## Facts

- A network of related entities administered graduate medical and dental residency programs connected to the State University of New York at Buffalo’s medical and dental schools.
- Decision-making and day-to-day administration for the residency arrangement were centralized in a coordinating organization referred to as the “Consortium.”
- University Medical Resident Services, P.C. (UMRS) and University Dental Resident Services, P.C. (UDRS) were formed as New York professional service corporations to assist with administering the residency programs.
- Written agreements described UMRS and UDRS as having certain employer-type powers (including hiring and firing residents), but in actual operation the Consortium and/or the schools retained the meaningful control over the residency programs.
- UMRS and UDRS primarily performed payroll and related administrative functions for residents, acting as a paymaster for wages, benefits, and payroll taxes.
- UMRS and UDRS had no employees; their functions were carried out largely by employees of the schools or other related entities.
- UMRS and UDRS served only the schools and affiliated teaching hospitals involved in the residency system; those schools and hospitals were tax-exempt under I.R.C. § 501(c)(3).
- Each corporation’s organizing documents included § 501(c)(3)-type limitations and an asset-dedication clause directing assets on dissolution to the University or another § 501(c)(3) organization if necessary.
- UMRS and UDRS applied to the IRS for recognition as organizations exempt from federal income tax under § 501(c)(3), asserting they were integral to the Consortium’s exempt operations.
- The IRS issued final adverse rulings denying exemption.
- UMRS and UDRS petitioned the United States Tax Court for declaratory judgments under I.R.C. § 7428(a) to overturn the IRS determinations.

## Issues

1. Whether UMRS and UDRS qualified as organizations described in I.R.C. § 501(c)(3) (and thus exempt under § 501(a)), given their structure and actual activities as residency-program administrators and paymasters.
2. Whether UMRS and UDRS were operated exclusively for exempt purposes, or instead operated in a manner that conferred more than incidental private benefit on participating teaching hospitals or other non-charitable interests.

## Decision

- The Tax Court sustained the Commissioner’s final adverse rulings.
- The court held that UMRS and UDRS did not qualify for recognition as tax-exempt organizations under I.R.C. § 501(c)(3).
- The court denied the requested declaratory judgments under I.R.C. § 7428(a).
- Result: judgment for the Commissioner; UMRS and UDRS were not recognized as exempt under § 501(c)(3).

## Legal Principles

- To qualify under I.R.C. § 501(c)(3), an organization must be both organized and operated exclusively for one or more exempt purposes; the “operated exclusively” requirement is not met if more than an insubstantial part of the organization’s activities is not in furtherance of an exempt purpose.
- The operational test looks to the organization’s real-world activities and control structure, not merely to formal contract language or statements in corporate documents.
- A corporation formed to provide administrative or payroll services to other entities does not qualify for § 501(c)(3) status if its primary function is acting as a conduit or paymaster rather than carrying out charitable or educational activity itself.
- Even where the entities served are themselves tax-exempt, § 501(c)(3) requires that the applicant’s operations serve public, not private, interests; an arrangement that provides substantial nonincidental benefit to participating hospitals can defeat exemption under the private benefit doctrine.
- An asset-dedication clause and other organizing-document restrictions may be necessary features for exemption, but they do not cure a failure to satisfy the operational test.

## Conclusion

UMRS and UDRS were professional corporations created within a SUNY Buffalo residency arrangement in which the Consortium and schools held the real decision-making power, while UMRS and UDRS mainly handled payroll and related administrative tasks without their own employees. Seeking exemption as integral parts of a § 501(c)(3) system, they petitioned for declaratory relief after the IRS denied their applications. The Tax Court upheld the IRS determinations, concluding that the corporations’ actual operations did not meet § 501(c)(3)’s operational requirements and that their structure and activities provided more than incidental benefit to participating teaching hospitals, so exemption was properly denied.


University Medical Resident Services, P.C. v. Commissioner, T.C. Memo. 1996-251, 71 TCM 3130 (1996)