Rising Stars Dance/Gymnastics Company, a qualified 509(a)(2) charity, has been in operation since 2010. Rising Stars is a dance studio operated for the purpose of providing education, physical activity and amateur sports competition for children aged 3-15 years. Fees to participate in Rising Stars is based on a sliding scale to accommodate the needs of low income and high-risk youth, but accepts students of all income levels. Rising Stars’ mission is to provide youth with healthy and engaging activities which will foster positive skills such as healthy competition, ambition, drive as well as providing structured activity time after school and during school breaks, thereby reducing truancy, drug abuse, and other illegal activity for at-risk youth. Rising Stars is located in an economically depressed geographic area where financial need is high. The company has been very successful in regional competition and has grown considerably since it started. It was operating out of an old school gymnasium, which was built in 1906 and has been scheduled for condemnation due to structural issues.

The following numbers reflect revenue over a 5 year period:

Total Revenue: $580,000

Dancer participation fees: $70,000

Recital Ticket Sales: $10,000

Small donation support (fund-raisers) (under 2%): $50,000

Support from other entities: $400,000

Donation/Support from Director/Officer: $50,000

In 2018, Rising Stars received a one-time grant from the local Pittsburg Community Foundation. The community foundation is an organized entity, which has applied for and received public charity status, and which pools donations from various sources including other charities, governmental entities, corporations and charity-minded individuals and thereafter awards grants to local organizations. In 2018, the Pittsburg Community Foundation granted the Rising Stars Dance Company a $300,000 grant for the purpose of building a facility large enough to accommodate a growing number of participants and providing safe facilities and equipment.   

In 2020, Rising stars underwent an audit and after the audit process was complete, they received a Revenue Agent’s Report indicating that the Agent had determined that the charity had failed the applicable “public support test,” specifically, that the Agent believed that a community foundation would not qualify as a “permitted source” of public funds.

Secondly, the Revenue Agent specifically cited I.R.C. § 501 which outlines the requirements for tax-exempt entities and stated that Rising Stars failed to have an adequate exempt purpose because it failed to meet the requirements of I.R.C. § 501(c)(3) which states:  

“Corporations, and any community chest, fund, or foundation, organized and operated exclusively for religious, charitable, scientific, testing for public safety, literary, or educational purposes, or to foster national or international amateur sports competition (but only if no part of its activities involve the provision of athletic facilities or equipment), or for the prevention of cruelty to children or animals, no part of the net earnings of which inures to the benefit of any private shareholder or individual, no substantial part of the activities of which is carrying on propaganda, or otherwise attempting, to influence legislation (except as otherwise provided in subsection (h)), and which does not participate in, or intervene in (including the publishing or distributing of statements), any political campaign on behalf of (or in opposition to) any candidate for public office.” [Emphasis Added]

As a result of the audit, the agent determined that the Rising Stars’ exempt status should be revoked as of 2018. The determination would be catastrophic for this company and potentially program ending. Rising Stars does not agree with the Revenue Agents’ findings and thereafter, it received a 30-day letter on November 15, 2020. Further, the Rising Stars’ tax returns filed for tax years 2018 and 2019 which were filed as a tax-exempt entity were recalculated as a for-profit entity resulting in $25,000 in additional tax liability, penalties, and interest.   

Rising Stars wishes to appeal the decision of the revenue agent. Please write a protest letter which conforms to IRS requirements and contains a researched explanation of why the appeals officer should reverse the revenue agent’s determinations.