What Are Excess Business Holdings? A Primer

April 11, 2016Articles Nonprofit Roundup Blog

The Internal Revenue Code permits private foundations and their disqualified persons (e.g., their directors, officers, substantial contributors, family members of the foregoing and entities owned by any of the aforementioned individuals) to own, collectively, a limited amount of stock in a single business enterprise.

Generally, a private foundation and its disqualified persons are allowed to hold a combined total of 20% of all voting stock issued and outstanding by a single business enterprise (i.e., “permitted holdings”). Any amount that the private foundation and its disqualified persons own in excess of the “permitted holdings” constitutes excess business holdings and can trigger excise taxes.

A private foundation and its disqualified persons generally have five years to dispose of excess business holdings received via gratuitous transfers. Otherwise, a private foundation and its disqualified persons must dispose of excess business holdings within 90 days from the date on which the parties first know or have reason to know of the excess business holdings. Failure to dispose of the excess business holdings within the aforementioned periods will trigger an excise tax equal to 10% of the excess business holdings.

Upon receiving a notice of deficiency from the IRS for the 10% excise tax, the private foundation and its disqualified persons then have an additional 90 days to dispose of the excess business holdings. If the private foundation and its disqualified persons again fail to dispose of the excess business holdings, the parties will be subject to an additional excise tax equal to 200% of the excess business holdings.

The excess business holdings rules are complex, and even a good faith effort to dispose of excess business holdings can lead to a violation of the self-dealing rules (and additional excise taxes) if the private foundation disposes of the excess business to the wrong party(ies). Given these complexities, a private foundation and its disqualified persons should remain vigilant of their ownership interests in business entities and contact an attorney when the private foundation owns or is contemplating owning any portion of a business.