UF & UBIT: Unrelated Business Income Tax

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UF & UBIT:
Unrelated Business Income Tax
Presented by:
Andrea Newman, CPA
September 4, 2014
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Background & Basics of UBI
UBI Exclusions
Potential UBI-Generating Activities
Applicable “Real Life” Examples
What does the future hold???
What is Unrelated Business Income Tax?
UBIT
• Under Internal Revenue Code Section 115, the
University of Florida is tax-exempt as an
instrumentality of the State of Florida
– Exempt purposes of state colleges and universities
include all of the purposes and functions
described in Code Section 501(c)(3)
– Federal income tax purposes the University may
engage in certain activities
UBIT Defined
“Income from a trade or business, regularly carried on,
that is not substantially related to the charitable,
educational or other purpose that is the basis of the
organization’s exemption.”
The following three criteria must be
present:
1. A trade or business
2. Regularly carried on
3. Not substantially related
If your activity a trade or business?
“Trade or business” – Any activity carried on for the production
of income from selling goods or performing services.
– If the University/department is selling goods or services to generate
income, even if it is conducting the activity within the larger group of
activities related to its exempt purpose, the activity is a trade or
business.
– While the University/department is carrying on its daily exempt
function, it could also be carrying on activities that are taxable.
- Important Factor To Consider Whether A Profit Motive Exists
Is your activity carried on?
• Regularly carried on – If activities show a frequency and
continuity, and are pursued in a manner similar to comparable
commercial activities of nonexempt organizations.
Key: The frequency in which for-profit operates.
• If an activity is a type that a for-profit entity would conduct on
a year-round basis, the same activity by an exempt entity will
not be “regularly carried on” if it is for a few weeks.
Is your activity not substantially related?
• Related to University Exempt Purpose
– To be related to the University’s educational or research exempt purpose,
there must a substantial causal relationship.
– The activity must contribute importantly to the accomplishment of the
exempt purpose (other than the University’s need to produce income).
• Size & Extent
– Particular emphasis is placed on the size and extent of the activity.
– If an activity is conducted on a scale larger than reasonably necessary to
carry out the exempt purpose, it is more likely to be treated as unrelated.
• Dual Use of Assets & Facilities
– Use for both exempt and commercial purposes will not necessarily
exempt the income derived from commercial use unless the business
activity “contributes importantly” to the accomplishment of exempt
purposes.
Substantially Related Income
• Factual Question: Is there a relationship between activity and
accomplishment of UF’s exempt purpose?
– Direct relation to the University’s exempt purpose.
• IRS compares incorporation documents and operations
• New activities should be reviewed to ensure consistency with
exempt purpose
• Just because an activity raises needed funds
for the University/department does not
mean that the activity is exempt
Substantially Related Income
• Substantially Related: Depends on facts &
circumstances of each case
– Factors that the IRS and courts have relied on in concluding
that an activity is not substantially related:
• Fees charged to the general public are comparable to commercial
facilities;
• Only those that purchase the goods or services are benefited and the
benefits are in direct proportion to the fees charged;
• The organization furnishes and operates the facilities through its own
employees who perform substantial services in providing the activity; and
• Maximization of profit is a predominant element in the exempt
organization’s conduct of the activity.
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Background & Basics of UBI
UBI Exclusions
Potential UBI-Generating Activities
Applicable “Real Life” Examples
What does the future hold???
Exclusions From UBIT
• Volunteer Labor
– Activities in which substantially all (85% or
more) work is performed by volunteers
• Convenience of University
Members
– Activities operated for the convenience of
members, students, patients, or employees
• Donated Merchandise
– Sales of merchandise that is substantially all
(85% or more) donated to the University
Excluded From Taxable Income
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Dividends
Interest
Annuities
Royalties
Rental income from real
property
• Income from certain forms
of research
Royalties
Tax, duty or compensation paid to
owners of a patent, copyright, mineral
interest, or other property right for the
use of it or the right to exploit it
• Royalty exclusion includes:
– Overriding royalties
– Net profits royalties
– Royalty income received from licenses by the University as the legal and
beneficial owner of patents assigned to it
• Exception: Royalty income derived in part from the
performance of services – payment will not constitute royalty
income
Rents
• Rules vary depending on whether
they are derived from real or
personal property or from a mixed lease of both real
and personal property
• Real Property – Generally, rents from real property
are excluded:
– Property is not debt financed
– Additional services are not rendered
– Are not dependent on percentage of profits
Rents
• Rental of real estate is generally not
taxable
• The following may be taxable:
– Rental based on income or profits of
lessee is taxable
– Services other than customary rental
may taint rental
– Portion for personal property rental is
generally taxable
– Parking rental is generally taxable
– Hotel income is generally taxable
– Debt-financed rental is generally taxable
• Special rules that apply to Universities, i.e.
“qualified organizations”
Rents
• Personal Property – Generally, rents from personal property
are excluded only if there is a mixed lease and the rents
attributable to the personal property are an “incidental” part
of the total rents received under the lease
• Rental of personal property is generally
taxable
– Ignored as incidental if value is 10% or less
– Separated, if between 10% and 49%
– If 50% or more – then it’s all taxable
Rents
• Services provided with the rental
– Other than customary landlord/tenant maintenance
– For benefit of the tenant
– May render entire rental as taxable
• Examples:
– Supplying of maid or linen services
services
– Furnishing of heat and light
not services
– Cleaning of public entrances, exits, stairways, or lobbies
not
services
– Collection of trash
not services
– Renting of parking spaces where attendant is on duty
services
– Providing security services to a parking garage
services
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Background & Basics of UBI
UBI Exclusions
Potential UBI-Generating Activities
Applicable “Real Life” Examples
What does the future hold???
Potential UBI-Generating Activities
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Advertising
Contract research
Sales of Merchandise
Licensing Agreements / Affinity Income
Advertising
• Any language which is an inducement to
purchase a product or service
• Qualitative or comparative language
• Price information
• Indication of savings
• Endorsements
• Call to action
Examples of Activities Which May
Generate Advertising Income
• Sports programs
• Scoreboards
• Sponsorships of a
departmental newsletter
• Student newspaper
• Periodical advertising
• Web-site advertising
• TV & radio broadcasting rights
Contract research may constitute unrelated
business income
Related to exempt purposes – How to tell
• Is the project scientific? – Must be yes
• Is the project research? – Must be yes
• Is the project in the public interest? – Must be yes
Excluded from unrelated business income
• Conducted for federal or state governments
• Conducted for colleges and hospitals
• Fundamental research available to the public
The regulations are complex and require a
contract by contract analysis.
Sales of Merchandise
• In general, sales of merchandise is separated into three
major categories:
1.
2.
3.
Directly educational materials – nontaxable
Non-educational, convenience exception – nontaxable
Other merchandise sales – taxable
• Exempt Sales:
– IRS College and University Audit Examination Guidelines
• Items that are “required or otherwise necessary” for participation in a
course of instruction and other educational materials that “further the
unstructured intellectual life of the campus community”
• Non-educational items that are low in cost and in recurrent demand
may fall under the convenience exception
Sales of Merchandise
• Taxable Sales
– IRS holds that the
“convenience exception” does
not apply to items with a
useful life of more than one
year
• Exception: Logo novelty item or
logo clothing
– Sales to the general public do
not fall within the
“convenience exception”
Sale of Merchandise
Unrelated, excluded or related revenue?
Unrelated Examples:
• University book store items
sold
to Alumni
• University cafeteria providing
catering services to other
businesses
• Hospital’s pharmacy sales to nonpatients, non-employees
Excluded Examples:
Related Examples:
• Non-Education items from a
University’s book store sold to
students at a university
(convenience)
• Educational materials from a
University’s book store sold to
students at a university
• University catering to university
departmental meetings
(convenience)
• University catering to students,
faculty, and staff (similar to
excluded since for convenience)
• Hospital’s pharmacy sales to
employees (convenience)
• Hospital pharmacy sale to
patients
• Sales where volunteer labor is a
material factor (volunteer)
• Sale of merchandise that was
donated
Licensing Agreements /Affinity Income
• Royalty exclusion is commonly used by exempt organizations
to exclude licensing fees from UBIT.
• IRS generally agrees so long as the exempt organization plays
a passive role in the licensing agreement.
– Active Involvement – The IRS views the royalty payment as
consideration for services performed and not a royalty.
Licensing Agreements /Affinity Income:
Rough Set of Guidelines
• Avoid providing specific services (i.e. advertising,
promotion, endorsements, etc.)
– Ok to review materials for quality control
– Agreement should expressly state that the organization will not
provide specific services
• Only services should be “de minimis” or “courtesy” services
• Arrangements necessitating substantial services
– Create a separate agreement for the service component and
allocate a portion of the income to services
• Specifically terming the arrangement a “licensing
agreement” and referring to the payments as “royalties”
– Avoids certain amount of discrepancy
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Background & Basics of UBI
UBI Exclusions
Potential UBI-Generating Activities
Applicable “Real Life” Examples
What does the future hold???
Advertising v. Bookstore
Advertising
Bookstore
Exempt
Reportable
Exempt
Reportable
Sale of commercial advertising
and underwriting time on a
campus radio station. Students
assist in subscription drives
and underwriting and
advertising sales programs.
Sale of commercial advertising
space in campus newspapers,
journals, magazines, or other
periodicals
Sale of advertising space in
souvenir programs for sports
events (or music or drama
performances).
Sale of commercial advertising
in sports media guides. Sales
are made by a full-time person
throughout the year.
Sale of books, athletic
clothing, general school
supplies, computer hardware
and software, and items that
are low in cost and in
recurrent demand to
University members.
Sale of books, athletic
clothing, general school
supplies, computer hardware
and software, and items that
are low in cost and in
recurrent demand to the
general public.
Sales of computers to
students or faculty members.
Sales of computers at a
discount to other educational
institutions.
Career Services v. Debt-financed Property
Career Services
Exempt
Debt-financed Property
Reportable
Exempt
Career services, such as
resume critiquing, interview
coordination, and other job
placement assistance provided
to alumni for a fee.
Rental of apartments to
students and non-University
members. The apartment
building is subject to a
mortgage (**special rule
pertaining to University’s)
Reportable
Equipment Rentals v. Equipment Sales
Equipment Rentals
Equipment Sales
Exempt
Reportable
Exempt
Reportable
Rental of equipment (e.g.,
outdoor recreation equipment,
scientific instruments, etc.) to
non-University members.
Sale of obsolete equipment
to the general public.
Sale of electronic equipment
to non-University members.
Facilities Usage v. Hotel & Restaurant Operations
Facilities Usage (No Lease)
Hotel & Restaurant Operations
Exempt
Reportable
Exempt
Reportable
Rental of facilities to nonUniversity members for
conferences and symposiums.
Use of University-owned golf
course by alumni, spouse and
guests of students, faculty and
staff.
Sales to students’ , student’s
families and friends,
prospective students and
their families, participants in
school functions and
activities, and persons having
business with the school.
Sales to tourists, spectators
at sporting events (including
alumni), and the general
public.
Use of recreational facilities
for classes offered to the
general public and alumni.
Entertainment Events v. Rents
Entertainment Events
Rents (Lease Basis)
Exempt
Reportable
Exempt
Reportable
Events conducted in which the
school’s own students put on
the event (i.e., a play, concert
recital, or ballet).
Events involving professional
entertainers (i.e. a professional
performance involving paid
entertainers).
Rental of campus building or
space within a building.
Includes leasing for a fixed
periodic fee or a fee that is a
percentage of gross income.
Leasing of property for a fee
that is based on a percent of
net income or profit.
Rental of athletic facilities
and equipment to nonUniversity members.
Revenue is derived from
rental of real property (95%)
and personal property (5%).
Parking Facilities v. Sales
Parking Facilities
Sales
Exempt
Exempt
Reportable
Sale of clothing and other
items to the University
community that are
embossed with the
University seal.
Sale of emblematic items (Tshirts, mugs, caps, pennants,
etc.) to alumni and the
general public. The sales are
made by mail order on a
regular basis.
Reportable
Income from University owned Operation of a parking facility
parking facilities used by
that is used by members of the
faculty, staff, and employees.
general public.
University enters into a lease
with a third party who
operates the University’s
parking facility and pays fixed
rent to the University.
Sale of excess crops used in
research. The crops are sold
in an “as is” condition when
mature.
Tower Rentals v. Catering/Food
Services
Tower Rentals
Catering/Food Services
Exempt
Reportable
Exempt
Reportable
Rental of space on campus
building or freestanding tower
to a third-party for placement
of cellular transmission
equipment, i.e. University
allows third party to place its
tower on University real
estate, (either ground or
existing building).
Rental of antenna space on a
tower owned by the University
(permanently affixed to either
the ground or an existing
building).
Rental of several rooms and
halls on campus to unrelated
organization for meetings
where a contracted outside
company provides food and
drink to these organizations
at these meetings and
events.
Rental of various rooms and
halls on campus to unrelated
groups for meetings where
the University’s food services
division provides catering
services for these meetings.
*Income from both
catering services and
rental of facilities
(substantial services
provided)
Payments for the use of excess
radio frequency.
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Background & Basics of UBI
UBI Exclusions
Potential UBI-Generating Activities
Applicable “Real Life” Examples
What does the future hold???
Discussion Draft of
“Tax Reform ACT of 2014”
• Draft includes a number of proposed UBIT changes:
– Income from the sale of goods from mail order and catalog sales of book
stores would be treated as UBIT subject to certain exceptions that included
sales of mementoes, T-shirts, and other items with the exempt organization’s
logo costing less than $15.00.
– Special exemptions for sales of goods to students with a retail price of $15.00
or less, and for items with higher prices if the sales furthered educational
programs and the articles were not common consumer goods.
• Books and computer software would be exempted but not appliances, cameras,
television sets, VCRs, and recreational sports equipment.
• Exemptions for computer sales would be granted on the condition that the faculty
member approved the purchase.
– Health, fitness, exercise, and similar health promotion activities for a special
fee would be subjected to UBIT.
– Income derived by a college or university from travel or tours conducted by
the students and faculty would be subject to UBIT except where travel is
related to a degree program curriculum.
Discussion Draft of
“Tax Reform ACT of 2014”
– Income derived from food sale by a university for students, faculty, or
employees would be subject to UBIT unless provided on the
institution’s premises.
– Lodging facilities income would be treated as UBIT except in the case
of college or universities only when such facilities are used as
dormitories, or fraternity, or sorority housing used by students, faculty,
or staff but not to facilities patronized by the public.
– Affinity credit card income or catalog and endorsement activities
would be treated as UBTI.
• A number of these items were included in the college and university
questionnaire issued by the IRS.
– Advertising income subject to UBIT could only be reduced by
deductions associated with direct advertising costs.
• The Draft Report also recommended that the convenience
exception to UBTI under the IRS Code should be repealed except for
limited exceptions applicable to university dining halls and dorms.
Questions
Andrea Newman, CPA
James Moore, CPAs
Email: [email protected]
Phone: (352) 378-1331
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