A. DUIE LATTA, ESQUIRE

The legal basis for exempting certain organizations from Pennsylvania sales tax originates in Article VIII, Section 2 of the Pennsylvania Constitution, which exempts "institutions of purely public charity" from certain taxes. An historic lack of specific legislative standards defining "institutions of purely public charity" resulted in the enactment of the "Institutions of Purely Public Charity Act," which provides a statutory definition for the term. An Institution of Purely Public Charity can qualify for exemption from Pennsylvania sales tax.

It is a common misconception that an organization that has obtained exemption under Section 501(c)(3) of the Internal Revenue Code ("§501(c)(3)") will be exempt from Pennsylvania sales tax. This is not necessarily true. An organization's exemption under §501(c)(3) is obtained from the IRS, and it is only an exemption with regard to federal income tax. Exemption from Pennsylvania sales tax must be separately obtained from the Commonwealth of Pennsylvania. Furthermore, the requirements to qualify for exemption from Pennsylvania sales tax are not identical to the requirements for exemption under §501(c)(3). Accordingly, it is not uncommon for charitable organizations that are exempt under §501(c)(3) to fail to obtain exemption from Pennsylvania sales tax. Put simply, the fact that an organization is exempt under §501(c)(3) is not sufficient to render it an "Institution of Purely Public Charity."

To meet the statutory definition of an "Institution of Purely Public Charity," an organization must satisfy Pennsylvania's five-part test (sometimes called the "five-prong test"). Specifically, the organization must satisfy the "charitable purpose" requirement, the "private profit motive" requirement, the "community service" requirement, the "charity to persons" requirement, and the "government service" requirement. Each of these requirements will be discussed generally below.

The "Charitable Purpose" Requirement

An organization satisfies the "charitable purpose" requirement if it is organized and operated primarily to fulfill any one or combination of the following purposes: (1) relief of poverty; (2) advancement and provision of education, including postsecondary education; (3) advancement of religion; (4) prevention and treatment of disease or injury, including mental retardation and mental disorders; (5) government or municipal purposes; or (6) accomplishment of a purpose which is recognized as important and beneficial to the public and which advances social, moral or physical objectives.

The "Private Profit Motive" Requirement

An organization satisfies the "private profit motive" requirement if it operates entirely free from private profit motive. To do so, an organization must fulfill several criteria, many of which are similar to the requirements to obtain exemption from federal taxation under §501(c)(3) of the Internal Revenue Code. For example, the organization's net earnings and donations cannot inure to the benefit of private shareholders or other individuals. Its revenue in excess of its expenses must be used in furtherance of its charitable purpose or to fund other Institutions of Purely Public Charity. The compensation and benefits of its directors, officers, and employees cannot be based primarily upon the financial performance of the organization. Also, its governing legal documents (such as its articles of incorporation) must prohibit the distribution of surplus funds to any person in the event of a sale or dissolution of the organization. In summary, the organization must operate entirely free from the motive to achieve private profit.

The "Community Service" Requirement

An organization satisfies the "community service" requirement if it donates or renders gratuitously a substantial portion of its services. There are several different ways for an organization to satisfy this criterion, which are described in the statute. Some are fairly straightforward, such as if the organization provides a certain amount of uncompensated goods and services, and has a public policy to provide such goods or services to all who seek them without regard to their ability to pay for what they receive. Other tests for the "community service" requirement involve determinations that are more technical. For example, some require an analysis of the percentage of individuals who receive goods or services for no fee or for reduced fees, or who receive financial assistance. The statutory definition of "uncompensated goods and services" is itself fairly technical and should be determined with the assistance of legal counsel.

The "Charity to Persons" Requirement

An organization satisfies the "charity to persons" requirement if it benefits a substantial and indefinite class of persons who are legitimate subjects of charity. A "substantial and indefinite class of persons" means that the recipients are not predetermined in number. It also means that, where the goods or services are received primarily by members of the institution, membership cannot be predetermined or arbitrarily denied by a vote of the existing members. "Legitimate subjects of charity" are those individuals who are unable to provide themselves with what the organization provides for them. In addition to the test described above, the statute also contains certain specific inclusions and exclusions regarding which organizations meet the "charity to persons" requirement.

The "Government Service" Requirement

An organization satisfies the "government service" requirement if it relieves the government of some of its burden. The statute states that this criterion can be satisfied in a number of different ways, such as if the organization provides a service to the public that the government would otherwise be obliged to fund, if it provides services which are the responsibility of the government by law or which historically have been assumed by the government, or if it provides a service to the public which reduces dependence on government programs. There are several other ways for an organization to satisfy this requirement, which are described in the statute.

If an organization meets the criteria in the five-part test described above, it is an Institution of Purely Public Charity and can qualify for exemption from Pennsylvania sales tax. It obtains such an exemption from Pennsylvania sales tax by filing an application for exemption with the Commonwealth. It is desirable to obtain legal assistance in the preparation of the application, since some aspects of the five-part test addressed in the application are technical, and since it is important that the application accurately reflect whether the organization is an Institution of Purely Public Charity. An organization whose application is denied can appeal it in a several stage process that begins with the Department of Revenue and can progress to the Commonwealth Court.

Pennsylvania law recognizes the important contribution of non-profit organizations, and for those that qualify as Institutions of Purely Public Charity, it will exempt them from the burden of paying Pennsylvania sales tax.

The attorneys at MacElree Harvey can help you determine whether your organization might qualify for this sales tax exemption. Our experience in the preparation of applications for exemption, as well as with the appeals process, can help qualifying organizations obtain this important exemption.

MacElree Harvey
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