IRS

[Steve]

Oregon Case Could Signal Shift on Nonprofit ISPs

Rebecca Fairley Raney
NY Times 8/7/98


At a time when federal officials are voicing concerns about
disparity in access to the Internet, an Oregon group is being
investigated by the Internal Revenue Service in a case that could
determine whether the nation's community networks -- as many as 500
organizations that provide Internet access to the poor -- can keep
their nonprofit status. 

Oregon Public Networking, which provides Internet access to 12,000
people in rural southwestern Oregon, about 5,000 of whom meet
federal poverty guidelines, has been audited by the IRS and may lose
its tax-exempt status, said Shava Nerad, the group's technical
manager. Because of privacy laws, IRS officials could not confirm
whether an audit had been conducted, and Nerad declined to release
the audit report because it contains confidential information about
the organization. 

As evidence of the audit, Nerad provided a four-page letter from the
IRS dated May 7, 1997 and signed by Angela Wright, an IRS specialist
in exempt organizations. The letter requested copies of the
organization's documents for examination and said, in part: "We
examine returns to verify the correctness of income or gross
receipts, deductions, and credits and to determine that the
organization is operating in the manner stated and for the purpose
set forth in its application for recognition of exemption." 

Nerad said the auditors' final report was sent to IRS attorneys on
July 15 for a ruling. The issues involving nonprofit Internet
service providers are so new, she said, that the auditors requested
the ruling from IRS headquarters in Washington. 

While he declined to comment on this case, Marc Owens, director of
the IRS's exempt organizations division, said nonprofit
organizations that provide Internet access risk jeopardizing their
tax-exempt status if they cannot demonstrate that they operate
different from commercial Internet service providers. 

"The key question with regard to any Internet service provider is,
'What are you doing that is any different from the America Onlines
of the world?' " Owens said. 

For example, he said an organization can run into trouble for
collecting "donations" that actually constitute fees for service.
Also, a nonprofit Internet service provider must provide service in
a way that is either free or "substantially" below the prices charged
by commercial providers, Owens said. 

Oregon Public Networking offers Internet access for up to $10 per
month to those who meet federal poverty guidelines; some households
qualify for free service, while others can choose to pay $17 per
month for a better connection. In comparison, commercial Internet
service providers typically offer unlimited access for $19.95 per
month. 

OPN's Nerad said that the audit of the Oregon group found that 85
percent of the organization's income was "unrelated business
income," which means the income cannot be considered tax exempt
because it comes from fees for service. However, Diane Cornwell, a
partner with the accounting firm Arthur Andersen and a specialist in
tax-exempt organizations said this finding could be attributed to the
group's sliding-scale pricing structure. 

If fewer than 50 percent of the group's customers received free
service, Cornell said, the total income from people who pay higher
fees would constitute a significant portion of the organization's
income. She said one way to justify these figures is to show who is
using the service and how the money is spent. 

Paul M.A. Baker, an assistant professor of public policy at George
Mason University who studies community networks, said the Oregon
group's accounting methods are common among nonprofit Internet
service providers, noting that many provide some of their service at
market cost to subsidize service to the poor. 

"It's like going after a free clinic because they might be making
money," Baker said. 

However, Ada Rousso, a director with PriceWaterhouseCoopers who
previously worked in the chief counsel's office of the IRS, said
that the questions raised in the OPN case commonly arise in IRS
examinations of nonprofit groups. 

"Any tax-exempt organization would get that kind of review," she
said. "In order to maintain that status, there are many things you
can and cannot do." 

While the OPN audit may be routine, Arthur Andersen's Cornwell
pointed out that the outcome of this particular case could formulate
the basis for the government's policy toward other nonprofit
Internet service providers. 

"It would sound to me like they are trying to, quote, unquote, 'make
law,' " Cornwell said. "How hard the organizations fight may
ultimately have an impact on the policy or the ruling." 

Owens, the IRS director, acknowledged that dealing with nonprofit
Internet service providers "is an emerging issue for us." 

As part of its continuing education program, IRS officials said they
plan to release a training course for agents this week that will
teach them how to assess whether nonprofit community networks comply
with tax laws. IRS officials select an annual topic for training, and
nonprofit Internet access providers will be the focus this year. 

For its part, OPN has tapped the Colorado-based Association For
Community Networking, which has 100 members nationwide, for support
in its effort to maintain its nonprofit status. Richard Civille, a
member of the association's board, said that without tax-exempt
status, community networks could cease to exist. 

"We're pretty determined not to see this happen," Civille said. "We
cannot have a healthy information economy without equal access to
the Net. The role of community networks in helping to promote full
equity is growing. You kill community networks, and you create more
income disparity." 

That disparity has become an issue of increasing national concern.
Last week, the Commerce Department's National Telecommunications and
Information Administration released a study that reported growing
disparity between information "haves" and "have nots." The study
indicated that African American and Hispanic households lag behind
the national average for telephone penetration, personal computer
ownership and online access; and that households at the lowest
income levels are among the least connected. 

Meanwhile, the Clinton Administration is backing a program that would
expand access to the Internet by providing subsidized connections to
schools and libraries. This effort, commonly referred to as the
E-rate program, is paid for by fees imposed on telecommunications
companies, and is currently under scrutiny in Washington. 

Oregon Public Networking, based in Eugene, is fairly typical of
nonprofit community networks. It started in 1992 and operates on a
budget of about $500,000 a year. The group has installed about 40
computers for public access in senior centers, public housing
projects, homeless shelters and libraries in Lane County, an area
that is home to a state university and several logging towns. 

Besides offering public terminals and free or discounted Internet
access, Oregon Public Networking pays the long-distance telephone
charges of subscribers in the rural county so they can have dial-up
service to the Internet at local rates. The group's long-distance
phone bill to provide that service is $10,000 per month, Nerad said.
The group also teaches courses on cheap Internet access, including
one called "How to get on the Net for less than 50 bucks," which
trains students how to rig secondhand computer equipment to work on
the Internet. 

Last month, the group laid off two of its eight staff members, and
Nerad herself works for half-pay. She blames the audit, in part, on
the IRS's lack of familiarity with the Internet and community
networks such as OPN. 

"One of our biggest terrors is that this is going to land on some
bureaucrat's desk who doesn't know anything about the Internet except
what he's seen on the evening news," Nerad said. 

Copyright 1998 The New York Times Company
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