Service Denies Another NIL but The Logic is Still Muddled
Last Friday, the Service released Private Letter Ruling 202504020 denying tax exemption for a celebrity talent agency. That’s what stand-alone NIL collectives are, really. They are just celebrity talent agencies working to get their clients endorsement deals. Once it started paying attention, the Service rightly and very publicly started putting the brakes on the charitable perversion.
There is still something to be desired, though, in the Service’s logic. The Service continues to assert that student-athletes do not compose a charitable class. And, as a result, NIL collectives operate for private benefit when they pay student-athletes. The Chief Counsel Memorandum underlying the Service’s NIL challenges relies on the assertion:
Student-athletes are not themselves a recognized charitable class. While the Service has previously recognized as charitable certain organizations whose activities benefited student-athletes, the rulings were based on a determination that the activities advanced education. Nonprofit NIL collectives make compensatory payments to student-athletes in exchange for services and the use of a valuable property right (NIL), which does not further educational purposes under section 501(c)(3). Absent a finding that NIL collectives select student athletes for participation based on need, such that their activities could be considered conducted for the relief of the poor or distressed, and that payments are reasonably calculated to meet that need, payments to the student-athletes are properly regarded as serving private rather than public interests.
But there is a cause-and-effect problem in the Service’s approach. The effect, that NIL collectives convey private benefit, is correct. But the cause – that student-athletes do not a charitable class make – is incorrect. If the analysis is not cleaned up it could lead to perverse outcomes.
Two things must be true: (1) students qua students compose a charitable class and (2) amateur athletes qua amateur athletes compose a charitable class. Neither assertion depends on anything other than the status of student or amateur athlete. Students and amateur athletes don’t have to be poor or otherwise disadvantaged. Otherwise, a Rotary Club merit scholarship would convey private benefit and little leagues would not be charitable because in neither case is participation limited to poor kids. We know that Rotary Club scholarships and little leagues are tax exempt organizations.
The group at the intersection of students and amateur athletes are student-athletes. If each group separately composes a charitable class, both combined must also compose a charitable class. The Chief Counsel Advice animating the denial PLRs states otherwise, and it is on that basis – that student athletes don’t compose a charitable class — that previous PLRs revoked or denied tax exemption. The latest PLR states that the organization has not “shown that student athletes belong to a charitable or protected class.” As if that fact cannot be assumed. Of course student athletes make a charitable class. Geometry proves it. But not every benefit provided to a charitable class meets a charitable need.
There can be only two circumstances proving private benefit. First, an organization provides benefits to a noncharitable class. That is what the Service asserts regarding NIL collective, but that can’t be right. Second, an organization provides benefits that do not facilitate a charitable need. The second sort of private benefit applies whether the beneficiaries compose a charitable class or not. Providing scholarship students with money to pay for spring break vacations is private benefit because students don’t need to get drunk during spring break. Not because students are not a charitable class. Similarly, NIL collectives convey private benefit because talent agency services facilitate neither study nor amateur competition, not because student-athletes do not compose a charitable class. Study and competition are the charitable needs of student athletes. Job placement services facilitate neither study nor amateur competition unless the job is related to a student-athlete’s studies — i.e., an internship.
So typical NIL collectives are not tax exempt. But only because they provide benefits that facilitate neither study nor amateur competition. In fairness, the latest PLR relies on this rationale as a second justification. It states that talent agency placement services facilitate student athletes’ “private interests.” The PLR cites that as one of two justifications. I just think it’s the only justification. And that continuing to assert that student-athletes don’t compose a charitable class could lead to incorrect outcomes.
I’m not just being a jackass although I’m sure I sound like one. It’s what I get paid to be so I am trying to do the job well. But it is important to rely on only the correct reason. Remember United Cancer Council? The Service correctly asserted that the fundraiser was not tax exempt because it retained 95% of the funds raised. But after nearly eight years of litigation up and down the Eighth Circuit, Judge Posner remanded because the Service relied on private inurement instead of private benefit. Not only did the incorrect theory cost a lot of time and money, it also led to a whole new legal theory known as the “first bite” doctrine.
By the way, an NIL collective that pays students market rates for performing jobs related to their studies (internships) could qualify for tax exemption.
darryll k. jones