U.S. “Friends of” organizations are designed to facilitate US support for a foreign charity. U.S. donors commonly seek to support a foreign charitable organization aiding in international causes. Although donors may make contributions directly to charities outside the United States, they will not be able to take advantage of the tax deductions permitted when donating to domestic 501(c)(3) charities. Accordingly, foreign charities often wish to establish a domestic 501(c)(3) “Friends of” organization to access donations from generous public support in the U.S.
What is a “Friends of” Organization?
A U.S. friends of organization or “FO,” is a domestic 501(c)(3) organization setup by a supporters of a foreign charity for the purpose of soliciting American donors. Those U.S. contributions are then granted to the foreign charity. It is less burdensome for a FO to be classified as a public charity because private foundations have more cumbersome requirements when it comes to international grants. For a “Friends Of” to be classified as a public charity, it must meet the public support test, or be a supporting organization of another public charity .
By making contributions to a FO, donors are able to enjoy the benefit of tax deductibility while supporting their favorite international cause. The “Friends of” name is a colloquial term used to easily identify the U.S. charity’s connection with the foreign entity.
Internal Revenue Service (IRS) Requirements
American FOs are tax-exempt under Code Section 501(c)(3). Friends of organizations are required to function independently of the foreign organizations they sponsor per US tax law.
The governing boards of these FOs must supervise its operations and must maintain control over grant-making and financial decision-making. The Friends of organization’s Board is not permitted to delegate control of its operations or grant-making to the foreign charity it supports.
The formal legal arrangement is roughly the same as one between a US charitable foundation and a grantee of a foreign nonprofit organization.
For a friends of relationship to work, there must be an understanding of the necessity and function of the US FO’s board of directors.
Also, there must be procedures for approving the transfer of funds from US Friends organization donors to the foreign organization. This is in order to reconcile the necessary legal separation with the close working relationships between the foreign organization and the US Friends of organization.
Creating a “Friends of” Organization
Creating an FO is similar to creating any other 501(c)(3) organization (i.e., incorporation, applying for tax exempt status, annual reporting, restrictions on lobbying and political intervention, etc.) but with a few complexities.
Under U.S. tax law, FOs must be operated independently of the foreign organization which they support. The IRS will not grant tax exempt status to FO organizations which appear to be mere conduits of a foreign entity.
Therefore, it is important that the FO take care that their messaging, control of funds, corporate governance, and grant making procedures are independent from the foreign charitable organizations which they support.
To be successful, the FO must have individual autonomy to manage its own affairs.
- First, the FO should have a distinct charitable purpose which complies with the requirements under Internal Revenue Code § 501(c)(3). Ideally, the mission will be similar to the international charity which the “Friends of” organization supports.
- Second, the FO must retain full control over its contributions. Meaning, donations should not be restricted or earmarked to be given to the foreign organization.
- Third, the FO should be controlled by persons independent of the foreign organization which the “Friends of” organization supports.
- Additionally, the “Friends of” organization must take extra caution with its grantmaking. Grants should be made in strict compliance with the “Friends of” organization’s international grant making procedures and its tax exempt purposes. Grants should be made only to support/fund specific projects or programs of the the foreign entity, and not to provide general support to the foreign organization . Finally, grants should be made only by exclusive power of the “Friends of” organization itself, rather than by mandate of the foreign organization which it supports.
Operating a “Friends of” Organization
To ensure it is not perceived as a “mere conduit” of U.S. donor funds to the foreign charitable organization, the American friends of charity should take the following precautions:
- Draft its charter broadly to serve tax-exempt purposes and not restrict its giving to the foreign charity it was formed to support;
- Recruit a board of directors wherein the majority are independent from the foreign charity it plans to support
- Ensure its governing documents give its Board of Directors complete latitude in managing the relationship between the U.S. friends of charity and any other grantees.
- Create and adhere to established procedures that guarantee the discretion and independence of the U.S. FO organization
- Document funding applications, proposal reviews, funding decisions, and fund disbursement.
There is typically an ongoing tension between the desire to operate for the benefit of a foreign charity and the requirement that the U.S. “Friends of” organization operate independently. This can lead to disagreements and misunderstandings between the foreign charitable organization and the U.S. charity.
Accordingly, the “Friends of” organization must ensure it follows clear processes and procedures to demonstrate that it is not a mere conduit on behalf of the foreign charity that it supports. If the IRS determines that a “Friends of” organization is not independent and is acting as a mere conduit for diverting funds for the foreign charity, it may decide to revoke the U.S. tax-exempt organization’s 501(c)(3) status.