## Facts

- A charitable trust was formed in Alabama in 1982 to provide need-based scholarships to students at Butler County High School.
- The trust was funded with an initial corpus of about $135,000 and earned roughly $6,600 annually in investment interest.
- Each year, the trust spent about $6,000 of its income on scholarships selected based on economic need.
- Trustees served without compensation and also assisted recipients by arranging summer employment and introducing recipients to local business and community leaders.
- The organization was tax-exempt under I.R.C. § 501 and classified as a private foundation under I.R.C. § 509.
- The IRS determined the trust was not a “private operating foundation” and denied operating foundation classification.
- The trust sought declaratory judgment in the Tax Court under I.R.C. § 7428 to overturn the IRS determination.

## Issues

1. Whether the trust’s scholarship program and related hands-on activities constituted “qualifying distributions” made directly for the active conduct of exempt activities under I.R.C. § 4942(j)(3) and Treas. Reg. § 53.4942(b)-1(b)(2)(ii).
2. Whether the trust satisfied the regulatory “endowment test” required for operating foundation status under I.R.C. § 4942(j)(3).

## Decision

- The Tax Court entered declaratory judgment for the trust.
- The court held the trust qualified as a private operating foundation under I.R.C. § 4942(j)(3).
- The court concluded the scholarship program expenditures were qualifying distributions attributable to the trust’s direct conduct of an educational program.
- The court found the trust met the endowment test based on its distribution pattern relative to its assets and income.
- The IRS adverse determination was overturned.

## Legal Principles

- A private foundation qualifies as a “private operating foundation” if it makes qualifying distributions directly for the active conduct of activities constituting its exempt purposes and satisfies one of the statutory/regulatory mechanical tests (including the endowment test). See I.R.C. § 4942(j)(3).
- “Qualifying distributions” can include direct program expenditures, including properly administered scholarship payments to individuals, when attributable to the foundation’s own active conduct of an exempt activity. See Treas. Reg. § 53.4942(b)-1(b)(2)(ii).
- Operating foundation status depends on substance: whether the foundation directly conducts a charitable program rather than functioning primarily as a passive, investment-holding grant-maker.
- In a declaratory judgment action under I.R.C. § 7428, the Tax Court determines whether the organization satisfies the statutory classification requirements.

## Conclusion

A scholarship trust that directly administers a structured, need-based scholarship program, devotes a substantial share of its income to that program, and satisfies the endowment test may be classified as a private operating foundation under I.R.C. § 4942(j)(3), notwithstanding an adverse IRS determination.


Miss Elizabeth D. Leckie Scholarship Fund v. Commissioner, 87 T.C. 251 (1986)