Its UBI - Now What by NonProfitCPAs


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									It's UBI! Now What Do I Do?
presented by
Joseph Irvine, CPA, JD
The Ohio State University

Deborah G. Kosnett, CPA
Tate & Tryon, CPAs, Washington, DC
     Speaker Biography
Joseph R. Irvine is Development and Tax Counsel and a faculty member of the Fisher
College of Business at The Ohio State University, Columbus, Ohio. His practice includes
tax planning and compliance as well as resolving conflicts with the IRS and state and local
tax agencies. He handles charitable gift planning, donor tax issues as well as issues
regarding UBIT, compensation and benefit matters, and state and local tax matters. He
was an attorney with a multistate law firm prior to joining the University. He also has
experience with one of the Big Four accounting firms. He is past Chair of the Tax Council
of the National Association of College and University Business Officers and the past co-
chair of the Taxation Section of the National Association of College and University
Attorneys. He is also a member of the Ohio State Bar Association and the Tax Lead of
the Steering Committee for the AICPA Not-For-Profit Industry Conference. He is a
recipient of the NACUBO Tax Award. His article, “Does Exclusivity Create Liability for
UBIT?,” appeared in the July/August 2002 edition of Taxation of Exempts and “Proposed
FICA Regulations Go Far Beyond A Response To Mayo,” appeared in the
September/October 2004 edition of the same publication. Mr. Irvine is a graduate of Kent
State University (BBA, summa cum laude), the University of Cincinnati (MS, taxation) and
Duke University Law School (JD, high honors). He is admitted to practice in Ohio and the
Federal Court for the Southern District of Ohio. He is also a certified public accountant
and a frequent speaker on tax issues.

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Speaker Biography
Deborah G. Kosnett, CPA, is a Tax Principal with Tate &
Tryon, CPAs and Consultants, in Washington, DC, a firm
specializing solely in not-for-profit organizations. She has 25
years' experience as a tax advisor to not-for-profit
organizations throughout the country. Prior to joining Tate &
Tryon in 1999, Ms. Kosnett was a senior tax manager with
both KPMG and Ernst & Young in Washington, DC, where
she worked with numerous exempt organizations, as well as
with not-for-profit hospitals and multi-entity health systems.

Ms. Kosnett is a frequent contributor to American Society of Association Executives
(ASAE) publications, including “2011 Form 990: Reporting Requirements for
AMCs,” and “Need-to-Knows in the New 990.” She is also a regular presenter at
conferences held by AICPA, ASAE, the Greater Washington Society of CPAs, and
the Finance and Administration Roundtable, and is a co-author of ASAE's "Guide to
the Newest Form 990.” Ms. Kosnett currently serves on the AICPA's Exempt
Organizations Technical Resource Panel, where she assists with numerous
initiatives, including the TRP's Form 990 Task Force.

       American Institute of CPAs
   “I’ve Just Found UBI!”
     Is It As Bad As You

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Unrelated Business Income
 Trade or Business

 Regularly Carried On

 Not Substantially Related

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Modifications in IRC Section 512(b)

 Investment income (interest, dividends,
 Real property rents
 Capital gains and losses
 Research (not testing)
 Exception for debt financed income
 Exception for income from controlled

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Exceptions in IRC Section 513

 Substantially all work by volunteers (85%?)
 Convenience ((c)(3)s and colleges and
 universities only)
  •    Members
  •    Students
  •    Patients
  •    Officers and employees
 Sale of donated goods (substantially all)
 Qualified sponsorship payments

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Additional Exceptions in IRC Section 513

 Bingo games
 Low cost articles
 Hospital services
 Pole rentals
 Fair entertainment
 Trade shows

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Fragmentation: IRC IRC Section 513(c)

… an activity does not lose identity as a trade
 or business merely because it is carried on
 within a larger aggregate of similar activities
 or within a larger complex of other
 endeavors which may, or may not, be related
 to the exempt purposes of the organization.

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Fragmentation: IRC IRC Section 513(c)

 PLR 200148057: sales of golf equipment and food
 and drink at snack bar related, but sales of clothing
 with course logo unrelated

 Publication of a journal two activities: publication of
 editorial content and publication of advertising

 Rev. Rul. 73-105: museum gift shop sales
 fragmented. Reproductions, copies, and books
 pertaining to the collection were related. Souvenirs
 were unrelated.

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Fragmentation: IRC IRC Section 513(c)

 Rev. Rul. 78-98: Fees for ski facility from general
 public use were unrelated. Use by students was

 PLR 9720035: golf course fees from students,
 faculty and staff was related. Fees from alumni,
 spouses and children of students, faculty and staff,
 general public was unrelated.

 PLR 9720035 not always followed by IRS

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                   Pass Through Entities

All income of S corporation, including gain
on sale, is treated as unrelated business

Income from partnerships and LLCs flows
through to partner or member, retaining its

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          The Attack on Loss Activities

Where an activity carried on for profit constitutes an
unrelated trade or business, no part of such trade or
business shall be excluded from such classification
merely because it does not result in profit. 513(c).

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The Attack on Loss Activities

Form 5701 issued by the IRS: the facts clearly
show no desire on X’s part to operate its catering
and recreation center activities at a profit. First, X
has reported losses in nine consecutive years ...
Second, X indicated that these activities are
budgeted to operate at breakeven or a loss with
no future plans to make a profit.... Accordingly, X’s
losses from its catering and recreation center
activities are being disallowed in full because the
required profit motive is not present … .

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                           History of Losses
Weller, TC Memo 2011-224:      4 consecutive yrs.
Dennis, TC Memo 2010-216:      5 consecutive yrs
Lamb, TC Memo 1996-166:        6 consecutive yrs.
Storey, TC Memo 2012-115:      6 consecutive yrs.
Helmick, TC Memo 2009-220:     11 consecutive yrs.
Engdahl, 72 TC 659:            12 consecutive yrs.
Allen, 72 TC 28:               12 consecutive yrs.
Eldridge TC Memo 1995-384:     14 consecutive yrs.
Haladay, TC Memo 1990-45:      15 consecutive yrs.
Rinehart, TC Memo 2002-9: start up period for horse
breeding 5-10 yrs.

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The Attack on Loss Activities

 Have a business plan

 Document purpose of the activity

 Document changes to that plan in the event
 of multiple year losses

 Conduct operations in a business-like

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  “What Expenses May I
   The G/L and Beyond

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Expense Allocation: Directly Connected

 512(a)(1) and 1.512(a)-1(a)
 Depreciation, and similar items attributable
 solely to the conduct of unrelated activity
 Must meet requirements of 162 and 167
 Dual use of facilities and personnel
  • A reasonable basis
  • Proximately and primarily related
  • Example of president: approximately 10% of
    his time

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      Reasonable Allocation Methods

NACUBO draft revenue procedure from 1997

Proposes use of OMB Circular A-21 methodology

Regulation example: advertising activity - deduct
direct costs, allocable portion dual use expenses,
but no portion of costs of developing membership
and carrying on exempt activities

No guidance from IRS

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      Reasonable Allocation Methods

Gross receipts

Actual use or time spent

Must be able to substantiate expense as well as
allocation between exempt and unrelated activity.
Core Special Purpose Fund, TC Memo 1985-48.

GCM 39843 (4/15/91) held that hospital could not use
Medicare costs reported to HCFA for UBI purposes

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Reasonable Allocation Methods

 Regulation example: exhibit catalog advertising

 Ad income                      $100,000
 Direct expense                   (25,000)   75,000
 Catalog inc                       60,000
 Catalog exp                     (110,000)   (50,000)
 UBI                                          25,000

 None of the expenses related to exhibit allowable

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    Rensselaer Polytechnic Institute

Allocation based on actual use or available
Variable expenses were allocated based on
actual use.
Allocation of a fixed expenses was the issue
IRS position: allocate based on available
Taxpayer position: allocate based on actual

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    Rensselaer Polytechnic Institute

 • 150 days of related use
 • 100 days of unrelated use
 • $300,000 of fixed expenses
Allocation to unrelated use
 • 100/365 X $300,00 = $82,192
 • 100/250 X $300,000 = $120,000

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    Exploitation of Exempt Activities


Unrelated activity is kind carried on for profit by
taxable organizations
Exempt activity exploited is a type normally
conducted by taxable organization
Exempt expenses in excess of exempt income may
be deducted against unrelated income

Cannot produce unrelated loss

  American Institute of CPAs
                      Exploitation Example

Ad income                      $100,000
Direct expense                   (25,000)   75,000
Program inc                       60,000
Program exp                     (110,000)   (50,000)
UBI                                          25,000
Football loss                               (25,000)
UBI                                               0

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“Where Does It All Go?”
     Form 990-T

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The Unrelated Business Income Tax
 Imposed by the Revenue Act of 1950
 Tax originally levied on “supplement U net
 Initially applied only to §501(c)(2), (3)
 (except churches), (5), (6) organizations
 Tax Reform Act of 1969 expanded to virtually
 all organizations
 Form 990-T substantially revised in 1970,
 periodical advertising section added in 1971
 No substantial revisions since

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1971 – Not Too Different!

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The 1971 990-T Introduced . . .
 Schedule H – Exploited Exempt Activity
 Income (other than advertising income)
 Schedule I – Advertising Income and
 Advertising Loss (consolidated and
 In 1970 there was a single “Allowable
 Exempt Activity Expenses” schedule
 In 1971, IRS split off advertising from other
 “exploited exempt activities”

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Form 990-T Has Changed Little . . .
… but unrelated activities (especially advertising)
have changed a lot!

   1971 . . .                     2012 . . .
   • Magazines                    •       Magazines
                                  •       Newsletters
   • Newsletters                  •       Internet
   • Show guides                  •       Phone/tablet apps
   (all printed, of course)       •       Social media
                                      •     Facebook
                                      •     Twitter
                                      •     Linked-In
                                  •       YouTube
                                  •       Podcasts
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Who Has To File a 990-T?
 Organizations exempt under §501(a)
 with gross income >= $1,000 from a
 Organizations liable for the “proxy tax”
 Organizations liable for certain other
 Fiduciaries for certain trusts that have
 >= $1,000 of UTB gross income

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When to File the 990-T

 Surprise! There’s more than one due date
 Most entities must file by the 15th day of the
 5th month after year end
 But! §401(a) employees’ trusts, IRAs, SEPs,
 SIMPLEs, Roth IRAs, Coverdell ESAs, and
 Archer MSAs must file by . . .

       The 15th day of the 4th month
 A maximum 6-month extension is permitted

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What To Report, and Where
                        Activity                           Where it goes on the 990-T
Rent from personal or personal/real property        Schedule C
Unrelated debt-financed income                      Schedule E
Interest, annuities, etc. from controlled orgs      Schedule F
§501(c)(7), (9), (17) investment income             Schedule G
Non-periodical advertising                          Schedule I (no better place!)
Periodical advertising                              Schedule J
Goods/services sales, gains/losses, passthrus       Part I, specific lines
Everything else . . .                               Parts I, line 12

There are exceptions . . .
§501(c)(7), (9), (17)’s report advertising, other exploited activity in Part I
§501(c)(7), (9), (17)’s report rental activity in Part I

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What Is A Periodical?
 Regularly scheduled and printed
 material . . .
 … not associated with a specific event
 Periodical rules are specific; little
 ‘wiggle room’
 If periodical rules do NOT apply, an
 “ad” may not actually be taxable

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Non-Periodical – Ad vs. Acknowledgement

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A Word About Circulation Income …
 Circulation income = a portion of member dues
 PLUS actual sales
 To allocate dues, use only the method that applies
  • Method 1: >= 20% of total circulation is nonmember sales
       - Use the subscription price charged to nonmembers
  • Method 2: >= 20% of members get no periodical and pay
       - Use the reduction in member dues
  • Method 3 – neither of the first two applies
       - Use this allocation formula:
                                Total periodical costs
  Dues x -------------------------------------------------------------------------------
            Total periodical costs + other exempt costs

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Consolidated Periodical Election
 For organizations publishing 2 or more
 Treats ALL periodicals as if they were one
 Eligible periodicals are those:
 • Actively engaged in for profit
 • With gross ad revenue at least 25% of readership
 To elect, fill out Schedule J, Part I
 You may NOT un-elect without IRS
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Consolidated Periodicals - Example

No excess readership costs on a consolidated basis

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Do NOT Do This!!

 You MUST include all items of income and expense in a consolidated

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Exploited Exempt Activity - Example

• Remember that especially on the Web, an “ad” may
  actually be a non-taxable “acknowledgement”
• “Related” gross income may be -0- in many instances,
  as here
• For web sites, directly-connected advertising costs
  may be hard to calculate

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“Everything                        Else” - Income

Line 1 – sales of goods and services (also §  501(c)(7), (9), (17) items)
Line 4 – taxable capital (UDFI) gains, ordinary gains on sales of business
property, disposal of debt-financed property
Line 5 – taxable income/losses from partnerships and S corporations
Line 12 – other income

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  “Everything Else” – Other Deductions

Few of these lines will be used if UBI is reported in the separate schedules.

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Can You File a Consolidated 990-T?
 Organizations with §501(c)(2) title
 holding companies may consolidate
 their 990-T’s
 A Form 1122 authorization is required
 for the first year
 Form 851, “Affiliations Schedule,” is
 required for all years

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 “What ‘Regular’ Tax
   Rules Apply?”
Book-Tax Differences
     and More

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Net Operating Loss Deduction
 Deductible only if incurred in a UBI activity
 Allowable only in a year where UBI occurs
 Losses go back 2 years; forward 20 years
 Non-UBI years do count toward expiration
 Excess exploited exempt activity expense
 and excess readership costs do NOT create
 an NOL
 Activities that continually lose money may
  not have a profit motive … NOLs may be
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 Differing Tax Rates

• Controlled group bracket apportionment rules also apply
   • Parent/subsidiary
   • Brother-sister
   • Combined group
• Adoption and amendments – consents must be attached

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Book-Tax Differences: Not Just For 1120s
 Book vs. tax depreciation
 Special depreciation rules
 Passive activity loss limitations
 Travel, meals and entertainment expense
  • 50% M&E rule applies
  • No deduction for spousal travel
 Advance payments (see Rev. Proc. 2004-34)
 Nonaccrual experience method (services)
 Transactions between related taxpayers
  • Accrual-basis taxpayers may only deduct expenses owed a
    related party in the year that it’s income to the related party
 Uniform capitalization rules - §263A
 Organizational and start-up costs
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Tax Credits Also May Apply
 General business credit
 Credit for prior year minimum tax
 Foreign tax credit
 Credit for certain Federal excise taxes
 Credit for small employer health insurance
 Qualified plug-in electric and electric
 vehicle credit
 And more

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Potential Form Attachments
Open to Public Inspection (501(c)(3)         NOT Open to Public Inspection
Form 4626 (alternative minimum tax) Form 926 (US transferor to foreign corp)
Form 4562 (depreciation)            Form 5471 (ownership in foreign corps)
Form 2220 (underpayment penalty)    Form 8271 (tax shelter registration #)
                                    Form 8594 (1060 asset acquisition)
                                    Form 8621 (passive foreign investment co)
                                    Form 8832 (entity classification election)
                                    Form 8858 (info return/disregarded entities)
                                    Form 8865 (certain foreign partnerships)
                                    Form 8886 (reportable transaction disclosure)
                                    Form 8913 (Federal telephone excise tax)
                                    Form 8925 (employer-owned life insurance)
                                    Form 8941 (health insurance premiums credit)

                                --This is not an exhaustive list--
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