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Practice Tips
PRACTICE TIPS By: Lyndsey L. Lee
Lewis Thomason, P.C.
Can a tax-exempt organization under Section 501(c)(3) be a multimember Tennessee LLC? It depends.
On October 21, 2021, the IRS issued Notice 2021-56 (the “Notice”),1 the first formal guidance from the Treasury Department or the IRS addressing the requirements for recognition of LLCs as federally tax-exempt organizations under Sections 501(a) and 501(c)(3).2 The Notice provides that in order to obtain tax-exempt status under Section 501(c)(3), an LLC must (a) submit IRS Form 1023, (b) satisfy the general requirements under Section 501(c)(3),3 (c) represent that all provisions in its articles of organization and operating agreement are consistent with applicable state LLC law and are legally enforceable,4 and (d) the LLC’s articles of organization and operating agreement must include: 1. Provisions requiring that each member of the LLC be either a tax-exempt organization under Section 501(c)(3), a governmental unit, or wholly owned instrumentalities of a state or political subdivision thereof; 2. Express charitable purpose and charitable dissolution provisions; 3. If the LLC is a private foundation, the express provisions described in Section 508(e)(1); and 4. An acceptable contingency plan (such as suspension of its membership rights until a member regains Section 501(c)(3) status) in the event that one or more member(s) cease(s) to be a Section 501(c)(3) organization, a governmental unit, or a wholly owned instrumentality of a state or political subdivision thereof.5 Helpfully, the IRS website provides “Sample Questions” that can be a useful guide for ensuring that the organizational documents contain each of the required provisions. The Sample Questions even contain specific suggested language that you can use verbatim for the express charitable purpose and charitable dissolution provisions.6
So which Act governs in Tennessee?
The Tennessee practitioner organizing a multi-member tax-exempt LLC would likely turn first to the Tennessee Revised Nonprofit Limited Liability Company Act (the “Nonprofit LLC Act”).7 However, she would quickly discover that Tennessee’s Nonprofit LLC Act limits nonprofit LLC status under Tennessee law to single member LLCs.8
The Notice acknowledges that it is unclear whether in states where a nonprofit LLC act has been enacted, such as Tennessee, a tax-exempt LLC would be required to form under the state’s nonprofit LLC act or whether tax-exempt LLCs would be permitted to form under the state’s regular LLC act. Interestingly though, Tennessee’s statutory framework seems to specifically allow an LLC formed for a nonprofit purpose to be formed under Tennessee’s Revised Limited Liability Company Act (the “LLC Act”),9 rather than the Nonprofit LLC Act.
Under Tennessee’s LLC Act, every LLC may “engag[e] in any lawful business,”10 and “business” includes “every trade, occupation, profession, investment activity, and other lawful purpose for gain or the preservation of assets, whether or not carried on for profit.”11 As such, it appears that multiple members may join together to organize a tax-exempt LLC under the Tennessee LLC Act, even though such an organization would not be permitted under Tennessee’s Nonprofit LLC Act.
Planning for the future.
The prudent practitioner will recognize there is a looming threat that the tax-exempt LLC she organizes today may not meet all the requirements of both federal tax law and Tennessee LLC law tomorrow. The Notice sets forth current standards that an LLC must satisfy to achieve Section 501(c)(3) status, but it does not have the finality of a statute or even a regulation. In fact, approximately half of the Notice is a request by the Treasury Department and the IRS for public comments regarding the standards set forth in the Notice, including a lengthy list of specific questions on which it hopes to receive public comments. Of particular note to Tennessee practitioners is the request for public comment on whether tax-exempt LLCs would be permitted to form under the state’s regular LLC act in states where a nonprofit LLC act has been enacted. To account for whatever future guidance the Treasury Department or IRS may provide regarding this issue, Tennessee LLC organizers would be wise to include provisions in the LLC’s articles of organization and operating agreement mirroring the restrictions imposed upon Tennessee nonprofit LLCs.12
Keep an eye out for future guidance as to whether the Treasury Department or IRS broadens the scope of such guidance to LLC seeking tax-exempt status under paragraphs of Section 501(c) other than 501(c) (3). For now, organizations seeking to rely upon the Notice will have to stick to religion, charity, science, testing for public safety, literacy, educational purposes, amateur sports competition, or the prevention of cruelty to children or animals.
1 IRS Notice 2021-56, https://www.irs.gov/pub/irs-drop/n-21-56.pdf. 2 Unless otherwise specified, all section references are to the Internal Revenue Code of 1986, as amended, 26 U.S.C. § 1 et seq. 3 Notice 2021-56, section 3.01. 4 Id., section 3.03. If an LLC is formed in a state that prohibits the addition of these provisions to the articles of organization, this requirement will be deemed satisfied if the operating agreement includes these provisions and the articles of organization and operating agreement do not include any inconsistent provisions. However, that is not an issue under current Tennessee law. 5 Id., section 3.02. 6 Exempt Organization Sample Questions – Limited Liability Company, https://www. irs.gov/charities-non-profits/other-non-profits/exempt-organization-samplequestions-limited-liability-company (last updated Oct. 22, 2021). 7 Tenn. Code Ann. § 48-101-801 et seq. 8 See Tenn. Code Ann. § 48-101-805. 9 Tenn. Code. Ann. § 48-249-101 et seq. 10 Tenn. Code Ann. § 48-249-104(a). 11 Tenn. Code Ann. § 48-249-102(3) (emphasis added). 12 See Tenn. Code Ann. § 48-101-806(a)-(c), (e).
