UBI and Higher Ed

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UBI and Higher Ed
Larry Clark
Clover Park Technical College
BAR
May 29, 2015
UBI and Higher Ed
Agenda
Summary
Elements of UBI
Common activities that could trigger UBI
Exclusions from UBI
Recent Focus
UBI and Higher Ed
Summary
Tax-Exempt status does not shield colleges from all taxes:
(UBI) Unrelated Business Income is subject to a special
tax (UBIT) at normal corporate income tax rates on net
income generated on unrelated activities.
The intent is to even the playing field between forprofit businesses and tax-exempt organizations who
might conduct a trade or business in competition with
taxable entities. (Mueller Macaroni v. Commissioner
1950.)
The tax is paid when filing Form 990-T.
Elements of UBI
Three requirements
must be present to
be a UBI Activity:
IRC Section 513
Trade or
Business
Regularly Carried
On
Not Substantially
Related
Trade or Business Requirement
• Intent to profit from the
activity
• Regularity of activities
and income production
which are different
than in a hobby
• An activity does not
lose its identity as a
trade or business
merely because it is
conducted within a
larger group of similar
activities
Regularly Carried On
• Show a frequency and
continuity
• Pursued in a manner similar
to nonexempt organizations
Regularly Carried On
To determine whether an activity is regularly carried on,
the IRS considers the frequency and continuity with which
the activities producing income are conducted and the
manner in which they are pursued. First, consider the
normal time span of the activity, then determine whether
the length of time alone suggests that the activity is
regularly carried on, or only intermittently carried on.
Treasury regulations describe a sandwich stand operated
by an exempt organization at a state fair for two weeks as
not regularly carried on, but the operation of a commercial
parking lot every Saturday is a regularly-carried-on
activity.
If the activity is of a seasonal nature but conducted during
a significant portion of the season, it is considered to be
regularly carried on. Summer sports camps are an
example of this type of activity.
Not Substantially Related
• To the organization’s exempt
purpose
• Production of funds alone
doesn’t count
• Consider the size and extent of
the activity
To avoid UBIT, an activity must
have a substantial causal
relationship to the achievement of
the college’s fundamental exempt
purpose.
Not Substantially Related
Treasury regulations describe
“substantially related” this way:
Where income is realized by an exempt
organization from activities which are in
part related to the performance of its
exempt functions, but which are conducted
on a larger scale than is reasonably
necessary for performance of such
functions, the gross income attributable to
that portion of the activities in excess of the
needs of the exempt functions constitutes
gross income from the conduct of unrelated
trade or business.
UBI and Higher Ed
Common Activities that could Trigger UBIT
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Advertising
Rental or sales of mailing lists
Online stores linked to college web sites
Renting equipment or debt-financed
property to non-college personnel
• Leasing athletic or conference venues to
private interests
• Parking revenues generated from public
attendance at non-college events
• Travel tours
UBI and Higher Ed
Common Activities that could Trigger UBIT
Advertising
Advertising revenue is generally considered UBI.
It is rarely substantially related to the exempt
purpose of the college.
Although the publication may seem exempt as not
regularly carried on, the solicitation for advertising
is.
Readership costs (expense directly connected with
production and distribution) must be less than 4
times gross advertising revenue received.
Exclusions from UBI
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•
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Dividends, interest, investment income
Research
Gains and losses from disposition of property
Rents from real property not debt financed and
when additional services are not rendered
Volunteer labor
Qualified sponsorship payments
Selling donated merchandise
For the convenience of employees/students
(cafeteria, logo clothing)
Exclusions from UBI
For the convenience of employees/students
(cafeteria, logo clothing)
IRS Private Letter Ruling 802522 states that
while the sales of books, supplies, and
accessories is a related activity, the sale of
clothing and plants are taxable.
Selling food or gifts primarily for the
convenience of student and staff is generally not
taxable (IRC Section 513(a)(2).
UBI and Higher Ed
Recent Activity
IRS Compliance Project
Camp Tax Proposal
ACT Report
UBI and Higher Ed
IRS Colleges and
Universities Compliance
Project
Launched in 2008, the IRS
distributed questionnaires
to 400 randomly-selected
colleges and universities.
Based on the answers, 34
institutions were selected
for examinations.
Examination Findings
• Increases to UBTI for 90%, totaling $90 million
• Over 180 changes to the amounts of UBTI reported
• Disallowance of more than $179 million (70%) in
NOL amounted to more than $60 million in taxes
The main reasons for increases to UBTI were:
• Disallowing expenses that were not connected to
unrelated business activities
• Lack of profit motive
• Improper expense allocation
• Errors in computation or substantiation
• Reclassifying exempt activities as unrelated
UBI and Higher Ed
Lack of Profit Motive
• No formal business plan or
contracts for the activity
• Expenses almost always exceed
any income from the activity
• Many years of losses
• No adjustments to cost, expenses
or pricing to lower the losses.
Improper Expense Allocation
• Expense Allocation must be
reasonable
• “Dual use expenses” allowed if they
have a “proximate and primary
relationship” to the activity
• Document and check consistency to
current tax court rulings
UBI and Higher Ed
Camp Tax Reform Act
Proposed by House Ways
and Means Chairman Dave
Camp in February 2014.
The full proposal is 979
pages long, but it included
some changes to the
treatment of UBI.
The overall proposal seems to be dead, but
some of the recommendations are worth
noting:
• Compute UBIT separately for each line of
business
• Exclusion of research income limited to
publicly available research
• Would eliminates safe harbor for managers
who rely on professional advice
UBI and Higher Ed
ACT Report
Recommendations released
last summer by the
Advisory Committee on
Tax Exempt and
Government Entities (ACT)
point out the lack of
guidance from the IRS
regarding UBI
The report blames lack of guidance for
noncompliance and recommends that:
• Standard expense allocation methods be
developed for dual use facilities
• Clear examples of UBI be published
• Preparatory time not be included in the
consideration of whether an activity is
considered to be regularly carried on
• Regulations protecting the organization’s taxexempt status despite substantial commercial
activity
• The 990-T be redesigned
Questions? Discussion?
Ask your AAG when in doubt.
This presentation is a
summary only which cannot
substitute for legal advice.
References
http://www.irs.gov/pub/irs-pdf/p598.pdff
http://www.irs.gov/pub/irs-tege/CUCP_FinalRpt_042513.pdf
http://cacubo.org/files/docs/resources/Session_103_Tax_Update.pdf
http://nonprofitblog.bdo.com/index.php/2013/07/31/dont-let-thishappen-to-you-disallowed-losses-on-form-990-t/
https://clarknuber.com/articles/act-recommendations-regardingunrelated-business-income-tax-part-iii-proposed-revenue-ruling/
http://www.hurwitassociates.com/l_unrelated_income.php