
trustees, key employees, and their families. It does not apply 
for a sports coach or an investment manager. They would not 
fall under that.
    Mr. LEWIS. Suppose you have a board member of a college or 
university, a private college, a small college or university, 
and this particular board member goes out and raises millions 
of dollars, and they want a certain amount earmarked for a 
certain department, for a certain professor, or for the coach. 
How do you examine something like that?
    Ms. LERNER. I am sorry. Could you say it again? I missed 
part of the question.
    Mr. LEWIS. So, as a member of the board of trustees, okay, 
and this member maybe is head of a foundation and said we are 
going to make a grant to this department or to the sports arm 
of the university to compensate the coach, to compensate a 
particular head of a particular department.
    Ms. LERNER. There are totally separate rules for that. What 
I am looking at here is how do you determine the compensation 
for that trustee for what the trustee is doing as a trustee? 
There are lots of other rules about how organizations and other 
foundations can provide compensation for an employee of the 
university outside of the university context, but that wasn't 
what we were looking at here.
    Mr. LEWIS. Thank you very much.
    Mr. Chairman, I yield back.
    Chairman BOUSTANY. Thank you. Ms. Jenkins.
    Ms. JENKINS. Thank you, Mr. Chairman. Thank you for holding 
this hearing.
    Ms. Lerner, thank you for being here.
    Your final report states that the IRS weighted the data 
contained in the interim report so that the findings could be 
extrapolated to give a sense of the characteristics, 
activities, and tax reporting of colleges and universities, 
both private and public, regardless of their size. Can you 
briefly describe how the information was weighted, like what 
factors you took into consideration? And from the final report 
findings, is it possible to describe any trends in 
noncompliance? Does it depend on the college size, whether it 
is public, private, or some other variable?
    Ms. LERNER. Well, let me start with the last part of your 
question first. In terms of noncompliance, remember the 
questionnaire was not an examination. The questionnaire was 
asking them for information. Based on that information, when we 
went out initially with the questionnaire, we divided the 
colleges and universities into three groups, small, medium and 
large, depending upon their student size, because we thought 
they would probably look different. So we wanted to get 
information along those lines.
    Then when we got all of the information in, we had a 
conversation with the people in our office who do statistical 
analysis and research. I am not expert in that area. And what 
they said to us was: Very nice study and very nice information, 
but because of the way that you asked the questions and divided 
up the groups, you can't say anything across the board, you can 
only talk about those groups. So the weighting was done by 
statisticians, whatever magic mumbo jumbo they do to do that, 
so that we could say overall the college and university sector 
looks like this in this particular area.
    We did not find a great difference when we did the 
weighting than we had seen in the small groups. So we did it 
because we thought it would be important to be able to make 
broad statements, but it really didn't make a difference.
    Ms. JENKINS. Okay. And the final report also notes that 
with regard to the compensation data, weighting the results 
produced meaningful results at the entity level but not broken 
down to individuals. Can you just further explain what that 
means and what impact it should have on our understanding of 
the compensation section?
    Ms. LERNER. Well, first of all, when you look at an 
organization, you have to see what type of job they have. So if 
you are looking at 20 different jobs in the organization, we 
did not break it down to those 20 different jobs, but we looked 
at the organization as a whole and said, is this organization 
using the processes and providing reasonable compensation, what 
kinds of things are they looking at, and how are they going 
about this. That is what we meant by the entity level, the 
organization as a whole, not particular jobs within the 
organization.
    Ms. JENKINS. Okay. Thank you.
    Mr. Chairman, I yield back.
    Chairman BOUSTANY. Thank you.
    Mr. Davis, you are recognized for 5 minutes.
    Mr. DAVIS. Thank you very much, Mr. Chairman.
    And thank you, Ms. Lerner.
    Let me ask you, were there special characteristics of the 
34 institutions that you used as your sample?
    Ms. LERNER. If you mean by that question did we look at 
them because we saw particular aspects in them, the answer is 
yes. When we looked at the responses to the questionnaires and 
we looked at their 990s and their 990-T's, we were looking for 
organizations that were paying high levels of compensation, for 
example. We were also looking for organizations that appeared 
to have high levels of unrelated business activity, because 
those were the two issues we wanted to focus on and we were 
looking for organizations that we thought might have those 
issues and might have some problems. That is why the 34 doesn't 
represent a random sample of what the whole sector looks like.
    Mr. DAVIS. And so you really couldn't project with any high 
degree of certainty that this really becomes a problem across 
the board with colleges and universities throughout the 
country.
    Ms. LERNER. That is correct.
    Mr. DAVIS. I was just thinking, I represent about 30 or so 
colleges and universities, and I am wondering if maybe some of 
them may not really understand that they have got to be in 
compliance with certain kinds of rules and regs--I admit that I 
have sat on the board of a couple and I sometimes wondered how 
we arrived at paying our chief executives. Are there guidelines 
and is there guidance for institutions to use?
    Ms. LERNER. The rebuttable presumption is probably the best 
guideline they can use because it lays out the process they 
need to use to set the compensation, and if they follow the 
process and the IRS comes in to question the compensation, the 
onus is on the IRS to prove that it is unreasonable rather than 
on the organization to prove that it is reasonable.
    There are other ways of showing that you are paying 
reasonable compensation, but I believe that most organizations 
try to use that presumption because it is very clear what they 
have to do, and if they do it correctly, they are pretty safe.
    Mr. DAVIS. When it came to endowments, your report notes 
that 56 percent of total endowment spending was for scholarship 
awards, grants, and loans. Do you know about the rest or the 
other portion of the endowments, how they were spent?
    Ms. LERNER. I don't have that information with me today, 
but I can go back and see if we can get that information to 
your staff.
    Mr. DAVIS. I would appreciate that. And let me ask you, 
when discussing the 56 percent of distributions for 
scholarships, awards, and grants, is there an average endowment 
distribution or an average amount--I guess I am thinking some 
institutions have these great endowments where they get help 
and others have very low endowments or they don't really get 
much in the way of endowments. Is there an average across the 
board?
    Ms. LERNER. I think the other thing that is important to 
remember about the endowment information that is in the report 
is that we sent the questionnaire out in 2006. In 2008, when we 
had the economic downturn, I am guessing most of the 
information that we got in 2006 may have been impacted greatly 
by that. So there are some limitations to looking at that data, 
but we can provide your staff with what we have.
    Mr. DAVIS. All right. Thank you very much.
    Mr. Chairman, I yield back.
    Chairman BOUSTANY. I thank the gentleman. Mr. Marchant.
    Mr. MARCHANT. Thank you, Mr. Chairman.
    The report says that the IRS made over 180 adjustments to 
institutions' unrelated taxable income due to misreporting of 
income and losses. The majority of the adjustments came from 
sources like advertising, facility rentals, golf courses, and 
arenas. What income was being offset by losses from these 
operations is question one, and can you give us some specific 
examples of that?
    Ms. LERNER. Probably I can't answer question one today 
because I don't have it at the top of my head, but we would be 
happy to go back and try and get that information to you. Let 
me make sure I understand exactly what you were asking. Could 
you repeat it, please?
    Mr. MARCHANT. Well, what income was being offset by the 
losses?
    Ms. LERNER. It varied in the institutions. Let me go back. 
There were about 30 different types of unrelated activities 
across the institutions, and the reason that I mentioned the 
five that I did was because most of the issues that we saw were 
in those five. I think, though, that they were in those five 
because if you look at the questionnaire results, you will see 
that those were the five activities that the most organizations 
conducted anyway. So you had a much larger number of 
organizations doing these activities, so it wasn't surprising 
that there would be issues there.
    With regard to what they would be offsetting, the unrelated 
business income rules allow a tax-exempt organization to 
conduct its exempt activity and it doesn't have to pay any 
taxes on that. With regard to activities that are not related 
to its exempt purpose, so you have got a college and its exempt 
purpose is to train folks and to teach folks, so that is all 
related. If you have----
    Mr. MARCHANT. Let's say they have a golf course.
    Ms. LERNER. Right. Let's take the golf course. The golf 
course can be related under the right circumstances, but it 
might be a mixed use. So if your students who are training for 
your golf team are using the golf course, that would be related 
to your educational mandate. If on the other hand you are 
allowing your students to use it and your faculty to use it, 
but you also allow memberships from outside individuals, the 
money that you get from those outside individuals to use it is 
unrelated to your educational responsibilities, and so, 
therefore, it becomes taxable. So in one organization, one type 
of activity, you could have both taxable and nontaxable 
activity and you can allocate your expenses among those.
    But let's take the golf course. Let's say you had a golf 
course that was making lots of money, which is not what we saw 
here, but if you had a golf course that was making lots of 
money and it was unrelated, you would owe taxes on that. But 
you also have a parking lot, which is also not related, but you 
are losing your shirt on that parking lot. You can offset the 
gains in the golf course with the losses from the parking lot. 
That is how you get to what you have to pay tax on.
    Mr. MARCHANT. In a consolidated statement.
    Ms. LERNER. In a consolidated way, yes. It is no different 
than a taxable business. Taxable business may do lots of 
different things and it has all this big pile of gain and it 
has a whole bunch of deductions and it applies the deductions 
against the gain and the bottom line is what you have to pay 
taxes on.
    Mr. MARCHANT. What role do outside auditors play in the 
function of auditing these consolidated statements? I mean, 
they have to have independent auditors that come in and audit 
the books. Do the auditors certify the accuracy of the 
compliance of the tax return?
    Ms. LERNER. I don't know the answer to that question. I 
would imagine that they certify to something, but I am not sure 
the accuracy is what they are certifying to. I am not the right 
person to answer the question.
    Mr. MARCHANT. So you have got big accounting firms, if 
these are big universities they have got undoubtedly a big 
accounting firm that has come in and audited their financial 
statements. And I serve as a trustee of a small university, so 
I rely pretty heavily, when I go to the meetings, on those 
audited statements. But this university has no outside entity, 
so I wouldn't worry about it. But if I were a trustee of a big 
university, I would want the auditor to certify, to also 
certify that the university was compliant in its tax returns, 
and maybe some education at that level might help.
    Ms. LERNER. Thank you.
    Mr. MARCHANT. Thanks.
    Chairman BOUSTANY. I thank the gentleman.
    Mrs. Black, you are recognized.
    Mrs. BLACK. Thank you, Mr. Chairman.
    And thank you, Ms. Lerner. This is a very interesting 
report. I am interested in the chicken or the egg kind of thing 
here. What led you all to do these audits? Was it the 
questionnaire that you got back in conjunction with the 990s or 
did you have the 990s and you saw some things on there and sent 
questionnaires out?
    Ms. LERNER. It was the first. We do questionnaires a lot. 
Colleges and universities or other large organizations, we 
can't do a lot of audits of them in a particular year, and even 
if we do and we learn something, it is difficult for us to 
share that with anyone because it is specifically taxpayer 
related. So we use the questionnaires to go out broadly to ask 
either a particular part of the sector about its activities, or 
if we have got a particular issue like compensation that 
crosses the sector, we will go out and ask questions about the 
issue.
    Then, to use our resources in the most efficient way, we 
use the answers to the questionnaires and the 990s, and in this 
case the 990-T, to narrow down the field so that we can pick a 
much smaller number to audit and get more information on.
    Mrs. BLACK. Tell me, what is a 990-T? I am familiar with a 
990, but I am not familiar with a 990-T.
    Ms. LERNER. Very good question. The 990 is the annual 
return that any tax-exempt organization has to file.
    Mrs. BLACK. Right.
    Ms. LERNER. If one of these organizations has unrelated 
business income over $1,000, then they file a separate form, 
which is the 990-T. It is really an income tax form, which is 
unusual in the tax-exempt world.
    Mrs. BLACK. Right. Right. So given what you have seen here, 
whether it is just a lack of education or maybe someone in the 
department not being aware of how to do this properly, and what 
you have found in the university study, are you now going to 
use this in other sectors of nonprofits that have 990s as well?
    Ms. LERNER. Yes. I think it is very important to broaden 
this out and see what kind of activities are going on in other 
tax-exempt organizations because this was a homogenous group. 
We want to look farther, and we are developing a project for 
our next year's work plan that will do just that.
    Mrs. BLACK. I know these were only 34 universities. 
Obviously there are a whole lot more of those, of universities 
across this country that might be looked at. Are you drilling 
down any deeper now that you have seen certain things that are 
apparent, to go back and look at some of these other 
universities to see if they are--because I know you are saying 
that this is not statistically significant because of the way 
in which it was done. But are you trying to do anything to go 
back and look and say, let's try to do something and really 
figure out whether this is pervasive across the industry, 
whether this is just misunderstandings or non-education or 
whatever?
    Ms. LERNER. I think that some of those organizations, other 
colleges and universities may be included in this larger study 
that I was talking about, which will look broadly across the 
sector. So we may be looking at more of them.
    Mrs. BLACK. Okay.
    Thank you. I yield back.
    Chairman BOUSTANY. Thank you.
    Mr. Crowley.
    Mr. CROWLEY. Thank you, Mr. Chairman. And I appreciate 
particularly Ms. Black's statements in terms of what the focus 
of the investigation was and whether or not it will be 
broadened out beyond colleges and universities. Because I think 
it is laudable in terms of ensuring that folks under the status 
are actually abiding by the requirements of that status and not 
abusing that. So I welcome that.
    I want to thank you as well, Ms. Lerner, for the swift 
approval of the nonprofit status for the Empire State Relief 
Fund, a charitable nonprofit founded by Governor Cuomo in the 
aftermath of Hurricane Sandy. We appreciate the IRS' quick 
action on that.
    I understand that after the tragedy some unscrupulous 
dealers would set up phony charities from time to time with the 
aim of personally enriching themselves, so it takes some time 
for the IRS to vet each charity. I suspect that Governor Cuomo 
passed the test for being expedited. I am pleased that you did 
expedite that request for the Empire State Relief Fund 
nonprofit status.
    Second, with respect to the study--and to somewhat follow 
up on Ms. Black's line of questioning--you have done on 
colleges and universities, how many of these colleges and 
universities have law schools? Do you know?
    Ms. LERNER. I don't know the answer to that question.
    Mr. CROWLEY. So you wouldn't know if they had them, if they 
were accredited? So you don't have that answer?
    Ms. LERNER. I do not know that.
    Mr. CROWLEY. It would be interesting to see if those that 
have law schools would know whether or not they themselves 
would know they are in violation of any of the provisions. But 
seriously, this investigation is notable for what you 
uncovered, and I think we are all disturbed by what you have 
discovered in terms of the abuse within college and university 
systems.
    On that topic, Ms. Lerner, as the Director of the IRS 
Exempt Organizations Office, your office covers a wide range of 
areas outside, as Ms. Black was alluding to, the college and 
university systems, including business leagues and chambers of 
commerce. Is that correct?
    Ms. LERNER. That is correct.
    Mr. CROWLEY. My question is, if there is a large national 
umbrella business league that receives its income from 
collecting dues from its corporate Members, the dues paid by 
those corporate Members to the umbrella business league would 
generally be something the Member corporations could deduct on 
their corporate income taxes. Is that correct?
    Ms. LERNER. That is correct.
    Mr. CROWLEY. Now, if the business league used those 
deductions for political purposes, such as partisan campaign 
ads, those funds would no longer be deductible by the 
Membership corporations. Is that also correct?
    Ms. LERNER. That is right.
    Mr. CROWLEY. When was the last time the IRS looked into the 
actions of these large tax-exempt business chambers to ensure 
that they are not spending their Members' dues on political 
activity?
    Ms. LERNER. Well, they are allowed to spend their Member 
dues on political activity, but they have a responsibility. The 
responsibility is either to notify the Members that they cannot 
deduct the entire amount of the dues, or if they want to take 
the obligation upon themselves, they can pay the tax for this 
nondeductible activity. So the law does provide for covering 
both of those aspects.
    Mr. CROWLEY. I appreciate that, but I am concerned that 
some of these business chambers are skirting Federal tax laws 
and putting their corporate Members and the American job 
creators in legal jeopardy with the IRS to push a certain 
partisan viewpoint that doesn't reflect all the Members of 
their Membership or the American public.
    I would urge the IRS to undertake an investigation 
immediately into this sector to ensure that when corporations 
pay their dues to these chambers of commerce, that there is an 
accounting of the receipts of these business leagues to ensure 
that every dollar that corporate members give and deduct are 
not used for political purposes.
    And finally, in the summer of 2012 it was reported that the 
IRS was going to undertake a similar investigation into the one 
taken here on colleges and universities on political entities 
that fund political campaign ads that were taking donations 
anonymously and are tax exempt. These are the folks that put on 
hundreds of millions of dollars in campaign ads in 2012 
elections, all with no accountability and with taxpayer 
subsidy.
    This hearing highlights certain compliance problems in the 
tax-exempt sphere, and I hope the IRS aggressively looks into 
these political and business leagues to see if they are abusing 
the tax-exempt status. I don't want to speak for the chairman 
or for the Ranking Member, but I know my constituents in Queens 
do not want their tax dollars being used to subsidize political 
campaigns. I suspect neither do any of the Members on this 
panel.
    So, Ms. Lerner, if you could comment briefly on the status 
of the IRS investigation into these political not-for-profits, 
I would appreciate that as well.
    Ms. LERNER. Well, there was a questionnaire that began this 
discussion and there is also a questionnaire out there, you can 
look at it on our Web site right now, that is seeking 
information from section 501(c)(4), (5), and (6) organizations, 
and a big piece of that questionnaire relates to their 
political activities. So that is our beginning.
    Mr. CROWLEY. I appreciate that. Thank you.
    And thank you, Mr. Chairman.
    Chairman BOUSTANY. I appreciate the gentleman's line of 
questioning, and this hearing was focused specifically on the 
report dealing with colleges and universities. But I know there 
is considerable interest on both sides of the aisle on this 
subcommittee to look at other areas of the tax-exempt sector, 
and it is my intent to do so as we go forward. But I certainly 
appreciate the gentleman's line of questioning.
    Mr. Reed, you are recognized.
    Mr. REED. Thank you, Mr. Chairman.
    And thank you, Ms. Lerner, for being here today. I reviewed 
your report, and I am going to veer off a little bit into an 
issue because we have already covered a lot of issues in 
relationship to how that impacts IRS and things like that. But 
just so I can clearly understand the data that you compiled 
here when it comes to compensation of folks at these 
educational institutions, for the key employees and the 
officers, directors and trustees, what was the average salary 
you found for those individuals?
    Ms. LERNER. I am going to have to look in my book.
    Mr. REED. Please do. I have got it in front of me, but I 
want this on the record.
    Ms. LERNER. Are you talking about the questionnaire or in 
the exam?
    Mr. REED. The exam. At the conclusion of your reports, I am 
going to ask you some data questions, because the data is 
amazing to me.
    Ms. LERNER. Uh-huh. The compensation for top managerial--
oh, I am sorry. I am looking at the wrong thing.
    Mr. REED. I believe it is on page 4, but I will let you. 
You may have it differently.
    Ms. LERNER. No, I am looking at something different. I 
apologize. I am looking at my notes, which are not going to 
match up with what you are talking about.
    So the average base salary for officers, directors, 
trustees, and key employees was $448,981, and the average total 
compensation was $561,135.
    Mr. REED. Okay. And then for the highly compensated non-
ODTKEs, non-key employees, officers, directors, for investment 
managers what was the average compensation you uncovered there?
    Ms. LERNER. It was $894,214.
    Mr. REED. Sports coaches?
    Ms. LERNER. $884,746.
    Mr. REED. And then when you got into the actual faculties 
of these institutions, heads of the departments, what is the 
average compensation you found there?
    Ms. LERNER. Well, there were two different average 
compensations. It depended on whether the heads of the 
department were also medical doctors.
    Mr. REED. Medical doctors.
    Ms. LERNER. If they were not medical doctors it was 
$229,770, and if they were medical doctors it was $753,738.
    Mr. REED. And then the overall faculty level?
    Ms. LERNER. Again, there was a distinction between the 
medical doctor----
    Mr. REED. I understand the distinction between the two.
    Ms. LERNER. Do you want both numbers?
    Mr. REED. Yeah, both numbers would be great.
    Ms. LERNER. So for the non-medical folks, it was $215,854, 
and for the medical folks it was $575,632.
    Mr. REED. And admin/managerial.
    Ms. LERNER. Non-medical doctors $381,745, and medical 
doctors $462,872.
    Mr. REED. See, the reason why I asked you to do that, 
because it is amazing to me, as a person who is a firm believer 
in education and a degree and empowering people to control 
their own lives to get out of poverty, and when I have lived 
and seen the data where college tuition costs, data I have 
seen, public sector educational institutions have gone up over 
the last 10 years 104 percent; private institutions, 60 
percent. And we are dealing with an accessibility, 
affordability of college. When I see compensation levels like 
that, that jumps out at me as an area that needs to be 
explored.
    When you are talking about essentially $900,000 as the 
average in coaches and investment managers and $500,000 for the 
other folks, how in the world, given the increases of cost of 
college education in America, how do these institutions justify 
paying that level of salary?
    Ms. LERNER. The rules on salary are reasonableness and the 
rules on reasonableness are to compare the like positions to 
your position, and that is how they do it.
    Mr. REED. So if everybody raises the cost of the salary, if 
everybody increases the salary, and that is something that is 
going on in education and college institutions, from the IRS 
perspective that is reasonable. But from my perspective, as a 
person who still pays his law school debt every month, when I 
see salaries like that, that doesn't appear to me to be 
reasonable. It may be reasonable to colleges and universities 
and their club, but from a student's perspective that irritates 
me.
    And I know, Mr. Chairman, that is not the focus and the 
kind of scope of this hearing, but I think it is an issue that 
needs to be put out in the public domain, and students need to 
understand the level of compensation these institutions in 
America, who get positive treatment by the IRS, are paying 
their administrators, faculty, and managerial staff, as well as 
their key employees when it comes to officers, directors, 
trustees, and elsewhere. Thank you, Mr. Chairman.
    Chairman BOUSTANY. I thank the gentleman.
    With that, I would like to thank Ms. Lerner for being here 
today and for offering some insights into the report. And there 
will be plenty more questions, I am sure, going forward as you 
continue to look at this area and other areas of the tax-exempt 
sector, so we look to further meetings down the line. But we 
appreciate your insights today on these important issues.
    With that, the Subcommittee stands adjourned.
    [Whereupon, at 2:55 p.m., the Subcommittee was adjourned.]

    [Material Submitted for the Record]

                        Questions For The Record
                          Rep. Kenny Marchant
                          
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