(Adds reaction, paragraphs 5-12, background, paragraphs 19-25)
By Patrick Temple-West and Andy Sullivan
WASHINGTON, Nov 26 (Reuters) - The Obama administration proposed new rules on Tuesday to rein in tax-exempt groups that have transformed the U.S. political landscape in recent years by harnessing hundreds of millions of dollars in anonymous donations to influence elections.
The proposal would alter definitions in the tax code that allow limited campaign and fundraising activities by the tax-exempt groups, some of which have been at the center of allegations that the Internal Revenue Service targeted conservative Tea Party groups for extra scrutiny.
These tax-exempt “social welfare” groups, organized under section 501(c)(4) of the tax code, mushroomed after a 2010 U.S. Supreme Court ruling that relaxed campaign finance rules. Part of their appeal is that the groups do not have to disclose the identities of their donors as long as they spend less than half their time and money on political activities.
Critics say the relaxed rules have opened the door to the abuse of campaign finance rules meant to curb the influence of wealthy donors in U.S. politics.
The proposed rules do not address other tax-exempt fundraisers such as labor unions and business organizations like the U.S. Chamber of Commerce, which are classified as 501(c)(6) tax-exempt organizations and can also raise and spend political money anonymously.
“The fact that the administration’s new effort only affects social welfare organizations - and not powerful unions or business groups - underscores that this is a crass political effort by the administration to get what political advantage they can, when they can,” said Representative Darrell Issa, a California Republican.
Some of the biggest spenders in the last election also expressed outrage at the proposal.
Americans for Tax Reform, a non-profit that spent about $14 million in efforts to oppose Democrats in the 2012 elections, according to the Center for Responsive Politics, said the Obama administration was aiming to hurt conservatives at the polls.
“We expect the constitutionality of such a rule would be immediately challenged on solid grounds,” said John Kartch, spokesman for the group, which is led by anti-tax activist Grover Norquist.
Campaign-finance watchdog groups that have pushed for tighter restrictions said the news was a welcome development from an agency that has done little over the years to close a loophole that has been widely exploited in recent elections.
Paul S. Ryan, senior counsel at the Campaign Legal Center, called the announcement “a very positive development.”
“The devil, of course, will be in the details,” he said.
U.S. government officials have struggled for years to determine what qualifies as political activity. The proposed rules would more clearly define “candidate-related political activity” and also ask for public comment about how much political spending these groups should be allowed to do.
The proposed rules introduce several bright-line tests that would determine when a 501(c)(4) is doing too much campaign activity and is violating its tax-exempt status.
Among these new definitions, advertising that names a candidate 60 days before a general election would count as political activity.
Certain contributions that can now be made anonymously by these groups may need to be reported. Any “voter guides” that refer to a candidate would be considered political activity.
Also, any event within 60 days of a general election at which a candidate appears as part of the program would be a political event.
“This proposed guidance is a first critical step toward creating clear-cut definitions of political activity by social welfare organizations,” Mark Mazur, Treasury assistant secretary for tax policy, said in a statement.
Proposed rules which limit activity within two months of a vote may have a limited impact in today’s political landscape, when the next campaign begins as soon as the last one ends.
The rules, for example, would not have stopped the blitz of negative ads from liberal groups in last year’s presidential race that painted Mitt Romney as a heartless plutocrat shortly after he secured the Republican nomination.
The rules do not apply to another type of tax-exempt political group - so-called Super PACs - that accept unlimited donations. Unlike social-welfare groups, Super PACs must disclose donors and may not give money directly to candidates.
Anonymous spending has ballooned from $5 million in 2004 to $311 million last year, according to the Center for Responsive Politics, accounting for nearly one in three dollars spent.
While they cannot give money directly to a candidate, social-welfare groups can run ads or get-out-the-vote drives. They also can pass on money to other outside groups, like Super PACs, that face fewer restrictions on their activities.
Some organizations take advantage of both sets of tax laws. Republican strategist Karl Rove’s American Crossroads Super PAC, for example, spent $105 million to boost conservative candidates in last year’s election.
Its sister social-welfare group, Crossroads GPS, spent an additional $189 million, raised from anonymous donors. While American Crossroads spent nearly all of its money on the election, Crossroads GPS steered only $74 million to election activity. It gave another $35 million to other conservative groups. A spokesman for both groups declined to comment.
In a nod to the political sensitivity of the matter, Treasury and the IRS stressed that Tuesday’s move was only initial guidance. They said officials will “carefully and comprehensively” consider all feedback before proposing additional guidance or finalizing any rules.
The IRS has acknowledged the challenge in defining when such groups cross the line to becoming predominantly political groups and should therefore lose their tax-exempt status and ability to maintain the secrecy of their donor lists.
The issue came to a head when the IRS became embroiled in a scandal after it was revealed that the agency gave extra scrutiny to groups affiliated with the conservative, small-government, low-tax Tea Party movement between 2010 and 2012.
Obama fired acting IRS head Steven Miller in response to the scandal and in May installed White House budget official Danny Werfel to lead the agency.
The Treasury and IRS said on Tuesday that the proposed guidance would replace the current system of fact-intensive inquiries with more definitive rules. Such a move would limit individual IRS officials’ discretion when considering tax-exempt applications. (Reporting by Patrick Temple-West; Writing by Karey Van Hall; Editing by Howard Goller and Jim Loney)