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Are You a Tax-Exempt Charity? Sure About That?

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While it's not yet true that "Illinois Does A Few Adult Films To Make Ends Meet", the state has begun to cast lascivious glances at its nonprofits. Those property-tax exemptions look mighty comfortable. Why don't you push that cushion over to my side of the bed? And with most interactions taking place behind closed doors, don't expect a warning before the moment of truth arrives--or to be kissed while you're getting screwed.

Unlike other localities re-evaluating nonprofit tax exemptions, Illinois has bypassed the legislative process, allowing county assessors and the Department of Revenue to take the initiative. And this spring the Illinois Supreme Court decided that the state's constitutional provision exempting charities from property taxes applied not to all nonprofits but only to genuine charities.

When the Court ruled that Provena Covenant Hospital didn't merit a property tax exemption because it failed to provide adequate charity care, there was a brief frenzy of press speculation about the decision's impact on hospitals--but hospitals only. Rarely do the media connect the dots between the budget crises of state and local governments and their relationships with nonprofits, and then generally the focus is on the governments' failure to pay nonprofits for contracts they've already performed.

But revocation of property tax exemptions poses an even bigger and longer-term threat than governments' failure to pay. And it's a threat of which few nonprofit executives--let alone members of the public--are aware.

Two cases of denied exemption, one in nearly-bankrupt Chicago and the other in one of its suburban counties, are now working their way through the Illinois courts. Each concerns a luxury retirement community, and either could break new ground by clarifying what qualifies as "charity" and how much of it a nonprofit has to provide.

The state legislature hasn't specified a percentage of charitable services required to support continued property-tax exemption. And though the Provena court ruled that the hospital's practice of charging fees for nearly all patient care meant it could not be considered a charity, it too stopped short of prescribing when enough charity will be enough.

"The property-tax assessors out there are going to be aggressive, because they need you back on their rolls," said Elaine Waterhouse Wilson, a partner at the Quarles & Brady law firm. "They're going to make you come in and prove" charitable work. Ms. Wilson said the charities that may be at risk "include organizations that are supported primarily by fees ... It was very clear [under the ruling] that you had to be giving things away rather than providing general charitable benefits," she said.

It's not a tragedy that people are asking whether Illinois nonprofits are worthy of favored tax treatment. What would be a tragedy is if the challenge came as a complete shock, catching agencies unaware with the sudden need to prove their charitable nature. Yet that's what seems likely to happen.

Executives at several Chicago-area nonprofits seemed incredulous at the idea that Provena would be applied to them. "We provide human services and all our activities are nonprofit," said Karen Singer, Executive Director of the Evanston/North Shore YWCA. "So it's not on my radar screen at the moment. It probably should be, but there are only so many things I can think about." William Ratner, Executive Director of Lawyers for the Creative Arts, and Alvin Katz of Mayer Brown LLP, the attorney for Victory Gardens Theater and the Chicago Architecture Foundation, both expressed confidence that the organizations they represent are secure in their exemptions. "They'll keep going after the hospitals because it's easy, and because that's where the money is," Mr. Ratner said.

But there's also money in, or rather under, many other nonprofits. The Chicago retirement development sits on prime Gold Coast real estate. Can YMCAs in gentrifying neighborhoods withstand challenges to their exemptions when they look and feel--and charge--so much like for-profit health clubs? Can settlement houses be considered charities if they get paid, by government or clients, for all the services they provide? Can arts organizations be considered "charitable" just by offering art, or do they have to give out a certain number of free admissions? (Churches and schools are immune from this calculus because the Illinois constitution separately exempts them; but the educational programs of arts groups aren't considered "schools.")

Perhaps the charities will organize and persuade the Illinois legislature to clarify the amount of "charity" necessary to retain tax exemption. But Professor Phillip Hablutzel of IIT Chicago-Kent College of Law, co-author of the Illinois Not-for-Profit Corporation Act, doubts it. Though he predicted Illinois nonprofits other than hospitals will soon find themselves battling efforts to withdraw their exemptions, "In the twenty years I've been involved, there hasn't been a coherent front among charities in facing the legislature. It's hard to get these people to make common cause-the museum people don't see what they have in common with the churches." Nor, apparently, do many human services agencies or arts groups see what they have in common with the hospitals.

If and when a Provena-style loss of exemption hits another nonprofit, the impact on its operation will be substantial. "In the current economy," said Professor Hablutzel, "it would be hard to do fundraising for another one-third of your budget so the taxes could be paid."

Maybe there's something to be said for making adult films after all.