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Safeguarding Your Club’s Private Status: Why Advertising, Wedding and Websites Cause Problems

This winter, happy couples planning their perfect wedding are reading articles and visiting websites looking for the best wedding venue. Many of these magazines and wedding websites will point toward private clubs. For private clubs, this presents a prime opportunity to make additional revenue, something that may seem especially tempting as the country still struggles to emerge from the Great Recession.

However, this opportunity to earn extra cash may also cause a club to cross a fine line. In doing so, a club could potentially jeopardize its private status, and even its tax-exempt status. That fine line? Pursuing nonmember income through advertising, which can be fraught with potential problems.

This article will address advertising, both on and offline, for weddings and other nonmember events, and the dangers it can cause for your club’s tax-exempt and private status.

Tax-Exempt Status and Private Status Implications

When speaking to club leaders about maintaining a club’s tax-exempt status and private status, I often use the analogy: a club is like a train. That train must run on a track and that track has two rails. For most clubs, there’s the tax-exempt rail and the private status rail. If either rail is compromised, then the club could jump the track and face consequences, and no one wants to see that happen.

Tax-Exempt Rail

Under Section 501(c)(7) of the Internal Revenue Code, a club organized for pleasure, recreation or other non-business purpose is exempt from paying federal taxes on income generated from its membership. This is the first rail of a private club’s track.

In return for tax-exempt privileges, private clubs must ensure that they function not as a commercial business, but rather as a social entity whose members contribute to the costs of operations. Unlike hotels, restaurants or daily fee golf courses that depend on the public for business, private clubs must depend on their members and invited guests for the lion’s share of their revenue.

In 1976, Congress did pass a law that allows private clubs to earn some of their revenue from nonmembers. That law became the basis for the “15/35 percent rule” we hear about so often today.

Under this law, private clubs may earn up to 15 percent of their gross income from nonmember revenue. However, the new law maintained the requirement that private clubs should not function like “regular” businesses. By advertising for that additional revenue, private clubs can start to blur the lines between functioning under their exempt purpose and functioning like a commercial establishment.

Treasury Regulation 1.501(c)(7)-1(b) states:

“A club which engages in business, such as making its social and recreational facilities available to the general public … is not organized and operated exclusively for pleasure, recreation, and other non-profitable purposes, and is not exempt under section 501(a). Solicitation by advertisement or otherwise for public patronage of its facilities is prima facie evidence that the club is engaging in business and is not being operated exclusively for pleasure, recreation, or social purposes. …”

Though private clubs may earn up to 15 percent of their gross income from nonmembers, this Treasury Regulation could be used to question whether a club acts too much like a for-profit business. Even though advertising alone will not cost a club its tax-exempt status, it still could be used against a club, leading to a long and expensive defense to maintain that tax-exempt status.

While all club leaders know they must be careful to avoid eclipsing that 15 percent threshold, it may be difficult to do so when advertisements are out in the public. Once a club opens its doors to more nonmember events, saying “no” to that next wedding or event (even when that threshold is close) is not always so easy.

In some cases, a club may simply decide to “take the risk” for the immediate benefit of additional cash. Prudence should dictate against this, but sometimes that just does not happen.

The consequences of advertising are real, and all too common. Almost weekly, NCA reviews Internal Revenue Service (IRS) Private Letter Rulings that revoke private clubs’ tax-exempt statuses. While these letters usually point out that clubs have exceeded their allotted 15 percent of nonmember income, they also list additional deficiencies that impacted the decision. Having a “Public Welcome” sign or a web page soliciting brides and grooms eager to wed in “the perfect location,” are often cited as examples of exactly what not to do.

Even if your club can be certain to stay under that 15 percent threshold, advertising could lead to questions, issues and concerns from the IRS. But, there is an even bigger problem with advertising that often gets overlooked.

For obvious reasons, if a private club advertises and nonmember revenue is inching up to the 15 percent threshold, then it stands to reason there is a lot of nonmember traffic coming in and out of the club. Of course, for a club to maintain its private status, it must limit non- member use of the facilities. Naturally, these two competing interests can pose a challenge to club leaders who wish to supplement their club’s income by renting out their facilities.

When the public is continually allowed to use the club, the club becomes more like a hotel, restaurant, banquet hall or daily fee golf course (or a “place of public accommodation”) and that can impact the second rail of a private club’s track—the private status rail.

Private Status Rail

Private clubs exist for the social and recreational benefit of their members. That means the members are the ones who should be using the facilities. By holding to this, private clubs maintain their truly private status.

Of course, a club’s private status is the one thing that allows it to be distinctly different from other options in the community that invite in and solicit the public. Being truly private allows women’s, men’s and religious clubs to even exist. It also allows clubs to determine their internal rules and policies—something most club leaders definitely want to maintain. In short, a club’s private status is the most important thing it has, and it should be protected at all costs.

If a club loses its private status, it can run afoul of federal and state anti-discrimination laws. Traditionally, private clubs are exempt from these laws because they are, well, private and not open to the public. Unfortunately, advertising the club’s facilities to the general public can jeopardize that private status designation.

When courts try to determine whether a club is truly private, they look at the degree of nonmember use of the facilities. As such, nonmember use should always be minimized and monitored by club leaders. If a club is advertising to the public and welcoming the public onto the club’s property, it is not likely to be seen as minimizing nonmember use. Indeed, it is often seen as acting more like a public facility, or place of public accommodation.

Since places of public accommodation must comply with anti-discrimination laws, a private club that loses its private status will no longer be seen as different. What does this look like? Choices like maintaining a “men’s only” or “women’s only” club will no longer be an option. A club’s internal policies would need to be adapted to conform to the policies most places in the community must follow. This means mandatory elevators and ramps for those who are in wheelchairs, for example.

In the last few years, prominent clubs in New York, Arizona, and Washington State have all been hit with various discrimination claims. Since state anti-discrimination laws usually do not apply to private clubs, these cases should have been thrown out.

However, since the clubs in question advertised and allowed the facilities to be used by nonmembers, they were deemed not truly private and therefore, subject to public accommodation and anti-discrimination laws. As such, the lawsuits went forward and the results had a significant financial impact on each club.

Club leaders must always remember that extensive use of the facility by nonmembers goes against the purpose for which the club was created—to serve as a second home of sorts for its members. Again, while advertising alone may not cause your club to suffer the fate of the clubs mentioned above, the reality is you will greatly increase your likelihood of losing your private status if you advertise and your private status is challenged.

Don’t Forget Your Website

In the digital age, advertising can no longer be seen as something you do on the radio, television or in the newspaper. A private club’s website will see significant traffic, and e-newsletters to non-members touting the benefits of club membership or the availability of banquet facilities are the same as billboards.

Today, websites are often the primary source of information about almost any organization. Most traditional businesses use their websites to generate greater sales of their products and services. Of course, private clubs are not like traditional businesses. They are not open to the public, and their websites need to reflect that fact.

NCA has seen countless private clubs digitally advertising, and the courts and the IRS are now prepared to deal with advertising in the 21st Century. Indeed, adverse decisions against clubs have already been handed down citing websites that are “too open” or “promotional.”

Your website is a great tool to connect with your members, but it is also the first place nonmembers will go to find out about your club. That being the case, you should be aware of what you can and cannot have online. An example of what should not be on your website is the following:

“The club provides a pristine setting for your wedding ceremony or reception. Our stunning ballroom and breathtaking view of the golf course offers the perfect location for your special day. Located just minutes from the interstate, our venue is perfectly centralized to accommodate you and your guests. Plus, membership is not required to host an event at our beautiful club!”

Or: “If you would like more information on membership, or would like to set up a tour of the club, please fill out an inquiry form or you may contact us. We can also mail you a packet of all membership information prior to your tour, so we can answer any questions that you may have!”

While we strongly urge clubs to have a presence on the web, the club’s website should only be open to members through a password-protected login. Information available to the public should not include anything that could be seen as promoting membership or the club’s facilities. All information about the club and club activities should be carefully controlled to ensure that only members can view it, so as to minimize risk to the club.

So what should be on the website? For good examples, please refer to www.wfgc.org and www.thelacc.org.

Yes, to a nonmember’s eyes, these are simple homepages that don’t reveal too much information about the club. However, the information on the members’ only pages is exactly what you would expect from two of the most prominent clubs in the country. Most importantly, these sites are great examples of how it should be done to protect your club’s tax-exempt and private status.

Conclusion

Running a private club can be extremely complicated. Dealing with the needs of members and ensuring operational issues are handled can be daunting. Add to that questions raised by the board regarding revenue and the use of the club’s facilities and a general manager can get overwhelmed in a moment’s notice.

The cure for a club’s problems can certainly be more revenue. However, getting that additional revenue can lead to even more issues depending on how it is obtained.

Though every other entity in the country is entitled to advertise to generate income that just is not the case for private clubs. Private clubs are unique and special. And, most importantly, they are different. When clubs advertise, they can jeopardize their tax-exempt and private status and no amount of money raised from those advertisements can make up for the loss of either.

So, remind your members of the amenities the club has and encourage them to use every part of their club. After all, they joined the club to have a golf course, dining room, ballroom and spa all to themselves. If you advertise to let others in, why did your members spend all that money to join in the first place?

Advertising alone will not cost your club its tax-exempt status or its private status, but it is an extremely important factor when either is challenged. By advertising, club leaders can cause the two rails on which the club runs to buckle, even if just slightly. In the end, a small buckle from advertising can lead to bigger problems on the entire track and for private club leaders that is not a risk most should want to take.

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