Citizens Union of N.Y. v. Attorney Gen. of N.Y.

Decision Date30 September 2019
Docket Number16cv9592 (DLC)
Parties CITIZENS UNION OF the CITY OF NEW YORK, et al., Plaintiffs, v. ATTORNEY GENERAL OF the State of NEW YORK, Defendant.
CourtU.S. District Court — Southern District of New York

For plaintiffs Citizens Union of the City of New York and Citizens Union Foundation, Inc. of the City of New York: Randy M. Mastro, Akiva Shapiro, Timothy Sun, Gibson, Dunn & Crutcher LLP, 200 Park Avenue, New York, New York 10166

For plaintiffs American Civil Liberties Union Foundation, New York Civil Liberties Union Foundation, and New York Civil Liberties Union: William F. Cavanaugh, Stephanie Teplin, D. Brandon Trice, Michael D. Schwartz, Patterson Belknap Webb & Tyler LLP, 1133 Avenue of the Americas, New York, New York 10036

For plaintiffs Lawyers Alliance for New York and Nonprofit Coordinating Committee of New York: Lawrence S. Lustberg, J. David Pollock, Gibbons P.C., One Gateway Center, Newark, NJ 07102

For the defendant: Andrew Amer, James M. Thompson, Office of the New York Attorney General, 28 Liberty Street, New York, New York 10005

OPINION AND ORDER

DENISE COTE, United States District Judge In 2016, New York state enacted an Ethics Law addressing several issues related to elections, campaigning, and conduct in office by state officials. Two provisions of the Ethics Law require entities that are exempt from federal taxation -- under 26 U.S.C. § 501(c)(3) and 501(c)(4) -- to publicly report their donors under certain circumstances. The plaintiffs assert that these two provisions unconstitutionally burden their First Amendment rights of free speech and association. For the following reasons, the plaintiffs' motion for summary judgment is granted. These provisions of the Ethics Law, N.Y. Exec. Law §§ 172-e and 172-f, are invalid on their face.

Background

Before addressing the legal issues at stake in this summary judgment motion, this Opinion describes the federal law that governs 501(c)(3) and 501(c)(4) entities, and transfers of funds or support from a 501(c)(3) to a 501(c)(4); the legislative history of §§ 172-e and 172-f, the two sections of the New York Ethics Law that are challenged in this lawsuit; the provisions of §§ 172-e and 172-f ; and the procedural history of this litigation.

I. Federal Regulation of Tax-Exempt Entities

Certain entities are exempt from federal taxation. To qualify for tax exemption under 26 U.S.C. § 501(c)(3), an entity must have an exempt purpose. It must be "organized and operated exclusively for religious, charitable, scientific, testing for public safety, literary, or educational purposes, ... no part of the net earnings of which inures to the benefit of any private shareholder or individual." Such an entity is commonly known as a "501(c)(3)." In addition to a 501(c)(3) being itself exempt from taxation, donations to a 501(c)(3) are tax-deductible. Id. § 170.

Section 501(c)(3) places two restrictions on such an entity's activities. These restrictions concern lobbying and political activity. An entity loses its 501(c)(3) tax exemption if "a substantial part of the activities of such organization consists of carrying on propaganda, or otherwise attempting, to influence legislation." Id. § 501(h)(1) ; see also id. § 501(c)(3). This language limits a 501(c)(3)'s ability to engage in lobbying, such as "contact[ing], or urg[ing] the public to contact, members or employees of a legislative body for the purpose of proposing, supporting, or opposing legislation" or "advocat[ing] the adoption or rejection of legislation."1 The Internal Revenue Service ("IRS") evaluates whether a "substantial part" of the 501(c)(3)'s activities consist of lobbying, based on "a variety of factors, including the time devoted (by both compensated and volunteer workers) and the expenditures devoted by the organization to the activity."2 Alternatively, a 501(c)(3) may choose to have its lobbying activity evaluated under the "expenditure test," which, based on the organization's size, provides a maximum amount that the 501(c)(3) may spend on lobbying. 26 U.S.C. §§ 501(h), 4911.3

An entity also loses its tax-exempt status if it "participate[s] in, or intervene[s] in (including the publishing or distributing of statements), any political campaign on behalf of (or in opposition to) any candidate for public office." 26 U.S.C. § 501(c)(3). "Contributions to political campaign funds or public statements of position (verbal or written) made on behalf of the organization in favor of or in opposition to any candidate for public office clearly violate the prohibition against political campaign activity."4 A 501(c)(3), however, may participate in "certain voter education activities (including presenting public forums and publishing voter education guides) conducted in a non-partisan manner."5

In order to retain its tax exemption, an entity "must be both organized and operated exclusively for" charitable purposes. 26 C.F.R. § 1.501(c)(3)-1(a)(1). "If an organization fails to meet either the organizational test or the operational test, it is not exempt." Id. In order to satisfy the organizational test, an entity must have articles of organization that (1) "[l]imit the purposes of such organization to one or more exempt purposes" and (2) "[d]o not expressly empower the organization to engage, otherwise than as an insubstantial part of its activities, in activities which in themselves are not in furtherance of one or more exempt purposes." Id. § 1.501(c)(3)-1(b).

To satisfy the operational test, an entity must "engage[ ] primarily in activities which accomplish one or more of such exempt purposes." Id. § 1.501(c)(3)-1(c)(1). "It is well-settled that an incidental non-exempt purpose will not disqualify an organization, but a single substantial nonexempt purpose or activity will destroy the exemption, regardless of the number or quality of exempt purposes."

Family Tr. of Mass., Inc. v. United States, 892 F. Supp. 2d 149, 159 (D.D.C. 2012) (citation omitted). "[T]he presence of a single substantial purpose that is not described in section 501(c)(3) precludes exemption from tax ...." Giving Hearts, Inc. v. Comm'r of Internal Revenue, 118 T.C.M. (CCH) 102 (T.C. 2019). An organization fails the operational test if "a substantial part of its activities is attempting to influence legislation by propaganda or otherwise." 26 C.F.R. § 1.501(c)(3)-1(c)(3)(i) to (ii). "[A]n organization will be regarded as attempting to influence legislation if the organization" (1) "[c]ontacts, or urges the public to contact, members of a legislative body for the purpose of proposing, supporting, or opposing legislation;" or (2) "[a]dvocates the adoption or rejection of legislation." Id. § 1.501(c)(3)-1(c)(3)(ii).

There is a second type of tax-exempt entity that is relevant to the discussion that follows. Under 26 U.S.C. § 501(c)(4), "[c]ivic leagues or organizations not organized for profit but operated exclusively for the promotion of social welfare" are tax-exempt. An entity exempt from federal taxation under this provision is commonly referred to as a "501(c)(4)." In order to be a 501(c)(4), an organization must be "primarily engaged in promoting in some way the common good and general welfare of the people of the community." 26 C.F.R. § 1.501(c)(4)-1(a)(2)(i). Unlike a 501(c)(3), a 501(c)(4) may engage in substantial lobbying. Compare 26 U.S.C. § 501(c)(3), with id. § 501(c)(4) ; see also Regan v. Taxation With Representation of Wash., 461 U.S. 540, 543, 103 S.Ct. 1997, 76 L.Ed.2d 129 (1983).6

There are limitations, however, on the extent to which a 501(c)(4) may participate in political activities. "The promotion of social welfare does not include direct or indirect participation or intervention in political campaigns on behalf of or in opposition to any candidate for public office." 26 C.F.R. § 1.501(c)(4)-1(a)(2)(ii). But a 501(c)(4) "may engage in some political activities, so long as that is not its primary activity." IRS, Social Welfare Organizations (May 13, 2019), https://www.irs.gov/charities-non-profits/other-non-profits/social-welfare-organizations (emphasis added); see also 26 C.F.R. § 1.501(c)(4)-1(a). Unlike donations to 501(c)(3)s, donations to 501(c)(4)s are generally not tax-deductible.7 Congress has chosen "not to subsidize lobbying as extensively" as the activities to which a 501(c)(3) may properly be dedicated. Regan, 461 U.S. at 544, 103 S.Ct. 1997.

As a result of the requirement that a 501(c)(3) be organized and operated "exclusively for" charitable purposes, a 501(c)(3) is limited in its ability to transfer funds or offer in-kind support to a 501(c)(4). A 501(c)(3) must at a minimum "keep records adequate to show that tax deductible contributions are not used to pay for lobbying." Regan, 461 U.S. at 544 n.6, 103 S.Ct. 1997 ; see also Bob Jones Univ. Museum & Gallery, Inc. v. Comm'r, 71 T.C.M. (CCH) 3120 (T.C. 1996) (holding that a tax-exempt entity may pay rent to a taxable entity, where the rent is an "ordinary and necessary business expense[ ]" and not paid for the purpose of "funnel[ing] tax-deductible contributions" to the taxable entity.). Some commentators describe it as a best practice for a 501(c)(3) to not subsidize a 501(c)(4) in any way.8 But the IRS has not articulated a bright line beyond which a 501(c)(3)'s support of a 501(c)(4) indicates a "substantial" lobbying purpose sufficient to jeopardize the 501(c)(3)'s tax exemption. See All. for Justice, 501(c)(3) and 501(c)(4) Collaboration 9 (last visited Sept. 29, 2019), https://bolderadvocacy.org/wp-content/uploads/2019/08/BA-Power-of-Collaboration.pdf ("While there are lines that (c)(3)s may not cross, many of the issues that arise do not have bright-line answers.").9

In short, a 501(c)(3) may not freely transfer funds to a 501(c)(4), but it may provide some financial support to a 501(c)(4) without losing its 501(c)(3) status. Lobbying cannot constitute a "substantial part" of a 501(c)(3)'s activities, but there is no restriction on...

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