Most tax-exempt organizations are subject to the unrelated business income tax (UBIT), which is a tax imposed income of exempt organizations from the regular conduct of businesses that are unrelated to the organizations’ exempt purposes. Thus, the unrelated business income tax is an exception to the general rule that exempt organizations do not have to pay income taxes. For 2007 (the latest year for which figures are available), tax returns filed by 45,069 exempt organizations showed $11,682,909,000 in gross unrelated business income and owed $594,126,000 in unrelated business income tax.
How significant is the UBIT? From the perspective of the national budget and the national debt, $594 million in UBIT is a drop in the bucket. From the standpoint of individual exempt organizations, however, whether they are subject to the UBIT is highly significant.
● Penalties for ignorance. If the managers of an exempt organization are not aware of the UBIT, they risk bringing in untaxed UBTI over a period of years that may ultimately subject the organization to paying back taxes, interest, and penalties for the noncompliance. Even worse, an organization that carries on excessive unrelated business activities may have it exemption revoked.
● Need for professional advice. If an exempt organization sells any product or provides any service to its members or to the public, the organization must determine whether the income from the sales or services constitutes UBTI. The UBIT is packed with terminology, exceptions, modifications, and other matters that make it difficult for management or board members to decide if there is UBTI. Thus, many exempt organizations that engage in business activities need to make their accountants or attorneys aware of the activities and how much income they derive from them.
● Economic pressures. The economic downturn has put pressure on many exempt organizations to finds funds to carry on their exempt activities. Donations have slowed because donors have less disposable income. Moreover, exempt organizations which served the poor are finding increased needs in their communities because of layoffs and other economic factors. In the quest to find funds for their operations, some exempt organizations may be commencing business activities or expanding existing business activities.
It is imperative that an exempt organization and its advisors evaluate whether any of the organization’s activities generate UBTI.
See Jael Jackson, Unrelated Business Income Tax Returns, 2007, Statistics of Income Bulletin (Winter 2011).