C.4. Deductions from Gross Investment Income

(1) In determining net investment income, a private foundation may deduct from its

gross investment income all the ordinary and necessary expenses paid or

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incurred for the production or collection of gross investment income or for the management conservation, or maintenance of property held for the production of such income. This includes the following:

a. That portion of a private foundation’s operating expenses which is paid or

incurred for the production or collection of gross investment income.

b. Taxes paid or incurred under Section 4940 aren’t paid or incurred for the

production of gross investment income. In Lettie Pate Whitehead Foundation, Inc. v. U.S., 606 F.2d 534 (5th Cir. 1979), a foundation which was a charitable remainder beneficiary of a trust was denied a deduction for the trustee’s termination fee because it was a liability of the trust, not the foundation.

(2) Operating expenses include:

a. Compensation of officers,

b. Other salaries and wages of employees, and

c. Outside professional fees, interest, and rent and taxes upon property used in

the operations of the foundation.

Note: “Deduction Modifications” are set forth under a separate heading below.

(3) Where a private foundation’s officers or employees engage in activities on behalf

of the foundation both for investment and exempt purposes, compensation and salaries paid to such officers and employees must be allocated between the investment and exempt activities.

a. In Julia R. & Estelle L. Foundation Inc. v. Commissioner, 598 F.2d 755 (2d

Cir. 1979), the Court of Appeals for the Second Circuit held that a foundation wasn’t entitled to deduct its entire administrative expenses without allocating between its investment activities and its distribution activities.

b. Expenses which are considered in computing the tax imposed under Section

511 aren’t deductible for purposes of computing the tax imposed by Section 4940.

(4) Where only a portion of property is used to produce income subject to the excise

tax imposed by Section 4940, and the remainder is used for exempt purposes, the deductions must be apportioned between the exempt and nonexempt purposes.

(5) Any amounts paid or incurred for purposes other than the production or collection

of gross investment income or the management, conservation, or maintenance of property held to produce such income, aren’t allowable as a deduction under Section 4940. Thus, the deductions under the following Code sections aren’t allowable:

a. The charitable deduction provided by Sections 170 and 642(c);

b. The net operating loss deduction provided by Section 172; and

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c. The special deductions provided by Part VIII, subchapter B, Chapter 1 of the

Code (special deductions for corporations). See Treas. Reg. 53.49401(e)(1)(iii).

(6) A private foundation can’t deduct or otherwise consider interest it paid on a loan

in computing gross investment income where the loan was in turn loaned interestfree to another Section 501(c)(3) organization for the latter’s exempt purposes. See Rev. Rul. 74-579, 1974-2 C.B. 383.