Jennifer A. Gniady

Continuing recent IRS denials of tax exemptions to open-source software (OSS) organizations are drawing attention to the agency’s need to issue updated revenue rulings or other guidance about when OSS may qualify as a charitable activity, particularly where there is an educational or civic purpose. OSS contrasts with proprietary software — where the owner invests time and money in creating the software and then charges for the right to use it — by being freely available and often collaboratively developed. The owner’s rights in proprietary software are protected by copyright, and access to the software and its inner workings is strictly limited by the owner. The OSS license makes available not just the program, but also the actual code creating it, for any member of the public to download, modify and use.

Continuation of OSS Tax-Exemption Denials

IRS Private Letter Ruling 202530014 issued late this summer is illustrative of the problem OSS organizations continue to face. In that instance, an applicant requested exempt status in order to develop best practices for processes and governance of OSS. It had planned to do this through the collaboration of academics, nonprofits and public-sector groups to develop and license a framework of best practices to the open-source industry. The applicant anticipated creating exclusively OSS for, and making the software available primarily to, nonprofit, educational and public-sector institutions, but also freely available to anyone agreeing to the terms of the open-source license. The description of its activities included collaboration and standardization, workshops and code-a-thons, a certification registry, membership activities, and training and documentation. Nevertheless, like other denials of exemption stretching back to approximately 2012, the IRS determined that OSS development itself was a non-exempt purpose that, if substantial, destroys the exempt character of the organization.

Shift in Distinction for Software Development

It hasn’t always been like this. In the 1990s, when the concept of OSS was novel, the IRS approved several exempt organizations whose purpose involved developing, licensing and maintaining OSS. In 2003, the Mozilla Foundation, the global nonprofit and parent of Mozilla Corp., received 501(c)(3) status for the purposes of developing open-source free internet applications and standards-compliant content and software. And, in fact, government agencies such as NASA and the U.S. Department of Defense make liberal use of OSS in their work because it both encourages innovation and reduces the need to duplicate development efforts. OSS licenses, such as the GNU General Public Licenses, have been developed to restrict uses of the software for monetary purposes unless the developer makes the derivative products similarly open to the public. Use of these open licenses for software also does the work of ensuring that any private benefit derived from the open-source development work is merely incidental.

Today’s distinction seems to be that the IRS doesn’t see software development itself as educational or charitable. However, the lack of official guidance explaining what does and does not qualify means tax practitioners can only try reading between the lines of private letter rulings and denials to determine what might qualify. Unfortunately, formal denials are often light on details due to extensive redactions and are, ultimately, not precedential except to the extent they bind the parties involved.

Need for Additional IRS Guidance

Until the administration is ready to take a good look at providing guidance on OSS, these organizations will continue to get short shrift. Some will go on to organize as 501(c)(6) business associations, although Private Letter Ruling 202507012, issued earlier this year, may have been among the first to deny even this less-tax-favored status for open-source development. In that denial, the IRS found an organization promoting and maintaining an open-source blockchain software failed to qualify as a business association because it was not connected to a specific line of business, but to a broad range of business interests that could benefit from the software.

But, more critically, many other developers may simply choose not to create software that could solve problems or provide broad benefits to the public. Until additional guidance is issued, or one of the denied organizations brings its claim to tax court, it looks like OSS development will continue to be closed out of the tax-exempt universe.