Thursday June 4, 2026

Case of the Week

Lucky Lucy's "Personal Loan" Charity

Case:

Lucky Lucy finished college and headed west. She started as a financial analyst with a large company in Seattle. After just four years, she became a Registered Investment Advisor and began advising clients. Lucy also managed her own investments. With her keen insight into financial markets, Lucy soon began to move from traditional stocks and bonds into futures and commodities markets. Lucy was so successful in these markets that she now only manages her own large personal portfolio.

Somewhat late in life, Lucy discovered the wonderful world of philanthropy. She volunteered at her favorite charity and has learned that giving someone in need a helping hand is even more gratifying than making another million in the futures market.

Lucy had invested $1,000,000 in a “penny stock” company. Recently, the stock rose from the $1 per share that she paid to over $5 per share. Lucy was delighted with her gain and decided to give the $5,000,000 to a supporting organization (SO) of her favorite charity.

For the first two years, the SO distributed grants for charitable purposes. However, in year three, Lucy made a major mistake in her personal commodities investing. She wants to borrow $3,000,000 from the SO to “tide her over” through this difficult time. Since she needs all of her assets to cover her leveraged obligations, Lucy would like to obtain a no-interest loan for two years. After all, she thinks, “I gave $5,000,000 to the SO, so it surely would be okay to borrow $3,000,000 at no interest for two years.”

Question:

Will this plan work? Can the supporting organization give a no-interest loan to Lucy?

Solution:

There are major problems with the proposed no-interest loan. First, the supporting organization (SO) is a public charity that must be operated for the benefit of the public. Public charities are subject to the intermediate sanction rules of Sec. 4958 for excess benefit transactions. A public charity is prohibited from engaging in an excess benefit transaction. An excess benefit transaction occurs when a public charity engages in any direct or indirect transaction with a "disqualified person," and the disqualified person receives a benefit from the charity for which he or she did not pay. Excess benefits occur in many ways, including below-market loans from a public charity to a disqualified person and the payment of unreasonable compensation from a charity to a disqualified person.

If a supporting organization (Type I, Type II, or Type III) makes a grant, loan, payment of compensation or other similar payment to a substantial contributor or related person, there is an automatic trigger of the Sec. 4958 excess benefit rules for the entire payment. Lucy is subject to an initial tax of 25% of the amount of the payment under Sec. 4958(a)(1). An organization manager who participates in receiving the payment, knowing that the payment is made to a substantial contributor, will be subject to a tax of 10% of the amount of the payment. Sec. 4958(a)(2). Second tier taxes under Sec. 4958 may also apply to the entire payment, not just the excess value.

With this huge potential penalty, Lucy decided to forgo the $3,000,000 loan from the SO and use other methods to cover her investment needs. Fortunately, the markets turned in her favor, and she was soon back in excellent financial condition.

Published December 12, 2025

Lucky Lucy's "Cousins' Scholarship" Plan

Lucky Lucy Lindstrom's Long Shot Unitrust

Lucky Lucy's Unitrust

Stock Unitrust Payouts to Donors

The Values-Based Charitable Remainder Trust