                  T.C. Memo. 1997-575



                UNITED STATES TAX COURT



VARIETY CLUB TENT NO. 6 CHARITIES, INC., Petitioner v.
     COMMISSIONER OF INTERNAL REVENUE, Respondent



Docket No. 9045-90.              Filed December 31, 1997.



     Petitioner was incorporated in 1970 to raise funds for
tax-exempt charitable organizations, primarily those
benefiting underprivileged children. Petitioner received a
favorable ruling letter in 1971. Much of petitioner’s
fundraising consisted of operating bingo games.
Petitioner’s treasurer (Z) and a member (P) were delegated
to supervise and operate the bingo games, respectively. Z
and P falsified records of the bingo games operations and
stole some of the proceeds. In fiscal 1986 petitioner was
indicted for violation of Ohio statutes authorizing
charities to conduct bingo games; petitioner paid an
attorney to represent it and Z. In fiscal 1987 local law
enforcement authorities brought a civil suit against
petitioner, Z, P, and another, on account of these bingo
games; one attorney answered the complaint on behalf of all
the defendants. In fiscal 1985 petitioner issued a $2,500
check to a tax-exempt charity for a specific project; the
charity decided not to engage in that project, endorsed the
check, and gave it to P; P then diverted the check instead
                                  -2-

     of returning it to petitioner. In fiscal 1984 and fiscal
     1985 petitioner paid $250 per bingo session rental for a
     bingo hall to a corporation in which Z and P each held 20-
     percent ownership interests. In 1990 respondent revoked
     petitioner’s favorable ruling letter, retroactive to the
     start of fiscal 1984, and determined deficiencies for fiscal
     1984, 1985, and 1986.

           1. Held: Z and P were “insiders” for purposes of the
     inurement provisions of sec. 501(c)(3), I.R.C. 1954 and
     1986.

          2. Held, further, Z’s and P’s theft of bingo proceeds
     was not an inurement of petitioner’s net earnings.

          3. Held, further, petitioner’s fiscal 1987 payment to
     an attorney was not an inurement for purposes of determining
     petitioner’s status for fiscal 1984-1986.

          4. Held, further, petitioner’s fiscal 1986 payment to
     an attorney was an inurement to Z, an insider.

          5. Held, further, P’s diversion of the $2,500 check
     was essentially a theft and not an inurement of petitioner’s
     net earnings.

          6.    Held, further, petitioner failed to prove that its
     $250 per   session rental payments for fiscal 1984 and 1985
     were not   excessive; thus petitioner failed to prove that the
     payments   were not inurements of petitioner’s net earnings to
     Z and P,   insiders.

          7. Held, further, respondent’s 1990 revocation of the
     favorable ruling letter back to the start of fiscal 1984 was
     not an abuse of discretion.



     Deborah J. Nicastro, for petitioner.

     Katherine Lee Wambsgans, for respondent.



                MEMORANDUM FINDINGS OF FACT AND OPINION

     CHABOT, Judge:     Respondent determined deficiencies in

Federal corporate income tax against petitioner as follows:
                                -3-




                Year1          Deficiency

                1984           $17,957
                1985            19,719
                1986             3,818
1
  Taxable years ending September 30 of each of the years in
issue. References in this opinion to petitioner’s fiscal years
are to years ending on September 30 of the indicated years.

     After concessions1 the issues for decision are as follows:

          (1)   Whether any part of petitioner’s net earnings

     inured to the benefit of private shareholders or

     individuals, within the meaning of section 501(c)(3).2




     1
          Petitioner does not dispute the correctness of
respondent’s notice of deficiency calculations of the deficiency
for any year as to which we hold petitioner was not tax-exempt.

     At trial, respondent contended that petitioner was not
exempt because petitioner failed the statutory inurement test and
also because petitioner failed the test of sec. 1.501(c)(3)-
1(c)(2), Income Tax Regs., to the effect that an organization is
not operated exclusively for one or more exempt purposes if its
net earnings inure in whole or in part to the benefit of private
shareholders or individuals. On opening brief, respondent notes
the overlap between the two contentions and states that its
argument “is confined to private inurement.” Thereafter,
respondent deals only with the statutory inurement test. We
treat this as respondent’s abandonment of the regulatory
operational test.
     2
          Unless indicated otherwise, all section references are
to sections of the Internal Revenue Code of 1954 or the Internal
Revenue Code of 1986 as in effect for the period of time referred
to.
                                  -4-

            (2)   If the answer to issue (1) is “yes”, then whether

     the retroactive revocation of the favorable ruling letter

     was an abuse of discretion.




                           FINDINGS OF FACT

     Some of the facts have been stipulated; the stipulation and

the stipulated exhibits are incorporated herein by this

reference.

     When the petition was filed in the instant case, petitioner

was an Ohio not-for-profit corporation, and its principal office

was in Cleveland, Ohio.

     The Variety Club charities were founded in 1936 to raise

money for disabled or handicapped children.    At the time of the

trial, there were about 80 Variety Club tents (chapters) in the

United States, Australia, France, Israel, Mexico, and

Switzerland.

     Petitioner was incorporated in Ohio on December 17, 1970.

Variety Club of Northern Ohio Tent No. 6 (hereinafter sometimes

referred to as the Club) was originally formed in the late 1930’s

in northern Ohio to benefit handicapped and disadvantaged

children.    The Club is an Ohio not-for-profit corporation.

Petitioner was organized by the Club for the specific purpose of

raising funds from the general public for various activities
                                  -5-

including the supporting of Ohio Boys Town and other charities

which deal primarily with underprivileged children.    As of the

time of the trial in the instant case, Ohio Boys Town was an

organization which respondent determined was exempt under section

501(c)(3).

     Petitioner applied for a favorable charitable exemption

ruling by an application dated January 27, 1971.    In this

application petitioner represented that no part of its net income

would inure to the benefit of any private shareholder or

individual.   To this application petitioner attached a copy of

its articles of incorporation, which provide in pertinent part as

follows:

          THIRD: This Corporation [petitioner] is organized
     exclusively for charitable, religious, educational and
     scientific purposes, including, for such purposes, the
     making of distributions to organizations that qualify as
     exempt organizations under Section 501(c)(3) of the Internal
     Revenue Code of 1954 as amended.

                      *   *   *   *     *   *   *

          FIFTH: No part of the net earning of the Corporation
     shall inure to the benefit of, or be distributable to its
     members, trustees, officers, or other private persons,
     except that the Corporation shall be authorized and
     empowered to pay reasonable compensation for services
     rendered and to make payments and distributions in
     furtherance of the purposes set forth in Article THIRD
     hereof.


     Petitioner’s articles of incorporation also provide as

follows with regard to petitioner’s indemnifying its officials

for legal expenses:
                          -6-

     NINTH: (A) The Corporation [petitioner] shall
indemnify a trustee, officer or employee or a former
trustee, officer or employee or any person who is serving or
has served at its request as a trustee, director, officer or
employee of another corporation (whether nonprofit or for
profit) against expenses actually and necessarily incurred
by him in connection with the defense of any pending or
threatened action, suit or proceeding, criminal or civil, to
which he is or may be made a party by reason of being or
having been such trustee, director, officer or employee,
provided:

          1. He is adjudicated or determined not to have
     been negligent or guilty of misconduct in the
     performance of his duty to the Corporation of which he
     is a trustee, director, officer or employee;

          2. He is determined to have acted in good faith
     in what he reasonably believed to be the best interest
     of such corporation;

          3. In any matter the subject of a criminal
     action, suit, or proceeding, he is determined to have
     had no reasonable cause to believe that his conduct was
     unlawful. The determination as to (2) and (3) and, in
     the absence of an adjudication as to (1) by a court of
     competent jurisdiction, the determination as to (1)
     shall be made by the trustees of the indemnifying
     corporation acting at a meeting at which a quorum
     consisting of trustees who are not parties to or
     threatened with any such action, suit or proceeding is
     present. Any trustee who is a party to or threatened
     with any such action, suit or proceeding shall not be
     qualified to vote and, if for this reason a quorum of
     trustees cannot be obtained to vote on such
     indemnification, no indemnification shall be made
     except as provided for in Paragraph (b) or (C) of this
     Section.

     (B) The Corporation may, pursuant to these articles,
its regulations or any agreement authorized or a resolution
adopted by the voting members at a meeting held for such
purpose by the affirmative vote of a majority of the voting
members present if a quorum is present, indemnify or agree
to indemnify such trustee director, officer or employee
against expenses, judgments, decrees, fines, penalties or
amounts paid in settlement in connection with the defense of
any pending or threatened action, suit or proceeding,
criminal or civil, to which he is or may be made a party by
                                 -7-

     reason of being or having been such trustee, director,
     officer or employee, provided a determination is made by the
     trustees in the manner set forth in Paragraph (A) of this
     Section or by a majority of the voting members present at a
     meeting held for such purpose if a quorum is present (a)
     that such trustee, director, officer or employee was not,
     and has not been adjudicated to have been, negligent or
     guilty of misconduct in the performance of his duty to the
     corporation of which he is a trustee, director, officer or
     employee (b) that he acted in good faith in what he
     reasonably believed to be the best interest of such
     corporation, and (c) that, in any matter, the subject of a
     criminal action, suit or proceeding, he had no reasonable
     cause to believe that his conduct was unlawful.

          (C) Such indemnification shall not be deemed exclusive
     of any other rights to which such trustee, director, officer
     or employee may be entitled under the articles, the
     regulations, any agreement any insurance purchased by the
     Corporation, vote of members or otherwise.

     By letter dated February 18, 1971, respondent ruled that

petitioner was exempt from Federal income tax under section

501(c)(3) and that donors may deduct contributions made to

petitioner.

     Petitioner’s articles of incorporation authorize its

trustees to adopt a code of regulations.    The trustees promptly

did so.    Petitioner’s code of regulations creates two classes of

members:   Charter members and associate members (individuals or

organizations chosen by the board of trustees).    The Club is the

sole charter member of petitioner.3    The Club elects petitioner’s

     3
          Petitioner’s code of regulations draws careful
distinctions between the Club and petitioner; it provides that
the Club “shall be the only member in the Corporation
[petitioner] entitled to vote”, it requires that petitioner’s
trustees “must be members in good standing” of the Club, and it
requires that “Each officer [of petitioner] must be a member” of
                                                   (continued...)
                                 -8-

board of trustees at the Club’s annual meeting.   The board of

trustees, which could range in size from 3 to 15 members, manages

the business of petitioner.   The board of trustees chooses

officers, including chairman of the board, executive director,

assistant director, secretary, treasurer, and one or more

assistant directors, assistant secretaries, and assistant

treasurers, who are responsible for petitioner’s day-to-day

affairs.   The board of trustees makes decisions for petitioner at

monthly meetings.   The board of trustees makes expenditure

decisions at its meetings; petitioner’s code of regulations does

not authorize individual officers or members--not even the

treasurer--to make expenditure decisions.

     Petitioner had 11 officers during the tenure of Lawrence C.

Plants (hereinafter sometimes referred to as Plants), who was

petitioner’s president4 during its fiscal year 1984 through

     3
      (...continued)
the Club. The witnesses’ and the parties’ references to
membership have been in terms of membership in petitioner, and
not in the Club. In discussing questions of control, both
parties seem to have ignored the fact that the Club, as
petitioner’s only voting member, appears to control petitioner.
Also, both parties seem to have ignored any question of who
controlled the Club. Initially, all the officers of petitioner
held more-or-less corresponding positions in the Club. Because
the record does not include information as to who controlled the
Club during the years in issue and because the parties do not
regard the role of the Club as significant in dealing with the
issues in the instant case, we have determined to ignore the
controlling role of the Club. Concord Consumers Housing v.
Commissioner, 89 T.C. 105, 106 n.3 (1987).
     4
           So stipulated.   Petitioner’s code of regulations
                                                     (continued...)
                                   -9-

January 1, 1985, and was a member of the board of trustees from

January 1, 1985, through January 1, 1987.     Thomas Wilkens

(hereinafter sometimes referred to as Wilkens) was petitioner’s

president from January 1, 1985, through September 30, 1986.

Ernest Zeve (hereinafter sometimes referred to as Zeve), a former

president of petitioner, was petitioner’s treasurer during the

years in issue.     Zeve died before the trial in the instant case.

       Petitioner reported on its Forms 990 for the years in issue

fundraising revenues, expenses, net income, and other income as

shown in table 1.




                                 Table 1

Fiscal                             Gross         Direct          Net
Year       Fundraising            Revenues      Expenses       Income

1984       Bingo                $473,956.63   $402,474.28   $71,482.35
           Luncheons              14,795.00      3,043.63    11,751.37
           Reverse raffle         12,170.00      6,551.75     5,618.25
           Other events           22,074.06     12,614.73     9,459.33

            Total fundraising    522,995.69    424,684.39    98,311.30


       4
      (...continued)
provides for a chairman of the board and for an executive
director, but not for a president. We note that the Club had an
office of “Chief Barker”, which apparently was more-or-less
equivalent to both president and executive director. See supra
note 3.
                                 -10-

        Other income                                   $17,013.75
_________________________________________________________________

Fiscal                             Gross        Direct          Net
Year      Fundraising            Revenues      Expenses        Income

1985      Bingo                $274,359.17   $242,094.56      $32,264.61
          Greatest show         112,548.00     62,715.85       49,832.15
          Reverse raffle         10,849.84      5,363.75        5,486.09
          Other events           24,637.26      8,946.60       15,690.66

           Total fundraising    422,394.27    319,120.76      103,273.51

        Other income                                   $11,510.87
_________________________________________________________________

Fiscal                             Gross        Direct           Net
Year      Fundraising            Revenues      Expenses        Income

1986      Bingo                $279,564.00   $250,830.00   $28,734.00
          Golf outing             5,328.00      3,394.00     1,934.00
          Kids bowling
            for kids              1,776.00        274.00       1,502.00
          Other events            5,240.00          0.00       5,240.00

           Total fundraising    291,908.00    254,498.00      37,410.00

          Other income                                        $6,659.00


       Table 2 shows, for each of the years in issue, the total

amount of petitioner’s reported charitable grants and

allocations, and how much of this total was to Ohio Boys Town.




                                Table 2

                                 Grants and Allocations
Fiscal Year                    Total         To Ohio Boys Town

1984                       $100,846.16           $27,550.00
1985                        167,959.64            76,439.72
                                 -11-

1986                          40,471.00         38,516.00


       In the mid-1970’s, petitioner began renting the Puritas

Party Center (hereinafter sometimes referred to as the Center) in

Cleveland, Ohio, to conduct fundraising by operating bingo games.

During 1984 and 1985 petitioner operated bingo games 2 nights a

week at the Center.    From November 1, 1985, through June 14,

1986, petitioner operated bingo games in a leased building in

Elyria, Ohio.    The latter building is hereinafter sometimes

referred to as the Elyria Hall.

       From 1976 through 1978, Ross Vecchio (hereinafter sometimes

referred to as Vecchio) was petitioner’s bingo operator.    In

1978, petitioner’s bingo license was revoked by the Ohio Attorney

General’s office for violations of bingo regulations, including

improper handling of game receipts and inaccurate record keeping.

The revocation was overturned on appeal.    In April 1984, Vecchio

pled guilty to charges of income tax evasion for 1978 stemming

from illegal actions in conducting bingo games.    He was sentenced

to a prison term, fined $10,000, and ordered not to participate

in the operation of bingo games.

       At Zeve’s request, Nick Popovic (hereinafter sometimes

referred to as Popovic) operated petitioner’s bingo games at the

Center and the Elyria Hall.    Popovic was a member of petitioner,

but never an officer or member of the board of trustees of

petitioner; he operated all of petitioner’s bingo games during
                               -12-

the years in issue.   Popovic is a brother-in-law of Vecchio.

Petitioner’s president during each of the years in issue

delegated to Zeve and Popovic the authority and duties incident

to the conduct of the bingo games.    Petitioner’s procedures for

the conduct of the bingo games and for the handling of the

proceeds therefrom vested ultimate authority and responsibility

with Zeve.

     During petitioner’s fiscal 1984 and part of fiscal 1985

Tenth Ohio Investment (hereinafter sometimes referred to as Tenth

Ohio) leased the Center to P&R Corporation (hereinafter sometimes

referred to as P&R) at a rental of $36,000 per year, and P&R

subleased the Center to petitioner for 2 nights per week for

bingo games at a rental of $26,000 per year, $250 per bingo

session.   During the period in issue P&R was owned equally by

Zeve, Vecchio, Angelo Vecchio, Popovic, and Anthony Lanza

(hereinafter sometimes known as Lanza), and Vecchio was P&R’s

president.   Lanza is a brother-in-law of Vecchio.   Vecchio signed

the lease with petitioner.

     Petitioner had been leasing the Center since the mid-1970’s.

During the same period, Ohio Boys Town5 also paid $26,000 per




     5
          Zeve was a board member and officer of Ohio Boys Town.
Zeve participated in the conduct of Ohio Boys Town’s bingo games.
Popovic operated bingo games on behalf of Ohio Boys Town at the
Center during the years in issue.
                                -13-

year to P&R to use the Center for its bingo games held 2 nights

per week.   Petitioner lost its lease for the Center in 1985.

     During 1985 and 1986 Cleveland Commercial Investment Co.

(hereinafter sometimes referred to as Cleveland Commercial) owned

the Elyria Hall.   Cleveland Commercial leased the Elyria Hall to

Lanza at a rental of $26,000 per year, and Lanza subleased the

Elyria Hall to petitioner for 2 nights per week for bingo games

at a rental of $26,000 per year, $250 per session.   Glen Snow was

president of Tenth Ohio when petitioner was sublessee of the

Center, and was president of Cleveland Commercial when petitioner

was sublessee of the Elyria Hall.

     Popovic and Zeve prepared all of petitioner’s daily yellow

bingo sheets, which were required by Ohio law.   The daily yellow

sheets are designed to show the amounts received from various

types of bingo games and the amounts spent for security at a

bingo game.    Popovic and Zeve discussed how much of the proceeds

they had collected would be reported on the daily sheets.   At

Zeve’s direction, Popovic created multiple sets of daily sheets

and adjusted the revenue and expense amounts so that the net

balance would match the subsequent bank deposits.

     Popovic and Zeve reported $58,965 as net receipts from the

65 bingo games held at the Elyria Hall from November 9, 1985,

through June 14, 1986, to petitioner and to various State

authorities.   The amounts they reported did match the amounts

they deposited to petitioner’s bank account.   These amounts were
                                -14-

incorporated into summary financial reports that Zeve presented

orally at petitioner’s monthly meetings.   Petitioner’s members

unanimously approved these oral financial reports.   However, it

turned out that Zeve and Popovic had understated the net proceeds

by $93,665.

     Popovic and Zeve did not report on the daily yellow bingo

sheets the amounts that they had diverted for renovating the

Elyria Hall, nor did they inform petitioner that they were

diverting bingo receipts for the renovations.

     During the years in issue, Popovic owned Paint and Paper

Place, a business in Avon Lake, Ohio.   Paint and Paper Place

issued nine invoices to petitioner, dated between June 18, 1985,

and September 18, 1985, totaling $1,834.41, for paint supplies

for renovating the Elyria Hall.   All Electric Contractors, Inc.,

billed Popovic $3,767.04 for electrical work on the Elyria Hall.

Swart Signs billed Popovic $60 for a Variety Club bingo sign for

the Elyria Hall.   AXP Rental billed Popovic $162. for unspecified

rentals for the renovation of the Elyria Hall from February 7,

1986, through March 28, 1986.   Popovic paid all or part of these

invoices himself with money diverted from petitioner’s bingo

games at Zeve’s direction.   These invoices were neither presented

to nor paid by petitioner, nor were Popovic’s payments later

ratified by petitioner.   During the years in issue, Popovic also

paid bingo funds as compensation to bingo workers.   Payments to

the bingo workers were not authorized or ratified by petitioner.
                              -15-

In 1986 Popovic directed the bingo workers to lie to the Ohio

Attorney General’s investigators regarding compensation paid to

them.

     The Elyria Police Department conducted an undercover

investigation of petitioner’s bingo games held in Elyria between

November 8, 1985, and March 21, 1986.   Accountants and

investigators from the Ohio Attorney General’s office monitored

petitioner’s bingo games held on March 14, 1986, and March 15,

1986, while the Elyria police officers were monitoring the games.

Popovic and Zeve knew the Attorney General’s agents were present,

but did not know about the undercover police investigation.     When

the Attorney General’s agents were present, police investigators

noticed changes in the manner in which the bingo games were

conducted, which changes seemed calculated to reduce the receipts

from the games.

     The Elyria Police Department officers and the Ohio Attorney

General agents compared their findings to the report of the

receipts made by petitioner, and in all cases the report of

receipts by petitioner and the findings by the Elyria Police

Department and the Attorney General were at variance, the

receipts found by the Elyria Police Department and the Ohio

Attorney General being substantially more than those reported by

petitioner.

     On May 5, 1986, the Common Pleas Court of Lorain County,

Ohio, issued a warrant on indictment against petitioner for
                                 -16-

illegal operation of a bingo game and commanded the Lorain County

sheriff to arrest petitioner.    On June 4, 1986, the grand jury of

Lorain County filed an indictment against petitioner for illegal

operation of a bingo game because petitioner did not use all the

gross receipts of the bingo games for charitable purposes, a

third degree felony.    On June 5, 1986, the Lorain County Sheriff

received the warrant.   On June 15, 1986, the Elyria Police

Department executed a valid search warrant during petitioner’s

bingo game, and confiscated its property, arrested and

incarcerated Popovic, and closed the bingo game.   On June 25,

1986, the Sheriff arrested petitioner pursuant to the May 5,

1986, warrant, by serving Zeve.    Bills of particulars were filed

against petitioner and against Popovic on September 11, 1986.

     On November 18, 1986, petitioner, acting through Zeve,

waived its rights and pleaded guilty to the lesser included

offense of falsification, a first degree misdemeanor.    As part of

its waiver, petitioner agreed “never to conduct Bingo in State of

Ohio and to forfeit property, monies and bingo supplies to a

charity to be selected by agreement of the Court and counsel.”

On February 12, 1987, a judgment entry of conviction and sentence

($2,500 fine) was filed against petitioner.   Petitioner paid the

fine and court costs that day.    On September 30, 1987, a judgment

entry was filed in petitioner’s case and another case,

distributing their consensually forfeited property among nine

private organizations and the Elyria Police Department.
                                -17-

     On January 23, 1987, a judgment entry of conviction and

sentence was filed against Popovic, who had pleaded guilty to the

third degree felony of conducting an illegal bingo game.     Popovic

was sentenced to 2 years’ imprisonment and a fine of $3,500.      The

imprisonment sentence was suspended, and Popovic was put on 5

years’ probation.

     Jack D. Maistros (hereinafter sometimes referred to as

Maistros) represented Popovic during this criminal case.

Maistros was an attorney in the same firm as John Climaco

(hereinafter sometimes referred to as Climaco), petitioner’s

longtime counsel.    Petitioner issued a check for $10,000 (which

bore the notation “full and final settlement for all attorney

fees”) to Climaco on November 28, 1986.   This check was signed by

Plants and Zeve.    This payment was authorized by petitioner’s

board of trustees.

     Elio Zerbini (hereinafter sometimes referred to as Zerbini)

represented petitioner during its criminal case.    On August 13,

1986, petitioner paid $3,000 to Zerbini as a retainer for

representing it and providing legal advice to Zeve in connection

with the criminal case.   This check was signed by Plants and

Wilkens.   Although petitioner’s articles of incorporation

authorize it to indemnify an officer for expenses incurred in

defending against actions, suits, and proceedings, petitioner did

not expressly authorize any payments to Zerbini for legal advice

on behalf of Zeve.
                               -18-

     The Attorney General of Ohio brought a civil suit against

petitioner, Zeve, Popovic, and Wilkens on May 11, 1987.   Climaco

signed the answer filed on behalf of all four defendants in the

civil suit.

     The Attorney General settled the civil case with Zeve for

$20,000, and received full payment.   The Attorney General settled

the civil case with Popovic for $37,5006 but had not received

anything on account of the settlement by the time of the trial in

the instant case.   The Court of Common Pleas found that Wilkens--

           delegated authority to the Defendants Nick Popovic and
           Ernest L. Zeve to operate the bingo games on behalf of
           the Defendant. Variety Club Tent No. 6 Charities,
           Inc., that he was president of the Defendant; that he
           relied on the accuracy of their reports, and that he
           was as careful in the discharge of his duties in
           overseeing the operation of the games as any reasonable
           president of a sponsoring organization would be under
           the circumstances then and there prevailing.


The Court of Common Pleas thereupon rendered judgment for

Wilkens.

     As to petitioner, the Court of Common Pleas found that the

receipts from the bingo games that petitioner conducted at the

Elyria Hall were underreported, and that “the receipts from the

games available to be distributed to charity is $131,505”, and

ordered petitioner to pay that amount to the Clerk of Courts.



     6
          So stipulated. The judgment entry in the Court of
Common Pleas, filed Dec. 5, 1991, noted the settlements and
ordered Zeve and Popovic each to pay $20,000.
                                -19-

     On August 6, 1985, petitioner’s board of trustees authorized

a payment of $2,500 to Ohio Boys Town to set up Elyria Hall for

bingo games and to buy equipment that Ohio Boys Town could use in

operating bingo games in Elyria Hall.    Pursuant to this

authorization, petitioner gave a $2,500 check, dated August 6,

1985, to Ohio Boys Town.    The check was signed by Plants and

Zeve.   Ohio Boys Town determined that it would not conduct bingo

games at Elyria Hall.    It endorsed the check in blank, and

Popovic then endorsed the check in blank.    On September 7, 1985,

the check was deposited by AmeriTrust Co. to an account at the

Cuyahoga Savings Association.

     For each year in issue, petitioner filed a Form 990

disclosing its income, expenses, and other organizational and

financial information.   Petitioner failed to disclose in its 1984

or 1985 Forms 990 that it was leasing property from P&R, a

corporation with which a principal officer of petitioner was

affiliated.   Petitioner failed to disclose on its 1986 Form 990

that it had paid a retainer for legal services on behalf of Zeve.

     On February 9, 1990, respondent issued to petitioner a final

notice of revocation of the favorable ruling letter, retroactive

to October 1, 1983.   The determination was based on a finding

that all or part of petitioner’s net earnings had inured to the

benefit of private shareholders or individuals.    On the same day,

respondent also issued to petitioner a notice of deficiency with

respect to its income taxes for its fiscal 1984, 1985, and 1986.
                              -20-

               ___________________________________

     During the years in issue, Zeve and Popovic were insiders

with respect to petitioner; Vecchio was not.




                             OPINION

                 I. Status Under Sec. 501(c)(3)

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

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

subtitle”.7




     7
          Exceptions from this broad rule because of secs. 502
(relating to feeder organization), 503 (relating to prohibited
transactions by certain categories of organizations), 501(b)
(relating to unrelated business income), and various other
provisions of the Code do not appear to be issues in the instant
case.
                                -21-

     In order to be described in section 501(c)(3),8 an

organization must meet all of the following criteria:     (1) it

must be both (a) organized and (b) operated, exclusively9 for

certain specified exempt purposes, including charitable,

educational, and scientific purposes; (2) no part of its net

earnings may inure to the benefit of any private shareholder or

individual; (3) no substantial part of its activities may consist

     8
         Sec. 501(c)(3) provides, in pertinent part, as follows:

     SEC. 501. EXEMPTION FROM TAX ON CORPORATIONS, CERTAIN
     TRUSTS, ETC.

                    *   *   *   *      *   *   *

          (c) List Of Exempt Organizations.--The following
     organizations are referred to in subsection (a):

                    *   *   *   *      *   *   *

                (3) 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, no
           substantial part of the activities of which is carrying
           on propaganda, or otherwise attempting, to influence
           legislation, * * * and which does not participate in,
           or intervene in (including the publishing or
           distributing of statements), any political campaign on
           behalf of any candidate for public office.

The later amendment of this provision by sec. 10711(a)(2) of the
Omnibus Budget Reconciliation Act of 1987, Pub. L. 100-203, 101
Stat. 1330, 1330-464, does not affect the instant case.
     9
          “Exclusively”, in this context, means that there is no
nonexempt purpose that is “substantial in nature”. Better
Business Bureau v. United States, 326 U.S. 279, 283 (1945);
Living Faith, Inc. v. Commissioner, 950 F.2d 365, 370 (7th Cir.
1991), affg. T.C. Memo. 1990-484; Stevens Bros. Foundation, Inc.
v. Commissioner, 324 F.2d 633, 638 (8th Cir. 1963), affg. on this
issue 39 T.C. 93, 109 n.10 (1962).
                                 -22-

of lobbying efforts; (4) no part of its activities may constitute

intervention or participation in any political campaign on behalf

of any candidate for public office (sec. 501(c)(3)); and (5) its

purpose must not be “contrary to a fundamental public policy”.

Bob Jones University v. United States, 461 U.S. 574, 592 (1983).

See generally, American Campaign Academy v. Commissioner, 92 T.C.

1053, 1062-1063 (1989).    These requirements are stated in the

conjunctive.    Petitioner’s failure to satisfy any of these

requirements would be fatal to its qualification under section

501(c)(3).     American Campaign Academy v. Commissioner, 92 T.C. at

1062; Stevens Bros.    Foundation, Inc. v. Commissioner, 39 T.C.

93, 109-110 (1962), affd. on this issue 324 F.2d 633, 637-640

(8th Cir. 1963).    With a few minor differences, the organizations

and requirements listed in section 170(c)(2) are virtually

identical to those described in section 501(c)(3).    In view of

the nearly identical statutory language, the courts have applied

many of the same standards in interpreting section 170(c)(2) and

section 501(c)(3).    See Bob Jones University v. United States,

461 U.S. at 586-587.

     In the instant case, respondent contends only that

petitioner’s net earnings inured to the benefit of private

shareholders or individuals.    See supra note 1.   The parties’

disputes as to exempt status focus on the following:

          (1) Whether Zeve, Popovic, or Vecchio was an insider

     with respect to petitioner.
                                 -23-

             (2) Whether any of the following constituted an

        inurement of petitioner’s net earnings to an insider--

                  (a) diversions of bingo game proceeds,

                  (b) amounts paid to attorneys Climaco and Zerbini,

                  (c) a $2,500 check payable to the order of Ohio

             Boys Town, and

                  (d) rental fees paid in connection with

             petitioner’s bingo games in the Center.

A. Zeve, Popovic, or Vecchio as an Insider

     In order for an organization to qualify for exemption under

section 501(c)(3), no part of the organization’s net earnings may

inure to the benefit of any private shareholder or individual.

Sec. 501(c)(3).

     A “private shareholder or individual” is broadly defined as

any person having a personal and private interest in the

activities of the organization.     Sec. 1.501(a)-1(c), Income Tax

Regs.     Such private shareholders or individuals are sometimes

referred to for convenience as “insiders”.     See American Campaign

Academy v. Commissioner, 92 T. C. at 1066; Sound Health

Association v. Commissioner, 71 T.C. 158, 185-186 (1978).

     On opening brief respondent contends that Zeve, Popovic, and

Vecchio were insiders with respect to petitioner.      However, on

answering brief respondent refers only to Zeve and Popovic.

Petitioner contends that Zeve, Popovic, and Vecchio are not

insiders with respect to petitioner.
                                 -24-

     We agree with respondent as to Zeve and Popovic; we agree

with petitioner as to Vecchio.

     The term “private shareholder or individual” appears at

present in sections 170(c) (three places), 501(c) (eight places),

528(c)(1)(D), 833(c)(3)(A)(vi), 2055(a), 2522 (four places), and

4421(2)(B).   This term has been unchanged since the Revenue Act

of 1924, Pub. L. 176, 68th Cong., 1st. Sess., ch. 234, 43 Stat.

253, 271, 282.   The Revenue Act of 1921, Pub. L. 98, 67th Cong.,

1st Sess., ch. 136, 42 Stat. 227, 241, 253, used the term

“private stockholder or individual”, as did the prior Revenue

Acts back to the Tariff Act of 1913, Pub. L. 16, 63d Cong., 1st.

Sess., ch. 16, 38 Stat. 114, 172.       The term “private stockholder

or individual” also appears in section 38 of the Tariff Act of

1909, commonly called the Corporation Excise Tax Act of 1909,

Pub. L. 5, 61st. Cong., 1st Sess., ch. 6, 36 Stat. 11, 113.

Neither of the parties has directed our attention to, and we have

not found, any statutory explanation of any of these terms.      Our

examination of the legislative history of the Revenue Act of 1924

has not turned up any explanation of the shift from “stockholder”

to “shareholder”.   We note that the Administration’s proposed

bill leading to the Revenue Act of 1924 retained the word

“stockholder”, while the bill as reported by the House Ways and

Means Committee used the word “shareholder”.      We note also that

the term “private stockholder or individual” appears in paragraph

(2) of section 2055(a) (and its 1939 Code predecessor, section
                               -25-

812(d)), while the term “private shareholder or individual”

appears in paragraph (4) of the same section 2055(a).     We have

not found any explanation of the intended difference between

“stockholder” and “shareholder”, nor any reason why “stockholder”

was replaced by “shareholder” in the Revenue Act of 1924.    See

Western Natl. Mut. Ins. Co. v. Commissioner, 102 T.C. 338, 354

(1994), affd. 65 F.3d 90 (8th Cir. 1995).

     Section 1.501(a)-1(c), Income Tax Regs., provides as

follows:

          (c) “Private shareholder or individual” defined. The
     words “private shareholder or individual” in section 501
     refer to persons having a personal and private interest in
     the activities of the organization.

This definition is unchanged from Regs. 65, art. 517 (1924),

except that the older regulations use “individuals” and

“corporation”, instead of “persons” and “organization”,

respectively.   Art. 517 of Regs. 65 is essentially similar to

Regs. 45, art. 517 (1920).   In general, the case law appears to

have drawn a line between those who have significant control over

the organization’s activities and those who are unrelated third

parties.   United Cancer Council, Inc. v. Commissioner, 109 T.C.

__, __ (1997) (slip op. at 91); People of God Community v.

Commissioner, 75 T.C. 127, 133 (1980).

     (1) Zeve

     Zeve, a former president of petitioner, was petitioner’s

treasurer during the years in issue.   As treasurer, he was a
                               -26-

member of petitioner’s board of trustees.     The parties have

stipulated that petitioner’s president during each of the years

in issue delegated to Zeve and Popovic the authority and duties

incident to the conduct of the bingo games, and that petitioner’s

procedures for the conduct of the bingo games and for the

handling of the proceeds thereof vested ultimate authority and

responsibility with Zeve.   As shown supra table 1, bingo

accounted for more than 90 percent of petitioner’s gross revenues

and about 60 percent of petitioner’s net income during the years

in issue.

     Clearly, during the years in issue Zeve had a significant

formal voice in petitioner’s activities generally and had

substantial formal and practical control over most of

petitioner’s income.

     We conclude, and we have found, that Zeve was an insider

with respect to petitioner during each of the years in issue.

     (2) Popovic

     Popovic operated all of petitioner’s bingo games during the

years in issue; he did so at Zeve’s request.    Petitioner’s

president during each of these years delegated to Zeve and

Popovic the authority and duties incident to the bingo games.

Although Popovic was a member of petitioner, he never was an

officer or member of the board of trustees.    Popovic did not have

any formal voice in petitioner’s activities generally.    However,

in his stipulated role as operator of petitioner’s bingo games,
                               -27-

he did have some formal control and much practical control over

most of petitioner’s income.

     Although the matter is not free from doubt, we conclude that

it is more likely than not that Popovic had enough control to be

an insider with respect to petitioner during each of the years in

issue; we have so found.

     (3) Vecchio

     Vecchio was petitioner’s bingo operator from 1976 through

1978, well before the years in issue.   As president and one-fifth

owner of P&R, Vecchio was involved in petitioner during the years

in issue only to the extent of having an interest in the

sublessor of the Center, where petitioner’s bingo games were

being conducted during 1984 and part of 1985.   The rent that

petitioner paid to P&R ($26,000 per year) was less than 10

percent of petitioner’s reported direct bingo expenses.     Supra

table 1.

     On opening brief respondent states several times that

Vecchio was an insider, but the only explanation given is that he

“is a former president and bingo operator.”   We have found that

Vecchio had earlier operated petitioner’s bingo games, but do not

find in the record evidence that he had been petitioner’s

president at any time.   On answering brief, respondent does not

even mention Vecchio.

     On the basis of the record in the instant case, it appears

that, during the years in issue, Vecchio did not have any formal
                               -28-

voice in petitioner’s activities generally, that he did not have

any formal control over any of petitioner’s activities, and that

he did not have any practical control over any of petitioner’s

activities.

     We conclude, and we have found, that Vecchio was not an

insider with respect to petitioner during any of the years in

issue.

     We hold in part for respondent and in part for petitioner on

this issue.

B. Did Any of Petitioner’s Net Earnings Inure to Zeve or Popovic?

     We consider the categories of inurement items seriatim as

listed by respondent.

     (1) Diverted Bingo Proceeds

     Respondent contends that Zeve and Popovic profited from

petitioner’s breach of its fiduciary duty to the charitable trust

funds that consisted of the proceeds of the bingo games, and this

constitutes an inurement of petitioner’s net earnings to private

individuals.   Petitioner contends that (1) the skimmed bingo

proceeds that Popovic used to pay for repairs, renovations, and

bingo workers’ compensation did not inure to insiders, and (2)

inurement involves an intentional conferring of benefits, while

the instant case involves theft.

     We agree with petitioner’s conclusion.

     Zeve and Popovic worked together to skim part of the

proceeds of the bingo games that Popovic operated for petitioner,
                               -29-

and to hide this skimming from petitioner’s board of trustees by

falsifying the records of the bingo operations.    Part of the

skimmed funds was used for unauthorized repairs and renovations,

part was used for unauthorized and illegal compensation paid to

bingo workers, and part went into Zeve’s and Popovic’s pockets.

As petitioner puts it on brief, Zeve and Popovic were stealing

petitioner’s bingo proceeds, “pure and simple”.

     Neither side has directed our attention to any court opinion

in the inurement area involving theft from an organization by an

insider with respect to that organization, and our research has

not led us to any such opinion.   Our research has uncovered 31

other places in the current text of the Internal Revenue Code of

1986 in which “inures”, or a variant such as “inure” or

“inurement”, is used.   All of these uses involve charitable or

other types of exempt organizations.    Most of these uses, like

that in section 501(c)(3), prohibit an improper inurement, while

some require that an entire item inure to the benefit of the

favored organization.   None of these uses materially assists in

our analysis of the circumstances, if any, in which a theft

constitutes an inurement.   Also, the regulations do not deal

directly with the question before us.

     Although our search must be for the meaning of the statutory

term, “inures”,10 we may be guided by our understanding of what

     10
          See O.W. Holmes, “The Theory of Legal Interpretation”,
                                                   (continued...)
                              -30-

the Congress intended that the term mean, or what the Congress

intended that the term not mean.   The boundaries of the term

“inures” have thus far defied precise definition.   As respondent

points out, petitioner’s suggestion that inurement means the

intentional conferring of a benefit cannot be allowed to mean

that there is no inurement unless “all the organizations’

officers and board members have actual knowledge of, and

affirmatively act to cause, the prohibited benefit.”   By the same

token, we do not believe that the Congress intended that a

charity must lose its exempt status merely because a president or

a treasurer or an executive director of a charity has skimmed or

embezzled or otherwise stolen from the charity, at least where

the charity has a real-world existence apart from the thieving

official.

     We conclude that petitioner had such a real-world existence,

see supra tables 1 and 2, and that Zeve’s and Popovic’s thefts

from petitioner were not inurements of petitioner’s net earnings.

     We hold for petitioner on this issue.

     (2A) Attorney’s Fees--Climaco

     Respondent notes that petitioner paid $10,000 to Climaco on

November 28, 1986, that a complaint was filed against petitioner,

Zeve, Popovic, and Wilkens on May 11, 1987, and that Climaco


     10
      (...continued)
12 Harv. L. Rev. 417, 419 (1899). (“We do not inquire what the
legislature meant; we ask only what the statute means.”)
                               -31-

answered the complaint on behalf of petitioner and the three

individuals.   Relying on Wichita Terminal Elevator Co. v.

Commissioner, 6 T.C. 1158, 1165 (1946), affd. 162 F.2d 513 (10th

Cir. 1947), respondent contends that the November 28, 1986,

payment to Climaco was for Climaco’s representation in connection

with the answer Climaco filed to the May 11, 1987, complaint, and

that this constitutes an inurement to Zeve and Popovic.

     Petitioner maintains that the $10,000 payment to Climaco was

to compromise Climaco’s claim for “over $25,000 in legal fees for

matters he had handled over the years”, unrelated to any criminal

proceedings against Zeve or Popovic, and unrelated to the defense

of the May 11, 1987, civil suit, which was not even filed until

about 5½ months after the $10,000 payment.

     We agree with petitioner’s conclusion.

     The period of years in issue ends on September 30, 1986.

The $10,000 payment to Climaco was made nearly 2 months later.

Respondent contends the payment was for Climaco’s work in filing

an answer to a suit the complaint in which was filed almost 7½

months after the end of the period before us.

     We conclude that, whether the payment was for future

services in part to Zeve and Popovic, as respondent contends, or

for prior unrelated services to petitioner, as petitioner

contends, petitioner’s payment to Climaco was not an inurement of

petitioner’s net earnings to any private shareholder or

individual for any period in issue in the instant case.   Under
                               -32-

these circumstances we do not need to determine which side’s

stated view of the facts is more likely to be correct.

     We hold for petitioner on this issue.11

     (2B) Attorney’s Fees--Zerbini

     Respondent notes that petitioner paid $3,000 to Zerbini on

August 13, 1986, for Zerbini’s representation in the already-

unfolding criminal case.   Relying on petitioner’s admission in a

trial memorandum and the Wichita Terminal Elevator Co. doctrine,

respondent contends that part of this payment was for Zerbini’s

representation of Zeve in the criminal case.   Respondent asserts

that “petitioner’s payment of legal fees on behalf of its

individual members and officers acting in their private capacity

constitutes private inurement.”

     On brief, petitioner acknowledges that “Zerbini did provide

some legal advice to Zeve in conjunction with the proceedings

against Petitioner,” but contends that “Petitioner did not pay

Zerbini for any legal advice given to Zeve.”   Petitioner points

out that “No criminal proceedings were ever instituted against

* * * Zeve.”   Petitioner contends that the payment to Zerbini was

merely one of the “Ordinary and necessary expenses made in



     11
          We do not make any determination or state any
conclusion in the instant opinion as to how Climaco’s joint
representation of petitioner, Zeve, and Popovic in the 1987 civil
proceeding might affect petitioner’s tax status for years after
the last of the years in issue in the instant case.
                                 -33-

furtherance of Petitioner’s charitable purposes” and thus does

“not constitute any part of its ‘net’ earnings.”

     We agree with respondent.

     Unlike the situation as to the payment to Climaco, the

subject payment to Zerbini was made during the last of the years

in issue and was made on account of Zerbini’s services in a

criminal proceeding that had gone to indictment, at least against

petitioner, during the last of the years in issue.     Thus, the

Zerbini payment differs from the Climaco payment in a critical

respect.

     As we have supra noted in the Findings of Fact, petitioner’s

articles of incorporation provide that petitioner “shall”

indemnify a trustee or officer against expenses incurred “in

connection with defense of any pending or threatened action * * *

to which he is or may be made a party by reason of” the person

being a trustee or officer, but only if three listed conditions

have been satisfied, as follows:    (1) The person was determined

not to have been negligent or guilty of misconduct toward

petitioner, (2) the person was determined to have acted in good

faith, and (3) in a criminal proceeding, the person was

determined to have had no reasonable cause to believe that the

person’s conduct was unlawful.    These articles further provide

that either petitioner or its voting members (see supra note 3)

may so indemnify, or agree to indemnify, “provided a

determination is made by the trustees * * * or by a majority of
                               -34-

the voting members” that all three of the listed conditions have

been satisfied.   Art. Ninth (B).

     Petitioner’s amended trial memorandum, filed at the trial,

states that Plants will testify as follows:

     that the $3,000 paid to Elio Zerbini, Esq. represented
     payment for legal services rendered to Petitioner and its
     Treasurer, Ernie Zeve, in conjunction with the criminal
     proceedings; that Petitioner was authorized to pay for said
     legal services rendered to Ernie Zeve * * *.

     This same memorandum states as follows in the summary of

facts portion:

          Although Respondent has not specifically stated that it
     believes that the payment of legal fees to Elio Zerbini,
     Esq. constituted prohibited private inurement, Respondent
     has also questioned the payment of $3,000.00 to Elio Zerbini
     by check no. 717, dated August 13, 1986, in discovery in
     this action. As that payment represents payment for legal
     services rendered to Petitioner and to Petitioner’s
     Treasurer, Ernie Zeve, in conjunction with the criminal
     charges against Petitioner described above, that payment
     also constituted an ordinary, necessary and reasonable
     expense of Petitioner made in furtherance of its purposes.

     Finally, this same memorandum states as follows in the

expected witnesses portion:

          3.   Elio Zerbini, Esq., who will testify that he is an
     attorney at law who represented Petitioner in the Lorain
     County Court of Common Pleas upon the criminal charge of
     failing to use all of the receipts of Petitioner’s bingo
     games for charitable purposes or permissible expenses and
     that the $3,000.00 which Petitioner paid to him represented
     legal fees for his representation of Petitioner only.

     The parties stipulated that Zerbini represented Zeve as well

as petitioner in the criminal case.   Plants testified that the

$3,000 payment to Zerbini was solely for Zerbini to represent

petitioner in the criminal case, and that petitioner did not pay
                               -35-

Zerbini to represent Zeve in the criminal case.    This is contrary

to petitioner’s representations as to the facts, as made in

petitioner’s amended trial memorandum.     Petitioner did not make

any of the determinations that its articles of incorporation

require, in considerable procedural and substantive detail (see

supra in the Findings of Fact), before petitioner may indemnify

or agree to indemnify Zeve for the criminal case expenses.

     Petitioner represented in the amended trial memorandum that

Zerbini would testify that petitioner’s $3,000 payment

“represented legal fees for his representation of Petitioner

only.”   Petitioner did not call Zerbini as a witness.    In light

of the fact that petitioner created the uncertainty in the record

herein as to whether it had paid Zerbini in part to represent

Zeve in the criminal proceeding, it should have been obvious that

it was important to clarify the matter.    Petitioner seemed to

recognize this by listing Zerbini in the amended trial memorandum

and describing Zerbini’s expected testimony on this point.    In

the final analysis, petitioner chose not to call Zerbini, and he

did not testify.   We are entitled to, and we do, infer that if

Zerbini had testified, then his testimony would have been

unfavorable to petitioner on this issue.     O’Dwyer v.

Commissioner, 266 F.2d 575, 584 (4th Cir. 1959), affg. 28 T.C.

698, 703 (1957); Stoumen v. Commissioner, 208 F.2d 903, 907 (3d

Cir. 1953), affg. a Memorandum Opinion of this Court dated March
                               -36-

13, 1953; Wichita Terminal Elevator Co. v. Commissioner, 6 T.C.

at 1165.

     Petitioner contended at trial and contends on brief that it

could not have admitted that it paid Zerbini to represent Zeve as

well as itself, because “Respondent filed no requests for

admissions in this action”.   As we explained at trial, when

respondent offered petitioner’s trial memorandum into evidence,

although petitioner’s statements in the trial memorandum are not

“admissions” in the sense of Rule 90, Tax Court Rules of Practice

and Procedure, those statements are “admissions” in the sense of

Fed. R. Evid. 801(d)(2).   Those statements are not excludable as

hearsay, they are relevant, and they may be received into

evidence unless they are excludable for some other reason.

Petitioner has not shown another reason for exclusion.   We

received the statements and have described supra their effect on

our analysis.

     We conclude from the foregoing that it is more likely than

not that petitioner’s payment of $3,000 to Zerbini was to secure

Zerbini’s representation of both Zeve and petitioner.    We have so

found.

     Petitioner did not follow the procedure prescribed by its

articles of incorporation for indemnifying an officer.   Thus, the

net effect of the transaction was that petitioner paid a private

expense of Zeve.   We conclude that this constitutes an inurement
                               -37-

of petitioner’s net earnings to a private shareholder or

individual in petitioner’s fiscal 1986.

     We hold for respondent on this issue.

     (3) Check to Ohio Boys Town

     Petitioner gave a $2,500 check to Ohio Boys Town.    Ohio Boys

Town endorsed the check in blank.     Popovic endorsed the check in

blank.   AmeriTrust Co. deposited the check.   The record does not

show who actually received the money, but both sides assume that

Popovic did.   It appears that the check, or the proceeds of the

check, should have gone back to petitioner.    The record does not

show why the money did not go back to petitioner.

     Respondent contends that the $2,500 was not a charitable

contribution by petitioner, but rather was an inurement to

Popovic.   But any taking by Popovic in this context would have

been an unauthorized taking, essentially a theft similar to the

bingo proceeds skimming that Popovic and Zeve engaged in.    For

the reasons set forth supra under (1) Diverted Bingo Proceeds, we

conclude that such a diversion of the $2,500 check to Ohio Boys

Town is not an inurement of net earnings.

     We hold for petitioner on this issue.

     (4) Bingo Rental Payments for the Center

     Respondent contends that petitioner’s fiscal 1984 and 1985

payments of $250 per bingo session to P&R as rental for the

Center constitute inurements of net earnings to Zeve and Popovic,

who were part owners of P&R.   Petitioner maintains that it had to
                                 -38-

pay rent for a hall to conduct its bingo games and contends that,

under Ohio law, the $250 per session that it paid was a

reasonable rent.

     We agree with respondent.

     An organization’s payment of reasonable rent to an insider

for the organization’s use of the insider’s property would not

constitute inurement of net earnings but payment of an excessive

amount in the form of rent would.       Founding Church of Scientology

v. United States, 188 Ct. Cl. 490, 412 F.2d 1197, 1202 (1969);

Texas Trade School v. Commissioner, 272 F.2d 168, 169 (5th Cir.

1959), affg. 30 T.C. 642, 647 (1958).12      Whether the payment in

question exceeds a reasonable rental is a question of fact.

Harmon City, Inc. v. United States, 733 F.2d 1381, 1385 (10th

Cir. 1984); Southeastern Canteen Co. v. Commissioner, 410 F.2d

615, 619 (6th Cir. 1969), affg. on this issue and revg. on

another issue T.C. Memo. 1967-183.

     During petitioner’s fiscal 1984 and part of fiscal 1985

petitioner paid $250 per bingo session to P&R to rent the Center

for bingo fundraising.    We have held that Zeve and Popovic are

insiders, in particular with regard to petitioner’s bingo

fundraising activities.    Zeve and Popovic each owned 20 percent

of P&R.   If petitioner was paying more than reasonable rent to



     12
          To the same effect is Bramson v. Commissioner, T.C.
Memo. 1986-273.
                                     -39-

P&R for the Center, then it appears that there is inurement of

petitioner’s net earnings to Zeve and Popovic.13

     The record includes practically no evidence as to the

reasonableness of the $250 rental for the Center.       Petitioner

directs our attention to only two items, as follows:

          1) Under Section 2915.09(A)(3) of the Ohio Revised
     Code, a rental rate of $250.00 per session is a reasonable
     rate for a bingo hall (tr.12-13); and 2) in the decision of
     the Lorain County Court of Common Pleas in the civil action
     (Ex. AW, at p.5), the court expressly allowed a deduction of
     $250.00 per session for the rental of Petitioner’s bingo
     hall [the Elyria Hall].

     (A) Ohio Statute.   The cited Ohio statute, section

2915.09(A)(3), Ohio Revised Code,14 does not provide that $250

     13
          Petitioner contends that the $250 rent is reasonable;
petitioner does not contend that the existence of P&R as a
corporation, or the fact that Zeve and Popovic together have only
a minority interest in P&R, affects the determination of whether
there is an inurement of petitioner’s net earnings to Zeve and
Popovic.
     14
          Sec. 2915.09, Ohio Revised Code, provided in pertinent
part as follows for the years in issue:

          Sec. 2915.09.(A) A charitable organization that
     conducts a bingo game shall:

                         *   *   *    *     *   *   *

          (3) Conduct the bingo game on premises owned by the
     charitable organization, premises owned by another
     charitable organization and leased from that charitable
     organization for a rental rate not in excess of two hundred
     fifty dollars per bingo session, or premises leased from a
     person other than a charitable organization for a rental
     rate that is not more than is customary and reasonable for
     premises that are similar in location, size, and quality but
     not in excess of two hundred fifty dollars per bingo
     session. * * *
                                                   (continued...)
                                        -40-

per bingo session is a reasonable rate for a bingo hall.        Rather,

it provides that a charitable organization is not permitted to

pay “more than is customary and reasonable for premises that are

similar in location, size, and quality”, with an absolute cap of

$250 per bingo session.        It remains the situation, under the

statute, that a $250 per bingo session rental would be forbidden

if that exceeds the amount that “is customary and reasonable for

premises that are similar in location, size, and quality”.

     The evidence of the cited statute does not make it more

likely that the $250 rental payments for the Center were

reasonable rental payments, than would be the case if we did not

have the statute.     Thus, although the statute is an interesting

part of the background, by itself the statute does not even rise

to the level of being relevant to the issue of whether the $250

rental payments for the Center were reasonable rental payments.

Fed. R. Evid. 401.

     14
          (...continued)
                           *    *   *    *     *   *   *

          (E) Whoever violates division (A)(2) of this section is
     guilty of illegally conducting a bingo game, a felony of the
     third degree. Whoever violates division (A)(1), (3), (4),
     or (5), or (B), or (C) of this section is guilty of a minor
     misdemeanor. If the offender has previously been convicted
     of a violation of division (A)(1), (3), (4), or (5), or (B),
     or (C) of this section, a violation of division (A)(1), (3),
     (4), or (5), or (B), or (C) of this section is a misdemeanor
     of the first degree.

     Later amendments of this provision, changing the $250
amounts to $450, do not affect the years in issue.
                                -41-

     (B)   The Elyria Hall.   It may be that, the determination of

the Lorain County Court of Common Pleas in the civil action is a

determination that (or, at least, evidence that) $250 is a

reasonable rental for the Elyria Hall.    If it were coupled with

evidence as to the comparative location, size, and quality of

Elyria Hall and the Center, then this evidence could well provide

a basis for a finding as to the reasonableness of the $250 rental

payments for the Center.    However, we have not found, and the

parties have not directed our attention to, any such connecting

bits of evidence in the record in the instant case.

     Accordingly, we conclude that the record in the instant case

does not provide any basis for concluding that the $250 rental

payments for the Center were or were not in excess of a

reasonable rental.    Thus petitioner has failed to carry its

burden of proving that these payments did not constitute an

inurement of petitioner’s net earnings to Zeve and Popovic during

petitioner’s fiscal 1984 and fiscal 1985.

     We hold for respondent on this issue.

     (5) Conclusion

     As a result of our holdings as to the payments to Zerbini in

petitioner’s fiscal 1986 and the payments for the Center in

petitioner’s fiscal 1984 and 1985, we conclude that there were

inurements of petitioner’s net earnings to insiders in each of

the years in issue.    Petitioner does not contend that these
                                  -42-

inurements should be treated as applying to only parts of these

years.

     We hold, for respondent, that petitioner violated the

inurement prohibition in section 501(c)(3) in each of the years

in issue.

     II.    Retroactivity of Respondent’s Revocation of the Prior

Favorable Ruling Letter Issued to Petitioner

     Petitioner contends that, under section 601.201(n)(6),

Statement of Procedural Rules, it was improper for respondent to

revoke the prior favorable ruling letter retroactively to October

1, 1983.

     Respondent relies on the broad statutory discretion under

section 7805(b) and contends that petitioner operated in a manner

materially different from that originally represented, thus

justifying the retroactivity of the revocation.

     We agree with respondent.

     The Supreme Court has held that respondent has broad

discretion under section 7805(b)15 and its predecessor, in

     15
           Sec. 7805(b) provides as follows:

     SEC. 7805. RULES AND REGULATIONS.

                      *   *   *    *     *   *   *

          (b) Retroactivity of Regulations or Rulings.--The
     Secretary may prescribe the extent, if any, to which any
     ruling or regulation, relating to the internal revenue laws,
     shall be applied without retroactive effect.

                                                     (continued...)
                                   -43-

deciding to revoke a ruling retroactively, and that such a

determination is reviewable by the courts only for abuse of that

discretion.     Automobile Club v. Commissioner, 353 U.S. 180, 184

(1957); see Dixon v. United States, 381 U.S. 68 (1965).     See

generally, Virginia Education Fund v. Commissioner, 85 T.C. 743

(1985), affd. 799 F.2d 903 (4th Cir. 1986).

     More recently, in a different but analogous setting, we

described review of exercise of discretion as follows:

          Whether the Commissioner has abused his discretion is a
     question of fact. Buzzetta Construction Corp. v.
     Commissioner, 92 T.C. 641, 649 (1989); Estate of Gardner v.
     Commissioner, 82 T.C. 989, 1000 (1984). In reviewing the
     Commissioner’s actions, however, we do not substitute our
     judgment for the Commissioner’s, nor do we permit taxpayers
     to carry their burden of proof by a mere preponderance of

     15
      (...continued)
This provision was extensively revised by sec. 1101(a) of the
Taxpayer Bill of Rights 2, Pub. L. 104-168, 110 Stat. 1452,
1468 (1996), effective for regulations which relate to statutory
provisions enacted after July 30, 1996, and so does not affect
the instant case. We note that present sec. 7805(b)(8) provides
as follows:

     SEC. 7805. RULES AND REGULATIONS.

                       *   *   *    *     *   *   *

          (b)    Retroactivity of Regulations.--

                      *    *   *    *     *   *   *

                       (8) Application to rulings.--The Secretary
                  may prescribe the extent, if any, to which any
                  ruling (including any judicial decision or any
                  administrative determination other than by
                  regulation) relating to the internal revenue laws
                  shall be applied without retroactive effect.
                                 -44-

     the evidence. Buzzetta Construction Corp. v. Commissioner,
     92 T.C. at 648; Mailman v. Commissioner, 91 T.C. 1079, 1084
     (1988); Pulver Roofing Co. v. Commissioner, 70 T.C. 1001,
     1011 (1978). Taxpayers are required to clearly show that
     the Commissioner’s action was arbitrary, capricious, or
     without sound basis in fact. Knight-Ridder Newspapers v.
     United States, 743 F.2d 781, 788 (11th Cir. 1984); Mailman
     v. Commissioner, 91 T.C. at 1084; Drazen v. Commissioner, 34
     T.C. 1070, 1076 (1960). [Capitol Federal Savings & Loan v.
     Commissioner, 96 T.C. 204, 213 (1991).]

     Petitioner’s application for the favorable ruling letter

that it received from respondent represented that no part of its

net income would inure to the benefit of any private shareholder

or individual.   Petitioner’s articles of incorporation are to the

same effect, but reserve the exceptions that it is permitted to

(1) pay reasonable compensation for service and (2) make payments

and distributions in furtherance of its charitable purposes.     On

the basis of a record which is woefully inadequate on these

particular points, we have held that (a) there was an inurement

in petitioner’s fiscal 1986 when petitioner paid Zerbini to

provide legal services to Zeve, and (b) there were inurements in

petitioner’s fiscal 1984 and 1985 because petitioner failed to

carry its burden of proving that it did not overpay P&R (owned 20

percent by Zeve and 20 percent by Popovic) for renting the

Center.   Our holdings on inurement in the instant case are in

effect holdings that, in each of the years in issue, petitioner

“operated in a manner materially different from that originally

represented”, within the meaning of section 601.201(n)(6),

Statement of Procedural Rules.
                              -45-

     We note that, if the revocation, which occurred years after

the last of the years in issue, had been made prospective only,

then the revocation would have been little more than a

meaningless act.

     We conclude that (1) the retroactivity of the revocation is

not an abuse of discretion when tested by section 7805(b), and

(2) the retroactivity is not an abuse of discretion when tested

by section 601.201(n)(6), Statement of Procedural Rules.   See

Capitol Federal Savings & Loan v. Commissioner, 96 T.C. at 217-

219, 223.

     We hold for respondent on this issue.   To take into account

the foregoing and petitioner’s concession noted supra in note 1.



                                          Decision will be entered

                                     for respondent.
