As COVID-19 continues to impact our economies, many not-for-profit (NFP) organizations may be experiencing significant decreases in revenue, leaving them to look for new sources. If you find your Wisconsin or Minnesota organization in this situation, it is important to be aware of revenue that may require the organization to pay unrelated business income tax (UBIT). NFP organizations are permitted under federal law to produce a certain amount of revenue that is unrelated to the organization’s purpose, but the organization may be taxed at a rate of 21 percent on the net income derived from this activity.
Unrelated business income is income from a trade or business that is regularly carried on and is not substantially related to the charitable, educational, or other purpose that is the basis of the organization’s exemption.
Trade or business includes any activity that is conducted for the production of income. The activity could produce income from the sale of goods or the performance of services.
To determine if an activity is regularly carried on, the organization must determine how frequent the activity occurs and if it is continuous. The IRS typically compares the time span of the activity to a comparable activity of a non-exempt commercial entity to determine the frequency. It is important to note that income producing or fundraising activities that last only a short period of time, on an annual basis would not be considered as regularly carried on.
Not substantially related means the activity does not contribute importantly to the accomplishment of the exempt purpose of the NFP organization. An NFP organization’s purpose is defined as the reason the organization exists and its basis for qualification as a tax-exempt entity.
Not substantially related means the activity does not contribute importantly to the accomplishment of the exempt purpose of the NFP organization. An NFP organization’s purpose is defined as the reason the organization exists and its basis for qualification as a tax-exempt entity.
If an activity meets all three of the criteria above, it may be considered unrelated business taxable income. Some common activities that may produce UBIT include the following:
- Sales of items unrelated to the NFP organization’s mission in gift shops, pro shops, online storefronts, and similar retail establishments
- Sales of products or services that are available because of excess capacity, such as banquet space
- Management, administrative, and consulting services to unrelated parties
- Rental income
This is not an all-inclusive list of activities that produce unrelated business taxable income. There are some statutory exemptions that may cause unrelated business income to not be taxable.
Please contact your Hawkins Ash CPAs representative if you have questions related to new revenue-producing activities you may be considering and whether they may produce unrelated business income.
