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Foundation Loses Insurance Claim For Grants Based On Fake Exemption Letter

Foundation Loses Insurance Claim For Grants Based On Fake Exemption Letter

Court says computer fraud claim is not covered because loss was not directly caused by fraudulent email

The Denver Foundation has been unable to recover from insurance on a claim of computer fraud when a non-exempt applicant submitted a fraudulently modified IRS letter to show that it was charitably tax-exempt under section 501(c)(3) of the Tax Code.  A Federal District Court in Colorado has ruled that the loss did not “directly” result from the fraudulent email.

The Denver Foundation, a community foundation with assets of more than $1 billion, made grants of $349,000 from 2019 to 2021 to a group known as Impact Locally.  The founder submitted an initial email falsely stating that the group was recognized as a 501(c)(3) charity.  The email included a forged IRS letter, apparently obtained online, but altered to change the name of the organization, the date of the letter and the name of the contact person.

The Foundation’s insurance policy provided coverage from loss of money or other property “resulting directly from the use of any computer to fraudulently cause a transfer from inside the ‘premises’ … to a person … outside those ‘premises’ or to a place outside those ‘premises.’”  The insurance company denied the claim and the Foundation sued.

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Although the email gave the impression that the group was eligible to receive grants, the Court said, “additional steps had to occur before there could be any loss.  Namely, a specific grant request had to be made, [the Foundation] had to approve it and send a check, and [the group] had to receive and cash the check.”

Although the representation that the organization had (c)(3) status was necessary, the Court said, it was not a sufficient precondition for the Foundation’s losses.  (The Denver Foundation v. Philadelphia Indemnity Insurance Company, D. CO, No. 22-cv-03326, 4/24/24.)


The decision seems to be an appropriate outcome, but appears to be based, at least in part, on an erroneous statement of the tax law.  The case starts with a statement that “to comply with tax laws, [the Foundation] may make grants only to charities that have tax-exempt status under section 501(c)(3)” of the Tax Code. 

It is possible, although unlikely, that the Denver Foundation has a policy of making grants only to recognized charities.  But a 501(c)(3) charity is not prohibited by the Tax Code from making grants to organizations other than recognized charities.  A charity must act “primarily” for charitable purposes, but can satisfy that requirement by making grants for charitable purposes, not just to an entity recognized as a charitable organization by the IRS. 

A charity can make a grant, for example, to a for-profit utility company to pay utility costs of patrons unable to make the payments with their own resources.  Public charities are able to function as fiscal sponsors by collecting charitable contributions for a charitable program carried out by individuals or organizations that do not have federal recognition of exemption.  Even private foundations, that are under more stringent limitations than public charities like a community foundation, can turn grants to non-charities into qualifying distributions by making them for charitable purposes and exercising “expenditure responsibility,” an augmented process to assure the charitable use of the funds.  It is disconcerting to see an opinion starting by stating a rule of law that is not a rule of law.

The facts of the case, however, suggest that, as a standard administrative procedure, it may be wise for grantmakers to confirm the exempt status of their applicants and not simply rely on grantee representations.  With up-to-date information on exempt status so readily available through the Exempt Organization Search on the IRS website, it may make sense to check there before authorizing or reauthorizing grants.

U.S. Dist. Ct. CO

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