A treasurer at a small Inland Empire nonprofit finds $150,000 sent to an LLC the president owns. The memo says “loan,” and the one-page note bears his signature twice, for the charity and for his company. Nobody recalls a vote.
A September 24 opinion shows what that note can cost. In Jagannath v. Commissioner, T.C. Memo. 2026-92, a charity president owed $1,327,500 in excise taxes over $590,000 he never returned. That was a Tennessee charity. California law reaches the same transfer first, and the other directors with it.
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North Star Tax and Legal Briefing: California Nonprofit Insider Loans and the 200% IRS Tax
How a charity president's unapproved loan to his own LLC became more than $1.3 million in excise taxes, and what California's self-dealing rules and the IRS correction window mean for your board.
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A treasurer at a small Inland Empire nonprofit opens the bank statements and finds one hundred fifty thousand dollars sent to a limited liability company the president owns. The memo line says loan. The one page note carries his signature twice, once for the charity and once for his own company. Nobody remembers a vote. A Tax Court decision from this September shows what it can cost. A charity president ended up owing one million three hundred twenty-seven thousand five hundred dollars in excise taxes over five hundred ninety thousand dollars he never gave back. And California law reaches that same transfer first, and the other directors with it.
Start with California. A public benefit corporation cannot lend money to, or guarantee the debts of, a director or officer unless the Attorney General approves. The exceptions are narrow: advances for job expenses the charity would reimburse anyway, certain life insurance arrangements, and a home loan the board finds necessary to keep an officer, secured by California real estate. Directors who approve a prohibited loan are jointly and severally liable for the charity’s loss, and abstaining at the meeting counts as approving. A separate self dealing rule covers any transaction where a director has a material financial interest, unless the Attorney General, a court, or the disinterested directors clear it. Then there is the federal side. The I R S taxes the insider who took the benefit, not the charity. That tax has two tiers, and the second tier is where the numbers turn ugly.
In the case decided this September, the president of a Tennessee charity controlled the books, with family on the board. In April of twenty sixteen, five hundred ninety thousand dollars left the charity’s money market account. Eleven days later he signed an interest free note, as president of the lender and as owner of the borrower, his own single member L L C. Nothing was ever repaid. By trial he had dropped the loan story and claimed a six hundred thousand dollar wire that December paid it back, but the charity had reported that wire as a gift from a donor he could not name. The court sustained the twenty-five percent first tier tax, one hundred forty-seven thousand five hundred dollars, and the two hundred percent second tier tax, one million one hundred eighty thousand dollars. One point cuts the other way. The two hundred percent tax can still be abated if the insider repays in cash, with interest, within ninety days after the deficiency notice, a window that stays open while a Tax Court case is pending. On our reading, he could still shed that second tier by repaying. This is a memorandum opinion. It illustrates the rules. It does not change them.
Why does this matter to an ordinary California charity? Because the twenty-five percent tax attaches the moment the money moves, and it does not go away when the money comes back. Repayment only heads off the two hundred percent tier. Correction means cash, not a new note, equal to the benefit plus interest at no less than the applicable federal rate for the month of the transfer. The insider files his own excise tax return, Form forty-seven twenty, and late filing additions run from its due date. Directors who saw the transfer and said nothing can share a manager tax of their own. Silence counts as participation when there is a duty to speak. On the state side, the Attorney General has ten years to sue over self dealing. The usual trigger is the annual registration renewal, Form R R F one, which asks under penalty of perjury about loans to officers and directors, including through their entities.
Picture a Riverside youth soccer league whose president wires one hundred fifty thousand dollars to his property L L C. His first tier tax is thirty-seven thousand five hundred dollars. Correcting before any I R S contact costs the principal plus roughly twenty thousand dollars of interest, in cash. Waiting for a deficiency notice adds three hundred thousand dollars. So this week: pull the bank records and stop further payments. Have the board demand correction in writing, through counsel independent of the insider, and get the cash back before anyone official asks. Then check last year’s R R F one, and amend it if it said no. That’s what we do at North Star Law Firm. The initial consultation is free, and the full written analysis with citations is at C A dash legal dot net.
Can a California nonprofit lend money to its president or a director?
Not without the Attorney General’s approval. Cal. Corp. Code § 5236(a) says a public benefit corporation “shall not make any loan of money or property to or guarantee the obligation of any director or officer, unless approved by the Attorney General.” The exceptions cover advances for reimbursable job expenses, secured life insurance premium arrangements, and a home loan the board deems necessary to keep an officer, secured by California real estate.
Under section 5237, directors who approve a prohibited loan are jointly and severally liable for the corporation’s loss, and abstaining at the meeting counts as approval. Routing the money through the president’s LLC does not clearly avoid section 5236, and section 5233 plainly reaches it.
When is a deal with a board member “self-dealing” in California?
Section 5233 reaches any transaction with the corporation in which a director “has a material financial interest,” unless the Attorney General or a court approves it (before or after closing) or a majority of directors in office, not counting the interested one, approves it in advance knowing the material facts, the deal is fair to the charity, and a reasonable investigation shows it could not do better.
Without clearance, the court can order the director to disgorge profits and restore losses “together with any income or appreciation lost,” with legal-rate interest and, for fraud, exemplary damages. The Attorney General can sue alone; the corporation, a director, an officer or a member suing derivatively (as in California LLC squeeze-outs) needs the Attorney General joined. Private suits generally have three years; the Attorney General has ten.
What did the Tax Court decide in Jagannath v. Commissioner?
In 2016 Sitaraman Jagannath was Senecura’s president; his father was a director and his daughter treasurer. That April, $590,000 left its money market account in an over-the-counter withdrawal. Eleven days later he signed an interest-free note as president of the lender and as owner of the borrower, his single-member LLC. The charity’s 2016 and 2017 returns listed the balance as a loan receivable from officers, with no Schedule L. Nothing was repaid.
The LLC’s statements showed no matching deposit, yet Judge Weiler found the transfer from the note, the returns and his control of the books. By trial he had dropped the loan defense and claimed a $600,000 wire that December repaid it, though Senecura reported that wire as a contribution from a donor he could not name. The burden stayed on him, because section 7491 does not reach excise taxes.
The court sustained $147,500 under section 4958(a)(1), $1,180,000 under section 4958(b), and section 6651(a)(1) and (2) additions for never filing Form 4720 or paying. The IRS had conceded the $20,000 manager tax before trial. Computations under Tax Court Rule 155 are due December 27, 2026, so no decision has been entered; any appeal goes to the Sixth Circuit.
How do the 25 percent and 200 percent excess benefit taxes work?
26 U.S.C. § 4958 taxes the insider, not the charity. A disqualified person is anyone with substantial influence in the prior five years, plus family and entities they own more than 35 percent of, and benefits provided “directly or indirectly” count (Treas. Reg. § 53.4958-4(a)(2)). The presumption of reasonableness in § 53.4958-6 needs advance approval by people without a conflict, comparability data and contemporaneous minutes. A note the insider signed on both sides fails at step one, as would his relatives’ approval.
The 25 percent tax attaches at once. The 200 percent tax follows unless the benefit is corrected before the IRS mails a deficiency notice or assesses. Correction under § 53.4958-7 means cash (not a new note) equal to the benefit plus interest compounded annually at no less than the applicable federal rate (AFR) for the month of the transfer.
Section 4961(a) abates the second-tier tax if correction comes within the correction period, which section 4963(e) runs to 90 days after the deficiency notice, extended while a Tax Court case blocks assessment. On my reading, Mr. Jagannath could still shed the 200 percent tax by repaying.
The insider files Form 4720 (Treas. Reg. § 53.6011-1(b)), due the 15th day of the fifth month after his tax year ends (§ 53.6071-1(f)). Yet the IRS’s three-year clock runs from the charity’s Form 990 for that year (section 6501(l)(1)), or six under section 6501(e)(3) if the return omits the tax without adequately disclosing the deal. Jagannath never mentions limitations.
Did an IRS exam letter or a board member’s question surface a payment to an insider? Repaying in cash with AFR interest before a deficiency notice keeps a 25 percent tax from becoming 225 percent.
What can the California Attorney General do about an insider loan?
Section 5250 opens a public benefit corporation to examination “at all times.” Gov. Code § 12588, part of the Supervision of Trustees and Fundraisers for Charitable Purposes Act (Gov. Code § 12580 et seq.), adds sworn testimony and production of the books. In court the office can seek an injunction, receiver or restitution under section 12591.1(f), recover fees under section 12598(b), or sue to remove a director under Corp. Code § 5223.
The usual trigger is the annual Form RRF-1, filed with the Form 990. Part B, Question 1 (Rev. 01/2024) asks about “contracts, loans, leases or other financial transactions” with an officer, director or trustee, “either directly or with an entity” they have an interest in, signed under penalty of perjury. The state exemption under R&TC § 23701d already bars private inurement, and the Franchise Tax Board can revoke it for not filing with the Registry (section 23703) or for a missed Form 199 (section 23777).
How would this play out for a Riverside youth sports nonprofit?
Illustrative facts: a Riverside youth soccer league has a $900,000 budget. On March 12, 2024, its president, a voting director, wires $150,000 to his property LLC as a “loan” nobody else signs. Two directors see it on a statement that summer and say nothing.
His first-tier tax is $37,500, and his Form 4720 was due May 15, 2025, so late-filing additions are accruing. Correcting on December 1, 2026, before any IRS contact, takes $150,000 plus interest at no less than March 2024’s short-term AFR of 4.71 percent (Rev. Rul. 2024-4), roughly $20,000, in cash. Waiting for a deficiency notice adds $300,000. The quiet directors are organization managers; if they meet the knowing test they share one $15,000 tax, and Treas. Reg. § 53.4958-1(d)(3) counts silence as participation when there is a duty to speak.
In California this is unapproved self-dealing the Attorney General can pursue until March 2034, and any director who voted for the “loan” would face section 5237. Under $2 million in revenue, the league needs no audit under Gov. Code § 12586(e), so RRF-1 Question 1 may be the first alarm. If the 2024 report said “no,” amend it.
What should a California board do after finding an insider transfer?
Stop payments, pull the bank records and hire counsel independent of the insider. I see the best results when the board demands correction in writing and the cash returns before anyone official asks. Then disclose, since Form 990 Part IV, lines 25a, 25b and 26, will ask about it anyway.
Next, adopt and enforce the conflict of interest policy Form 990 Part VI, line 12 asks about. Set pay with disinterested directors, outside data and same-day minutes; under $1 million in gross receipts, figures from three comparable local organizations suffice. Put it in the bylaws: no loans to directors or officers.
| Rule | Who is liable | Who enforces | Remedy or rate | Cure |
|---|---|---|---|---|
| IRC § 4958 | Insider; knowing managers | IRS, Tax Court | 25%; 200% if uncorrected; managers 10% (max $20,000) | Cash plus AFR interest |
| Corp. Code §§ 5236, 5237 | Approving directors | Attorney General; prior creditors | Corporation’s loss | Attorney General approval |
| Corp. Code § 5233 | Interested director | Attorney General; others, with the Attorney General joined | Profits, lost property and income, interest, exemplary damages | Approval by Attorney General, court or disinterested board |
| Attorney General supervision | Charity, directors, officers | Attorney General, Registry | Subpoenas, receiver, restitution, removal, fees | Repayment and accurate RRF-1 |
Frequently Asked Questions
Can a California nonprofit give its executive director a salary advance?
If the executive director is an officer, probably not without Attorney General approval. Section 5236 allows advances only for job expenses the corporation would otherwise reimburse, and a pay advance is a loan of money.
Does repaying the money make the 25 percent excise tax go away?
No. Timely repayment avoids or abates the 200 percent tax, but the 25 percent tax stays unless section 4962 applies. That requires reasonable cause, which is hard to show when the insider moved the money himself.
Are volunteer directors personally liable for an insider’s loan?
They can be. Knowing participation brings the 10 percent manager tax, capped at $20,000 per transaction, though relying on a reasoned written opinion from counsel or a CPA ordinarily defeats it.
Does the California RRF-1 really ask about loans to officers?
Yes. Part B, Question 1 asks about loans and other transactions with officers, directors and trustees, including through their entities. A yes answer needs an attachment with the terms and the authorizing board minutes.
What if the IRS has already mailed a deficiency notice?
Correcting within 90 days, or while a timely Tax Court case is pending, can still get the second-tier tax abated under sections 4961 and 4963(e). Petition on time and have the correction amount calculated immediately.
How North Star Law Firm Can Help
North Star Law Firm drafts nonprofit bylaws and conflict rules through its entity formation and governance agreement work and represents insiders and managers before the IRS and Tax Court through its tax defense practice. Phillip Zagotti is a California attorney and a CPA admitted to the U.S. Tax Court.
If your board found an insider transfer, contact North Star Law Firm or schedule a consultation before the next Form 990 or RRF-1 is signed.