The Unrelated Business Income Tax (UBIT ) Law 603: Howard Bunsis Spring 2012. UBIT (Unrelated Business Income Tax).
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The UBIT is generally imposed on the income derived from profit-seeking activities that are regularly carried on by a nonprofit organization if those profit-seeking activities are not substantially related to the organization's exempt purpose
The UBIT applies to virtually all nonprofit organizations otherwise exempt from tax under Internal Revenue Code section 501 at normal corporate income tax rates.
The primary purpose of the UBIT is "to eliminate a source of unfair competition by placing the unrelated business activities of certain exempt organizations upon the same tax basis as non-exempt endeavors with which they compete
The Treasury Regulations require three conditions to be met before an activity will be classified as an unrelated trade or business.
The regulations provide that a trade or business includes "any activity carried on for the production of income from the sale of goods or performance of services."
When health or public service organizations conduct walkathons, bike-alongs, or other such events, they are engaging in activities that are unique to such charitable organizations.
Because the income- generating activity does not pose any competitive threat to for-profit organizations, the UBTI rules do not apply.
This would be true even if some good or service is given away in conjunction with the event, such as a prize to the volunteer who collects the most pledges
The entire nature of the pledge drive is non-commercial gift-giving. Token (or even valuable) prizes, given away in this context, still differ fundamentally from goods or services bargained for in the normal course of business
The following are not considered a trade or business:
the sale of mailing lists to another exempt organization. n20 Because this exclusion is expressly limited to sales to other non-profit organizations, the common practice of renting lists to for-profit businesses continues to present charitable organizations with tax problems.
low cost items "sold" incidental to soliciting charitable contributions. Example:
Disabled American Veterans (DAV) sent, in its solicitation letters, an "idento-tag," a small replica of the recipient's registered automobile license plate. The idento-tag was not commercially available and had negligible value
Similar items often used by charitable solicitors could include mailing address labels, calendars, and small packages of greeting cards or stationery.
As of 1995, an item could be valued at $ 6.60 and still qualify for the "low cost" solicitation exclusion
This condition considers the "frequency and continuity with which the activities productive of the income are conducted and the manner in which they are pursued."
A nonprofit organization will not be subject to the UBIT if it only briefly conducts the sort of income-producing activity which a taxable business conducts on a year-round basis.
If an income-producing activity is normally only undertaken by a for-profit organization on a "seasonal" basis, then comparable activities by a nonprofit organization will be deemed the regular conduct of a trade or business
Compare the conduct of the activity to similar commercial activities of taxable entities.
a seasonal greeting card sales program by a tax-exempt organization could be a "regular" business activity because a for-profit business would sell its seasonal greeting cards on the same intermittent basis.
sales of advertising space in the program for an annual fund raising show were not a regular business activity since advertising sales in commercial publications are much more frequent and continuous.
income from program advertising sales for an annual collegiate athletic tournament was non-taxable, even though sale of the advertising in the program was carried on by a professional agency, year round and from year-to-year
The regulations require “an examination between the business activities which generate the particular income in question" and the nonprofit organization's exempt purpose.”
A trade or business is related to a nonprofit organization's exempt purpose when there is a substantial causal relationship that requires the activity to "contribute importantly" to the accomplishment of the exempt purpose.
The "facts and circumstances"of each case determine whether the activities contribute importantly to the exempt purpose, with particular consideration given to the size and extent of the activity.
If activities are conducted on a scale larger than "reasonably necessary" to carry out an exempt purpose, the excess constitutes unrelated business taxable income.
Most forms of passive investment income, which include dividends, interest, rents and royalties, are exempt from the UBIT
Profits – is this evidence of a commercial purpose?
In Scripture Press Foundation, the IRS lost the argument that where there are large profits, commercial purposes will follow. However, the opposite conclusion was reached in Fides Publishing, where the sale of religious material resulted in large profits
In Golden Rule Church Association, consistent non-profitability can suggest the absence of commercial purpose
Competition and Fees or Cost of Services
If there is competition, then there is strong evidence of nonexempt purposes
Charging fees below cost usually gets you out of UBIT. But this could hurt the charity.
Commercial Hue or Manner of Operations
Does the commercial activity in question have a commercial hue?
Items clearly for the convenience of the patrons, such as food or beverage are excludible from UBIT
The IRS rules state that where the primary purpose is to further the organization's exempt purpose, the sale is considered related thus not taxable. It is only where the primary purpose is to generate income that the sale is taxable.
The IRS has taken the position that an art museum's gift shop sales of interpretive teaching items with artistic themes furthered the museum's educational purpose.
Thus, items that develop artistic ability were considered substantially related to the museum's educational purpose.
When tax-exempt organizations undertake marketing programs with their focus only on the income potential, the activities likely will fail to satisfy the requirement that the income-producing trade or business be substantially related to the organization's exempt purpose.
For example, an exempt business league contracted with an advertising agency to mail commercial advertising materials to league members for a per-enclosure fee. The materials did not contribute to the league's exempt goals. Thus, the income from the mailings was taxable.
IRS regulations provide that a tax-exempt university may be able to sell advertising in its college newspaper and treat the income as non- taxable, regardless of content, if the advertising is solicited under the instruction and supervision of college faculty or student editors, then that effort is part of the students' educational experience.
Even though the services offered to the advertising buyers is a commercial service, the sale of the advertising by students, under supervision, contributes to the university's educational purpose.
Presumably, if the university newspaper used a professional advertising firm to solicit advertisers, UBIT applies. Why?
If a goal of Mothers Against Drunk Drivers (MADD) is to improve awareness about the impact of drinking on driving skills, MADD could develop T-shirts illustrating how many shots of whiskey equate to .08% blood alcohol content.
Other shirts could use blurred printing to illustrate the impact of drinking on a driver's vision.
The sale of these educational "messages" on T-shirts could produce non-taxable income
The sale of a shirt containing only the MADD logo would generate unrelated business taxable income.
Thus, with a slight product modification, the organization can improve public awareness and avoid the tax burden.
There is no arrangement or expectation that the nonprofit organization will provide a substantial return benefit other than the "use or acknowledgement" of the corporate sponsor's name or logo.
Mere recognition of a corporate contributor, which identify the sponsor instead of promoting the sponsor's products or services
The exclusion does not extend, however, to "advertising" the sponsors products and services.
Advertising is any message or other programming material which is broadcast or otherwise transmitted, displayed or distributed, and which promotes or markets any trade or business, or any service, facility or product