IRS Reviewing Corp. Tax Status

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In a skirmish that could cost credit unions millions of dollars, the Internal Revenue Service is reviewing the tax exempt status for Constitution State Corporate CU.

The IRS has been in Connecticut over the past two years and audited as many as 18 natural-person credit unions regarding possible liability for the Unrelated Business Income Tax, of UBIT, which is assessed tax-exempt entities engaged in activities unrelated to their original tax exemption.

UBIT is one of three issues being looked at with respect to Constitution State Corporate, according to Michael Kinne, chief financial officer of the Connecticut corporate and who has been in discussions with the federal agency.

The major issue, which could have much broader ramifications, is whether a state-chartered corporate credit union, organized as 501 (C) 14 entity under the Internal Revenue Code, is eligible for the federal tax exemption granted natural-person credit unions. The IRS is apparently questioning whether the portion of the tax code enacted in 1951 granting natural-person credit unions the tax exemption should be extended to state-chartered corporates, all of which were created two decades later.

This issue is more important than the UBIT matter because if the IRS rules against Constitution State Corporate it could entail application of the 35% corporate tax rate, according to Michael Canning, executive director for the Association of Corporate CUs. "In this case it's really about the overall tax exemption," he said. "This issue is so much more important because it is the whole credit union tax exemption."

And the final issue is whether two for-profit CUSOs operated by Constitution State Corporate jeopardizes the federal tax exemption for the Connecticut Corporate.

The IRS field office is requesting guidance from the national office on all three of these issues, according to Kinne.

The corporate network felt so strongly about the tax challenge that they hired a powerful Washington lobbying firm, The Washington Group, to help it lobby the IRS. Officials with the Connecticut Department of Banking, which is also assisting natural-person credit unions on their UBIT fight with the IRS, are supporting Constitution State Corporate on the issue. An official with the department would not comment on individual cases but said they were aware of the ongoing dispute with the IRS and hoped the credit union side prevails.

Canning said they are optimistic the IRS will side with them in the end. "The issue is moving through the IRS. We feel confident," he said.

The corporate's executives are confident they will prevail in their case but have yet to receive any indication from the IRS on the issues. "We feel we do have a strong argument," said Kinne. "We do feel we have some strong arguments with the IRS."

Canning said they hope to receive a written ruling from the IRS on the issues in a so-called Technical Advice Memorandum. It's not clear when the IRS will issue such a ruling.

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