Through the Looking Glass
in the April/May 2012 issue of the Charity Rating Guide &
In August of 2011 CharityWatch published
The Alice in Wonderland World of Charity Valuation, in which we
described a serious problem among many charities that raise and
distribute non-cash aid called gifts-in-kind (GIK). Charities are
responsible for determining the value of the GIK they receive, and
many have unfortunately chosen to inflate these values to levels
that far exceed what the same items would cost had they been purchased
by the charity rather than donated to it. The dollar values a charity
assigns to its GIK are then mixed together with its cash revenue
and expenses in its financial reporting, often making the nonprofit
appear to be larger and operating more efficiently than it actually
Shortly after CharityWatch published
our in-depth article on this widespread problem in the nonprofit
sector, the IRS asked at least one charity, Food for the Hungry
(FH), to verify its GIK valuations. A letter sent by the IRS to
FH gives donors a rare opportunity to peer through the looking glass
and see details that are too often hidden from public scrutiny.
Note: The letter provided to CharityWatch has FH's name and some
other names redacted and does not include attachments. FH declined
CharityWatch's request for a complete copy of the letter it received
from the IRS.
In its January 2012 letter, the IRS accuses
FH of purposely misleading the public and the IRS so that it could
raise more funds, and instructs the charity to amend its fiscal
2008 tax filing to devalue its GIK from the $75.7 million
it originally reported to just $92,633. The IRS also levied
a $50,000 penalty against FH and said that managers of the charity
could face additional penalties if they fail to correct the group's
fiscal 2008 tax filing. FH says in an official statement that its
tax form was accurate and told CharityWatch that it strongly disagrees
with the IRS's findings as of January 2012 and "will be cooperating
to resolve this matter with the IRS over the next year."
Barry Gardner, FH's Chief Financial Officer,
told the Chronicle of Philanthropy that "The values that
we claimed were in accordance with then-prevalent tax law and generally
accepted accounting principles." He indicated that newer accounting
rules that caused the charity to devalue its Mebendazole deworming
pills from $10.64 to $1.54 per tablet in later reporting years did
not yet apply when FH filed its fiscal 2008 tax form.
CharityWatch believes that FH and many
other international aid charities were violating the spirit of the
accounting guidance by valuing their GIK at many times more than
the cost at which these goods could be purchased from multiple sources.
While new accounting guidance has helped to restrict certain, very
extreme overvaluations, the underlying problem of charities inflating
the value of their GIK persists. For example, even FH's reduced
$1.54 per tablet valuation of its Mebendazole pills is still 77
times the two cent per tablet price at which it can be purchased
from multiple sources.
FH currently advertises on its own web
site that it can provide an individual with a year's supply of deworming
pills for as little as five cents. FH told CharityWatch that the
5 cents cited on its web site refers to "all costs associated with
supplying two doses of Albendazole [deworming medicine] to one child
for one year." This amounts to 2.5 cents per tablet which is 56
times the $1.40 per tablet value that FH said it used in its
recent financial statements.
CharityWatch has previously reported
that one way charities inflate contributions is by magically turning
a purchase into a donation. Some nonprofit executives have explained
off-the-record how it can be done: Charities like to receive donations
of certain types of products whose values are easy to inflate. When
a charity is not successful in soliciting donations of such products
in large volumes directly from donors or companies, it will purchase
them instead. The charity will then claim that what they paid for
these products was simply a "handling fee" and that the products
themselves were donated. Of course, these supposed "handling fees"
often exceed what a person would pay on the open market to purchase
the goods in question. By calling these transactions "donations"
instead of purchases, the charity is freed up to hugely inflate
the value of these products in its financial reporting.
After reviewing emails between FH and
commercial vendors of pharmaceuticals, the IRS alleges that before
FH purchased medicines it required the vendor to provide a donation
letter and documentation describing the sales or acquisition costs
as "fees." The IRS letter alleges that, "eager to make a sale,"
the drug vendor "was willing to provide whatever documents [were]
requested in order to facilitate the sale." For example, the IRS
refers to one email to a vendor showing that FH was to pay only
$35,000 for deworming medicines that it wanted to value at $21.3
million for financial reporting purposes.
The IRS asked FH to subtract $46.4 million
of claimed deworming pill donations from its total income and expenses
on its fiscal 2008 tax form. It is FH's position, according to the
IRS letter, that all of the deworming pills in its 2008 tax form
were properly documented donations rather than purchases and that
any fees paid to vendors were "handling or service fees." In addition,
according to the IRS letter, FH said that its accounting firm reviewed
full documentation on the GIK, including the valuations, and gave
the charity a clean audit opinion.
The IRS also accuses FH of incorrectly
taking credit for another charity's distribution of GIK aid. For
example, FH reported as income and expense the full $1.6 million
value of GIK that Project Hope in Virginia sent to its personnel
in Nicaragua even though FH "was involved only to the extent that
[it] was paying for the shipping costs and arranging for the shipping,"
alleges the IRS.
The IRS letter alleges that FH overvalued
its GIK in order to claim in its fundraising materials that it "could
multiply any donations it received; for example it could make grants
of $21 for every dollar donated…" Other aid charities make similar
claims. For instance, World Vision currently states in bold
on its web site: "Your gift, in partnership with supplies from
top pharmaceutical companies, multiplies 12 times…" It also
allowed FH to appear better in rankings of charities that utilize
efficiency and overhead measurements, according to the IRS letter.
Note: FH's GIK valuations did not improve its CharityWatch rating
since we strip out GIK and "follow the cash" when calculating a
charity's financial efficiency.
It is particularly unfortunate that FH
would overstate its GIK to exaggerate its income since the charity
was a fairly efficient fundraiser during the 2008 fiscal year in
question. Once FH's reported $75.7 million in non-cash contributions
are subtracted and only cash contributions are considered, its fundraising
percentage for that year was relatively low, at 21% of donations
CharityWatch applauds the IRS effort
to improve charity accountability by asking FH to amend its tax
form. Charities should not be allowed to appear more efficient than
they actually are by reporting purchases as contributions, inflating
the value of their non-cash donations, or taking credit for other
charities' GIK merely because they paid for the shipping costs.
CharityWatch believes that these practices are far more widespread
than FH, and we encourage the IRS to ask other charities that are
exaggerating GIK to correct their tax forms.