When you earn a dollar, you pay income tax and probably paid payroll or self-employment tax on it. When you spend what is left of the dollar after these taxes, you often pay a sales tax, property tax, or excise tax on the item purchased with the dollar. You may also pay an inflated price for the item or service that bakes in other taxes, such as state and local taxes. The result is that the one dollar earned is something less–way less–than one dollar.
While taboo to talk about, there is one group that is able to sidestep the whole process and earn and use a dollar for whom a dollar really means a dollar. The exceptions are nonprofits, which also includes churches.
Even the most devout believer can find it hard to justify a continued tax benefit for these organizations. In Houston alone, the local news has run articles about a church pastor who purchased a Lamborghini for his spouse, a church that took COVID funds despite having millions of dollars in liquid assets, and even a major investigation of several church leaders who dodge paying property taxes on their upscale luxury residences. This diminishes the tax base and shifts the tax burden to those who are not in this private club while directly benefitting those who are in the club.
This brings us to Community Worship Fellowship v. United States, No. 19-417T (Fed. Cl. Oct. 23, 2025). The case involves the IRS’s revocation of a church’s 501(c)(3) status where family members controlled all financial decisions, set their own salaries without written contracts, and used donated funds for luxury goods and travel without maintaining records of organizational purpose. The case points out the issue and leaves one wondering how this all-to-common fact pattern could even come about–and should there even be such a thing as a nonprofit in these days?
Contents
Facts & Procedural History
The founder started the organization in 1998 after leaving a megachurch in Oregon. He incorporated as a nonprofit and applied for federal tax-exempt status under Section 501(c)(3). The IRS approved the application and granted both 501(c)(3) status and recognition as a church.
More than a decade later, in September of 2016, the IRS sent a church tax inquiry notice expressing concern that assets were being used for personal benefit. The organization did not respond. After sending additional notices without response, the IRS conducted an audit for tax years 2013 through 2016.
The audit revealed that during those four years, the organization received $1,093,560 in donations from member tithes and offerings. It spent $1,083,688 of that money. Of the approximately $950,000 disbursed by check, about $933,000 (98 percent) went to the founder’s extended family. The founder and his wife alone received approximately $784,000.
The organization’s membership consisted almost entirely of the founder’s immediate and extended family. The founder served as pastor. His son served as associate pastor. The founder’s wife handled full-time pastoral duties but was not formally employed. The council of elders consisted of the founder’s wife, his son, and the parents of various children-in-law who had married into the family.
The founder and his wife controlled the organization’s single bank account and credit card. They had exclusive authority over all financial decisions. Credit card statements showed purchases at Nordstrom, Saks Fifth Avenue, and Fur Factory. The organization bought Prada handbags, $1,500 worth of jewelry, $1,050 worth of furs, and Chanel fragrances. It paid for trips to Paris, Hawaii, and Disneyland. It paid for golf outings, spa visits, and restaurant meals. It paid for home improvements including renovations to prevent foreclosure on a family member’s house and a playscape and pool slide at the founder’s residence.
The organization also issued numerous checks labeled as “gifts,” “loans,” “reimbursements,” and “benevolence” to family members. It spent nearly $14,000 paying off the founder’s personal credit card. It issued $85,400 in checks for “taxes” or “loan for taxes” to family members. It made monthly boat payments for the founder’s unemployed son.
The organization kept no written employment contracts, no records of daily activities or services performed, no documentation of loan terms or purposes, no receipts for travel or purchases, and no policies governing disbursements. When asked how the organization tracked expenses, the founder responded: “Just the checks themselves.”
In December 2018, the IRS revoked the organization’s tax-exempt status. The IRS determined that earnings inured to the benefit of private individuals and that the organization operated for private interests rather than exempt purposes. The organization filed suit in the U.S. Court of Federal Claims challenging the revocation. After discovery, the government moved for summary judgment.
The Private Inurement Under Section 501(c)(3)
While the IRS is extremely active when it comes to small businesses, the IRS is not very active in the non-profit space. This is due in part to the sensitive nature of having a government agency regulate individuals and organizations in this space. It brings in everything from concepts about separation of church and, for churches, whether the state can even regulate a religious organization at all.
The IRS does have a few tools it can use to regulate non-profits. Section 501(c)(3) exempts organizations from federal income tax if they are organized and operated exclusively for religious, charitable, or other specified purposes. To qualify, an organization must satisfy both an organizational test (what the governing documents say) and an operational test (what the organization actually does).
The operational test contains an absolute prohibition: “no part of the net earnings” may inure “to the benefit of any private shareholder or individual.” This language is not a balancing test or a reasonableness standard. Courts have consistently held that any inurement, no matter how small, disqualifies an organization from tax-exempt status.
The Ninth Circuit explained: “The term ‘no part’ is absolute. The organization loses tax exempt status if even a small percentage of income inures to a private individual.” Church of Scientology of California v. Commissioner, 823 F.2d 1310, 1316 (9th Cir. 1987). Another court stated plainly: “The amount or extent of the inurement or benefit is not relevant.” Freedom Church of Revelation v. United States, 588 F. Supp. 693, 697-98 (D.D.C. 1984).
This is referred to as private inurement. Inurement typically involves transactions between the organization and insiders who can control or influence decisions. These insiders include founders, substantial contributors, board members, and officers. The concern is that these individuals might use their control to divert resources for personal benefit.
The line is not a clear one. Not every payment to an insider constitutes inurement. Tax-exempt organizations may compensate employees, including founders and officers. The regulations recognize that “ordinary and necessary expenditures” incurred during operations do not constitute private inurement. Organizations must pay salaries to function. Reasonable compensation for services actually rendered does not violate the prohibition.
The question is one of degree. When does compensation cross the line into prohibited inurement? Courts have examined various factors for this, such as whether the recipient controls the organization, whether compensation is set independently, whether services are documented, and whether safeguards prevent self-dealing.
When Insiders Control Church Finances
The absence of enforcement is evident in the few church-tax cases that have gone to court. Even in cases where there is clearly a problem, the IRS has struggled to really enforce the tax laws. The church cases where a family controls the churches are examples, as with this current case.
Family control heightens scrutiny. When family members dominate an organization’s board and management, the potential for self-dealing increases. The Ninth Circuit addressed this scenario in Bubbling Well Church of Universal Love v. Commissioner, 670 F.2d 104 (9th Cir. 1981). There, a single family constituted the organization’s only employees and directors. Family members determined the salaries of relatives serving as ministers. No evidence documented the work performed in exchange for compensation.
The court found that this familial control, combined with absence of evidence regarding work performed, created both potential for abuse and actual private inurement. The court explained that while family relationships do not automatically disqualify an organization, they require stronger evidence that payments are legitimate compensation rather than disguised distributions.
Organizations with family control cannot simply assert that compensation is reasonable. They must provide concrete evidence justifying amounts paid. This evidence should include written employment contracts specifying duties and compensation, contemporaneous records showing work performed, documentation of how compensation levels were determined, and evidence of independent review or approval by persons without conflicts of interest.
The absence of documentation is particularly problematic when combined with insider control. Courts have repeatedly held that inadequate recordkeeping prevents an organization from demonstrating proper operation. As one district court explained: “An organization that fails to keep records adequate to determine the full nature of its operations cannot meet its burden to show that its operations do not inure in part to the private benefit of its officers.” Church of Gospel Ministry, Inc. v. United States, 640 F. Supp. 96, 98-99 (D.D.C. 1986).
Applying the Private Inurement Test
The court in this case found multiple bases for concluding that earnings inured to private benefit. It did not have to dig very deep to do so.
First, the founder’s and his son’s compensation alone constituted inurement. Neither had written employment contracts. The organization maintained no policies for setting compensation. Each year, the founder determined his own salary and bonus, then presented these figures to members for approval. He admitted that he alone approved his 2016 bonus.
The council that supposedly reviewed compensation consisted entirely of extended family. The IRS determined this council possessed no real authority. The founder and his wife controlled the organization’s finances. Without documentation of services performed or evidence of independent review, the compensation arrangement violated the inurement prohibition.
Unlike businesses and individuals who keep records in case of an IRS audit, the organization did not provide the IRS with any contemporaneous records of daily duties, ministerial activities, or services performed. When asked to substantiate work done, the organization offered only an after-the-fact list: one wedding, some baptisms, and seven baby dedications. All but one of these ceremonies involved family members. This minimal documentation did not support the $784,000 paid to the founder and his wife over four years for the audit.
Second, numerous disbursements beyond compensation clearly benefited family members personally. The organization used its credit card to buy luxury goods including Prada handbags, jewelry, and furs. It paid for extensive travel to Paris, Hawaii, and Disneyland. It paid for golf outings, spa visits, and restaurant meals. The organization maintained no documentation showing these expenditures served organizational purposes.
When questioned about these purchases, the founder repeatedly admitted they were personal. He agreed that Disneyland trips were personal and “should have been something that people did on their own.” He agreed that jewelry purchases, fragrances, and gift payments to family members were personal. He stated that charges for activities like Super Duck Tours “would be a personal transaction.” These admissions eliminated any genuine factual dispute about personal use of organizational funds.
Third, the organization made numerous other payments to family members without documentation or oversight. It spent nearly $14,000 paying off the founder’s personal credit card. When asked how payroll could be applied to a personal credit card, the founder responded: “I don’t know what to say.” The organization issued $85,400 in checks for “taxes” or “loan for taxes” to family members. The founder stated these would be “paid back as quickly as we could,” but provided no evidence of repayment.
The organization issued personal loans to members without written criteria, application processes, terms, or documentation of purposes. The founder admitted the organization had been “doing things wrongly” by allowing these loans. It issued checks with blank memo lines to family members. It made “benevolence” payments to family members experiencing financial hardship without any policy, eligibility criteria, or proof of need. It made monthly boat payments for the founder’s son.
The Organization’s Defense and the Court’s Response
The case reveals that this conduct persisted for years with no oversight until the IRS conducted its audit. Audits of nonprofits are relatively rare. Had the IRS not examined the organization’s finances, the practices would likely have continued indefinitely.
When questioned during the audit and litigation, the organization maintained that its operations were proper. This is evidenced by the arguments it raised in defending against the revocation.
The organization argued that even if documentation was imperfect, evidence of legitimate religious activities should demonstrate that operations served exempt purposes. The court rejected this argument. The inurement test does not balance proper uses against improper uses. Evidence of appropriate use of some funds does not negate evidence of inurement for other funds. Because the statutory language “no part” is absolute, any inurement disqualifies the organization regardless of other beneficial activities.
The organization submitted affidavits from the founder and his wife attempting to cast operations in a better light. But these affidavits made only general statements about religious activities. They did not explain individual purchases or dispute specific instances of inurement. The court refused to credit vague affidavits over the founder’s detailed deposition admissions. Courts need not accept conclusory statements that contradict specific prior testimony.
The court concluded that the record established at least some earnings inured to private benefit during the audit period. It also found that none of the organization’s arguments or additional evidence rebutted this conclusion. The court held that the government was entitled to summary judgment. It upheld the IRS’s revocation of 501(c)(3) status.
The Takeaway
This case shows why the boundaries between organizational and personal finances must be drawn. Organizations under family control require heightened scrutiny and must prove they operate exclusively for exempt purposes rather than private benefit. The absolute nature of the private inurement prohibition leaves no room for balancing good works against personal benefits. Organizations that allow insiders to set their own compensation, make undocumented disbursements, use organizational resources for luxury purchases without documentation, issue loans without terms, or operate without independent financial controls risk losing tax-exempt status entirely. Organizations facing IRS scrutiny of their exempt status should understand that inadequate documentation combined with insider control creates a presumption of private benefit that is difficult to overcome, even when it involves tax litigation with the IRS.
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