                       T.C. Memo. 1997-424



                      UNITED STATES TAX COURT



             KJ'S FUND RAISERS, INC., Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 10279-96X.                Filed September 22, 1997.


     Stephen S. Ankuda, for petitioner.

     Ronald B. Weinstock, for respondent.



                        MEMORANDUM OPINION


     RAUM, Judge:   The Commissioner determined that petitioner

did not meet the section 501(c)(3)1 requirements for

qualification as an exempt organization, with the consequence


     1
        Unless otherwise indicated, all section references are to
the Internal Revenue Code in effect for the years at issue, and
all Rule references are to the Tax Court Rules of Practice and
Procedure.
                                - 2 -


that it is not exempt from income tax under section 501(a).

Specifically, the Commissioner determined that petitioner failed

to establish that it operated exclusively for exempt purposes

under section 501(c)(3).   This case is before us on a petition

for declaratory judgment pursuant to section 7428.     The parties

filed a joint stipulation as to the completeness and correctness

of the administrative record and submitted this case for

determination under Rule 122.

     Kristine Hurd and James Gould are the sole owners of KJ's

Place, a lounge where alcoholic beverages are served.     The term

KJ is obviously derived from the first initials of the first

names of the owners, Kristine and James.     In 1992, Kristine and

James created petitioner, KJ's Fund Raisers, Inc.     They had

petitioner incorporated as a Vermont Non-Profit Corporation on

October 12, 1992.   They also had petitioner file a Form 1023,

Application for Recognition of Exemption Under Section 501(c)(3)

of the Internal Revenue Code on November 11, 1992.

     Petitioner's business is selling Lucky 7 or other break-open

(or lottery or rip) tickets.    The lottery tickets are sold

exclusively at KJ's Place; no other locations were considered.

The tickets are sold during regular business hours by the owners

and employees of KJ's Place.

     Petitioner was organized purportedly to "raise funds for

distribution to charitable causes".     Petitioner expects the
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majority of its funds to come from the sale of lottery tickets

and does not plan to solicit public donations, but will accept

any donations offered.    There is no evidence in the record that

any such donations were ever offered or received.

     When petitioner was organized, Hurd and Gould were both

officers and directors.   She was president; he was vice

president, secretary, and treasurer.      The third member of the

board of directors was Karen Gould, a relative of James Gould.

     In April 1993, petitioner replaced its board of directors.

Of the three new members, two were related to Hurd or Gould.        The

board has been altered since then.      The current board has two

members unrelated to Hurd or Gould; the third is Kristine Hurd's

sister.   In a letter to the IRS, petitioner indicated that it

would further revise its board so that none of the members were

related to the officers of KJ's Place.      However, that change has

never been implemented.

     In 1993, petitioner paid Hurd and Gould compensation of

$6,000 each for bookkeeping, accounting and managerial services.

Petitioner also paid $6,000 in rent to KJ's Place.      The measure

of compensation was determined by Hurd and Gould.      On July 1,

1994, changes in Vermont's gambling laws took effect.      In

accordance with these changes, petitioner stopped paying rent to

KJ's Place and stopped paying wages to Hurd and Gould.

Currently, there are no business dealings between petitioner's
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directors and the owners of KJ's Place, and petitioner's books

are kept separate from the accounts of KJ's Place.

     From the proceeds of the sales of the lottery tickets,

petitioner has made grants to a variety of organizations.    Some

of these grants have been memorialized in local newspapers.      Of

six clippings sent to the IRS by petitioner, two have a photo of

Hurd or Gould in front of KJ's Place handing out a check on

behalf of petitioner.   One clipping notes that KJ's Fund Raisers

is a new corporation located at KJ's Place.    Another shows a

director of petitioner presenting a check and identifies the

proceeds as arising from rip-ticket sales at KJ's Place.

     In its preliminary adverse determination letter, issued on

June 7, 1994, the IRS indicated that the identity of the lounge

owners and the officers of petitioner put Hurd and Gould in a

position to control petitioner.     Petitioner responded as follows:

          With respect to control of the organizations, it
     may appear that all of KJ's Fundraisers, Inc.,
     fundraising activities can be controlled by the owners
     of the lounge due to the relationship between officers
     and directors of each. It is our opinion, however,
     that KJ's Fund Raisers, Inc. would fold without the
     original founders of the organization as officers and
     local charities would go unfunded. Therefore we do not
     view the appointment of the present officers as a
     function of control but more as a function of going
     concern.

     The IRS issued its final adverse determination letter on

February 27, 1996.   It stated:

          You have failed to establish that you are operated
     exclusively for exempt purposes under section
                               - 5 -


     501(c)(3). You have failed to establish that your
     operation will not result in more than incidental
     private benefit. Furthermore, for the period prior to
     July 1, 1994, you have failed to establish that your
     net earnings will not inure to the benefit of private
     individuals.

Petitioner seeks a declaratory ruling that, as of July 1, 1994,

petitioner is exempt from taxation under section 501(c)(3).

     Section 501(a) provides that "An organization described in

subsection (c) * * * shall be exempt from taxation under this

subtitle".   Subsection (c)(3) includes "Corporations * * *

organized and operated exclusively for * * * charitable * * *

purposes * * * no part of the net earnings of which inures to the

benefit of any private shareholder or individual".

     Section 1.501(c)(3)-1(a)(1), Income Tax Regs., requires that

for an entity to have exempt status it "must be both organized

and operated exclusively for one or more of the purposes

specified" in section 501(c)(3).   Respondent has conceded that

petitioner meets the organizational test.   Petitioner must

demonstrate that it operates exclusively for exempt purposes.

     Sec. 1.501(c)(3)-1(c)(1), Income Tax Regs., provides:

     An organization will be regarded as "operated
     exclusively" for one or more exempt purposes only if it
     engages primarily in activities which accomplish one or
     more of such exempt purposes specified in section
     501(c)(3). An organization will not be so regarded if
     more than an insubstantial part of its activities is
     not in furtherance of an exempt purpose.

An organization is not operated exclusively for exempt purposes

unless it serves "a public   rather than a private interest."
                               - 6 -


Sec. 1.501(c)(3)-1(d)(1)(ii), Income Tax Regs.   To meet this

requirement, the organization must demonstrate

      that it is not * * * operated for the benefit of private
      interests such as designated individuals, the creator or his
      family, shareholders of the organization, or persons
      controlled, directly or indirectly, by such private
      interests.

Id.

      Under the operational test, the organization's purpose,

rather than the nature of its activities, determines whether the

organization is entitled to tax-exempt status.   B.S.W. Group,

Inc. v. Commissioner, 70 T.C. 352, 356-357 (1978).   Even an

organization engaged in only one activity may have multiple

purposes for that activity.   Copyright Clearance Center, Inc. v.

Commissioner, 79 T.C. 793, 803 (1982).   A single nonexempt

purpose, if substantial in nature, will disqualify an

organization from qualification under section 501(c)(3).      Better

Business Bureau v. United States, 326 U.S. 279, 283 (1945).

Determining the purpose of the organization is a factual question

which concerns "both the actual as well as the stated purposes

for the existence of the organization and the activities it

engages in to accomplish those purposes."   Christian Manner

International, Inc. v. Commissioner, 71 T.C. 661, 668 (1979).

      Petitioner's case is factually similar to P.L.L. Scholarship

Fund v. Commissioner, 82 T.C. 196 (1984).   In that case, the

taxpayer was a nonprofit corporation formed to raise money for
                                 - 7 -


college scholarships.    It planned to raise money through the

operation of bingo games held at the Pastime Lounge, a lounge

owned by two members of the board of directors.    The other board

members consisted of an accountant and director of the lounge and

two "bingo players."     The board was self-perpetuating, with the

existing directors selecting future directors.     Id. at 197.

     The owners of the Pastime Lounge ran the bingo games during

regular business hours.    Employees of the Pastime Lounge

solicited orders for food and drink from the bingo players.

However, the accounts of the Pastime Lounge were kept separate

and distinct from those of the taxpayer.     Id. at 197-198.

     This Court held that the taxpayer had a nonexempt purpose

which was "substantial in nature"; i.e., to promote business at

the Pastime Lounge through the medium of the bingo games.        Id. at

199-200.   The Court based this conclusion in part on the identity

of the taxpayer's board of directors with the owners and

associates of the Pastime Lounge.    Since the owners controlled

the board and appointed its future directors, the Court reasoned,

the taxpayer's activities could be used to the advantage of the

Lounge.    Id. at 200.

     The taxpayer argued that the separate accounts and the fact

that the Lounge received nothing from the taxpayer for wages or

rent demonstrated that it was operated exclusively for an exempt

purpose.   The Court held otherwise:
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      A realistic look at the operations of these two entities,
      however, shows that the activities of * * * [the taxpayer]
      and the Pastime Lounge were so interrelated as to be
      functionally inseparable. Separate accountings of receipts
      and disbursements does not change that fact.

           * * * Since the   record in this case does not show that
      the * * * [taxpayer]   was operated exclusively for exempt
      purposes, but rather   indicates that it benefited private
      interests, exemption   was properly denied. [Fn. ref.
      omitted.]
Id.

      The manner in which petitioner is operated benefits private

interests, KJ's Place and its owners.    Like P.L.L. Scholarship

Fund v. Commissioner, supra, petitioner's lottery tickets are

sold at a single location, KJ's Place.    As in P.L.L. Scholarship

Fund v. Commissioner, supra, the lottery tickets are sold during

KJ's Place's regular business hours, their sale overseen by the

owners of KJ's Place, Hurd and Gould.    While in KJ's Place,

lottery ticket purchasers are solicited for beverages.    As in

P.L.L. Scholarship Fund v. Commissioner, supra, the accounts of

petitioner and KJ's Place are kept separate and apart.

      Despite these similarities, petitioner contends that two

factors distinguish it from P.L.L. Scholarship Fund v.

Commissioner, supra.   First, the board of directors is

responsible for running petitioner, and the majority of the board

members are not related to the owners of KJ's Place.    Second,

KJ's Place has allegedly lost money as patrons prefer to purchase

lottery tickets rather than beverages.
                               - 9 -


     Petitioner stresses that the board of directors, independent

of Hurd and Gould, controls the distribution of proceeds raised

by the sale of the lottery tickets.    While the board does decide

which charities will receive funds, it is clear from the record

that Kristine Hurd and James Gould control sales of the lottery

tickets as they relate to KJ's Place.    It is also clear that

their control is realistically independent of the board.    In a

protest letter to the IRS dated July 18, 1994, petitioner

concedes that the officers of KJ's Place appear able to control

petitioner but defend it as necessary.

     It is our opinion, however, that KJ's Fundraisers, Inc.
     would fold without the original founders of the organization
     as officers and local charities would go unfunded. * * *
     [Emphasis added.]

     Before July 1, 1994, Hurd and Gould received wages and KJ's

Place received rent from petitioner.    Although those practices

ceased and are not in issue here, the current board of directors

is composed of at least the majority of the same members who

allowed those amounts to be paid.    This strongly suggests that

Hurd and Gould are free to set policy for their own benefit

without objection from the board.    Nothing in the record since

July 1, 1994, indicates otherwise.

     Petitioner also contends that KJ's Place actually lost

money, since patrons preferred to buy lottery tickets rather than

use their money to purchase beverages.    Thus, petitioner argues,

there was no actual benefit.   While all facts must be accepted as
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true for purposes of a declaratory judgment, Rule 217,

conjectural statements such as the one above are entitled to no

such consideration.   Petitioner has presented no evidence that

KJ's Place lost money.    More important, KJ's Place has benefitted

from the publicity surrounding donations given by petitioner.     In

four of six newspaper articles or picture captions in evidence,

KJ's Place is pictured or mentioned, along with Hurd or Gould,

who are identified as the owners of KJ's Place rather than

officers of petitioner.

     Petitioner argues that the clippings are not paid

advertising and do not indicate the receipt of an actual benefit

by KJ's Place.   We find, however, that the publicity, which KJ's

Place would not have received but for petitioner's exclusive

association with the lounge, is a significant benefit.    Moreover,

the record discloses that there were other "clubs" or lounges in

the area where comparable gambling took place.   It is thus a fair

inference that one of the real purposes of establishing

petitioner in the first place was to induce customers with a

proclivity for this type of gambling not to desert KJ's Place in

favor of other clubs or lounges.   As a result of petitioner's

formation, KJ's Place, far from losing revenue, may indeed have

prevented at least a portion of its business from being taken

elsewhere.
                               - 11 -


       Petitioner engaged in the exempt activity of raising money

for charitable purposes.    Petitioner also operated for the

substantial private benefit of KJ's Place and its owners.      A

substantial nonexempt purpose thus characterizes its operation,

disqualifying it from exemption under sections 501(a) and

501(c)(3).    Better Business Bureau v. United States, 326 U.S. at

283; Copyright Clearance Center, Inc. v. Commissioner, 79 T.C. at

803.

                                Decision will be entered

                           for respondent.
