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Eighth Circuit Partially Upholds Regulation Defining Educational Organizations

(Parker Tax Publishing June 2021)

The Eighth Circuit partially reversed a district court's holding that Reg. Sec. 1.170A-9(c)(1), which provides a definition of the term "educational organization" as described in Code Sec. 170(b)(1)(A)(ii), is invalid and instead held that the regulation is partially valid. While the Eighth Circuit agreed with the district court that the regulation unreasonably limits educational organizations to those principally providing "formal instruction," it found that the terms "primary function" and "merely incidental" in the regulation have a valid role in interpreting the statute. Mayo Clinic v. U.S., 2021 PTC 132 (8th Cir. 2021).


Mayo Clinic (Mayo), a Minnesota nonprofit corporation, oversees healthcare system subsidiaries and operates the Mayo Clinic College of Medicine and Science. Mayo is a tax-exempt organization under Code Sec. 501(c)(3). After an audit in 2009, the IRS concluded that Mayo owed unrelated business income tax (UBIT) on certain investment income it received from the investment pool it manages for its subsidiaries. According to the IRS, Mayo was not a "qualified organization" exempted from paying UBIT on unrelated debt-financed income under Code Sec. 514(c)(9)(C)(i). Qualified organizations include an organization described in Code Sec. 170(b)(1)(A)(ii). That section describes "an educational organization which normally maintains a regular faculty and curriculum and normally has a regularly enrolled body of pupils or students in attendance at the place where its educational activities are regularly carried on."

The IRS determined that Mayo did not meet the requirements of Reg. Sec. 1.170A-9(c)(1), which provides a definition of an educational organization described in Code Sec. 170(b)(1)(A)(ii). Under Reg. Sec. 1.170A-9(c)(1), an educational organization is described in Code Sec. 170(b)(1)(A)(ii) "if its primary function is the presentation of formal instruction and it normally maintains a regular faculty and curriculum and normally has a regularly enrolled body of pupils or students in attendance at the place where its educational activities are regularly carried on....It does not include organizations engaged in both educational and noneducational activities unless the latter are merely incidental to the educational activities."

Mayo paid the tax and brought a refund action in a district court. In Mayo Clinic v. U.S., 2019 PTC 295 (D. Minn. 2019), the district court held that Reg. Sec. 1.170A-9(c)(1) is invalid because it adds requirements -- the "primary function" and "merely incidental" tests - that Congress intended not to include in the statute. The district court relied on the principle expressed in Russello v. U.S., 464 U.S. 16 (1983), that when Congress includes particular language in one section of a statute but omits it in another, a court interpreting the statute should presume that Congress intended a different meaning. The district court compared educational organizations as defined in Code Sec. 170(b)(1)(A)(ii) with the organizations described in Code Sec. 170(b)(1)(A)(iii) -- organizations the principal purpose or functions of which are the providing of medical or hospital care or medical education or medical research -- and determined that under the Russello principle, Congress unambiguously intended to exclude from subsection (ii) the "primary purpose or function" test it included in subsection (iii).

The government appealed to the Eighth Circuit, arguing that Reg. Sec. 1.170A-9(c)(1) is a valid interpretation of Code Sec. 170(b)(1)(A)(ii) and that, applying the regulation, it was entitled to summary judgment because Mayo was not an educational institution as a matter of law. Mayo insisted that the regulation is invalid and argued that Code Sec. 170(b)(1)(A)(ii) unambiguously defines the term "educational organization" using the criteria of faculty, curriculum, students, and place.


The Eighth Circuit reversed the district court and held that Reg. Sec. 1.170A-9(c)(1) is valid, but only in part. The Eighth Circuit found that although the Russello principle is relevant in determining Congress's intent, it is not controlling, and the court concluded that the district court failed to give sufficient consideration to the origins of the statute and the regulations at issue and the manner in which the current statutory provisions have been added to the Code and modified over more than a century.

In the court's view, the terms "primary function" and "merely incidental" in Reg. Sec. 1.170A-9(c)(1) have a valid role in interpreting the statute. The court reasoned that an "educational organization," as that term is used in Code Sec. 170(b)(1)(A)(ii), must be organized and operated exclusively for educational purposes under Code Sec. 501(c)(3), and the court noted that the settled judicial interpretation of "organized and operated exclusively" includes organizations whose "primary purpose" is one or more qualifying charitable uses and whose noncharitable activities are "merely incidental" to those purposes. According to the court, Congress has retained this "organized and operated exclusively" requirement for more than a century, obviously aware of the judicial non-literal construction of the word "exclusively." Thus, in the court's view, it was reasonable that the term "educational organization" be construed as one that is "organized and operated exclusively for" one or more qualifying charitable uses.

However, the court found that the "formal instruction" requirement in Reg. Sec. 1.170A-9(c)(1) has no long history of congressional acceptance. Further, the court said that the "primary purpose" and "merely incidental" requirements do not establish the validity of the restrictive formal instruction requirement. To the contrary, the court found that a century of judicial decisions, as well as earlier versions of the regulations, establish that a tax exempt educational purpose includes, for example, nonprofit educational magazines and a museum dedicated to educating the public. The court further found that the current rules in Reg. Sec. 1.501(c)(3)-1 interpreting the term "organized and operated exclusively" include "educational" in the list of qualifying charitable purposes and carry forward this broad view of a tax-exempt educational purpose. The court also rejected Mayo's argument that Code Sec. 170(b)(1)(A)(ii) provides an unambiguous definition of educational organization. In the court's view, the statutory language does no more than limit the broader universe of organizations that are tax exempt under Code Sec. 501(c)(3) to organizations that are organized and operated exclusively for educational purposes.

Having determined that Code Sec. 170(b)(1)(A)(ii) is unambiguous in its requirement that the taxpayer be an educational organization, i.e. a tax-exempt organization under Code Sec. 501(c)(3) whose primary activity is education, the court turned to its application to Mayo. The court explained that the issue was whether Mayo's overall purpose and operations establish that it is organized and operated exclusively for educational rather than other purposes. On this issue, the Eighth Circuit remanded to the district court after finding that such a difficult and fact-intensive determination was not possible on the summary judgment record before it.

For a discussion of Code Sec. 501(c)(3) organizations, see Parker Tax ¶60,502.

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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