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UF & UBIT:Unrelated Business Income TaxPresented by:Andrea Newman, CPAOctober 2, 2019

• Tax Reform• Background & Basics

of UBI• UBI Exclusions• Potential UBI-

Generating Activities• Applicable “Real Life”

Examples

Objectives

Tax Reform

• Tax Cuts and Jobs Act (Public Law No. 115-97)– Passed December 22, 2017

• Most provisions of the law became effective as of January 1, 2018

• The new tax law imposes significant new tax liabilities for nonprofit/exempt organizations

• No guidance has been issued by the US Treasury or the IRS to date

Tax Reform – New Code Section 512(a)(6)

• Unrelated business taxable income separately computed for each trade or business activity– a.k.a. “basketing”

• Nonprofits “with more than one unrelated trade or business” must compute their UBIT “separately with respect to each such trade or business.”

• Statute does not define what constitutes an “unrelated trade or business”

Tax Reform – New Code Section 512(a)(6)

• Raises more questions than it answers:– Advertising income from multiple sources– Rental of same room but for different private

events – Facilities rented for summer sports camps and

weddings– School store located on different campuses– Passive investing – how narrow will a Trade or

Business be defined

Examples

Objectives

What is Unrelated Business Income Tax?

• 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 business2. Regularly carried on3. Not substantially related

Is 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 regularly 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 purposes• Just because an activity raises needed funds

for the University/department does not mean that the activity is exempt

Accounting & Controllership, HR Solutions, Technologynagement Services, Corporate Training & Business Advis

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.

Examples

Objectives

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

• Dividends• Interest• Annuities• Royalties• Rental income from real property• Income from certain forms of research

RoyaltiesTax, 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

• 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”

• 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

Research

• Revenues from research performed by a University is excluded from UBI– Conducted for federal/state

governments or companies– Fundamental research available to the

public• Research does not include ordinary

testing or inspection of products– Ordinary testing would include routine,

repetitive work where the procedure is merely a matter of quality control and no real intellectual questions are posed

Examples

Objectives

Potential UBI-Generating Activities

• Advertising• 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

Sales of Merchandise• In general, sales of merchandise is separated into three major

categories:1. Directly educational materials – nontaxable2. Non-educational, convenience exception – nontaxable3. 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 MerchandiseUnrelated, excluded or related revenue?

Unrelated Examples: Excluded Examples: Related Examples:• University book store items sold to Alumni

• 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 cafeteria providing catering services to other businesses

• 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 non-patients, non-employees

• Hospital’s pharmacy sales toemployees (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

Examples

Objectives

Advertising

ExemptExample DeterminationSale of commercial advertising and underwriting time on a campus radio station. Students assist in subscription drives and underwriting and advertising sales programs.

The sale of general consumer advertising and underwriting by students contributes importantly to the University’s educational purpose through the training of students.

Sale of advertising space in souvenir programs for sports events (or music or drama performances).

Not considered to be regularly carried on.

ReportableExample DeterminationSale of commercialadvertising space in campus newspapers, journals, magazines, or other periodicals.

The sale of general consumer advertising in a University’s publication is an unrelated trade or business since it does not contribute importantly to the organization’s exempt purpose.

Sale of commercial advertising in sports media guides. Sales are made by a full-time person throughout the year.

The activity is a promotion effort which is rendered over a relatively significant period of time. In addition, the advertising solicitation is conducted in the same manner as a typical commercial enterprise.

BookstoreExemptExample DeterminationSale 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.

The sale of items necessary for courses at the University is related to the University’s exempt purpose. The sale of other items may be considered for the convenience of students.

Sales of computers to students or faculty members.

The sale of one computer to a student is substantially related to exempt purpose. Sale of multiple computers, in a single year, is not related.

ReportableExample DeterminationSale 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 and alumni.

Sales to members of the general public do not fall under the “convenience” rule and are taxable.**

Sales of computers at a discount to other educational institutions.

The sale of computers to individuals at other educational institutions is not related to the University’s exempt purpose.

**IRS Letter Ruling from 1996 established the IRS’s position that “there is no principle reason” to treat alumni differently than the general public. The convenience exception is limited to the classes of individuals specifically mentioned in the IRC code – members, students, patients, officers, or employees.

Bookstore – In general

• As a general rule, and in the absence of clearly established special circumstances (such as in the case of a bookstore on a campus located a considerable distance from any commercial facilities) items not directly related to the accomplishment of the educational purposes of a college, and having an ordinary useful life of more than one year (such as radios, television sets, refrigerators, cameras, jewelry, and clothing other than sundry items like hosiery, handkerchiefs, sweaters, sweatshirts, school uniforms, and novelty items) will not be considered items sold for the convenience of students.

Bookstore – In general

• Novelty items (such as jewelry, beer mugs, pillows, etc. imprinted with the school name or seal), incidental items of wearing apparel (such as school uniforms, sweaters, hosiery, handkerchiefs, etc.), and sundry items generally embracing items of low cost and recurrent demand (such as newspapers, magazines, candy, cigarettes, film, etc.) will be considered as coming within the convenience rule.

Career Services

ExemptExample DeterminationCareer services, such as resume critiquing, interview coordination, and other job placement assistance provided to students.

Related to the University’s exempt function.

ReportableExample DeterminationCareer services, such as resume critiquing, interview coordination, and other job placement assistance provided to alumni for a fee.

Services for alumni is not related to the University’s exempt function.

Debt-financed Property

ExemptExample DeterminationRental of apartments to students and non-University members. The apartment building is subject to a mortgage .

The rules pertaining to debt-financed property do not apply to the University, there is a specific exception that applies to higher educational institutions. Therefore, these rentals are exempt under the exclusion for real property rents.

ReportableExample DeterminationSame as exempt example EXCEPT the property is owned by a DSO of the University that does not qualify as a supporting organization under IRC Section 509(a)(3).

The exception only includes affiliated organizations that support educational institutions provided the organization qualifies as a supporting organization under IRC Section 509(a)(3).

Equipment Rental

ExemptExample DeterminationRental of equipment (e.g., outdoor recreation equipment, scientific instruments, etc.) to University members.

This service is provided for the convenience of the University members.

ReportableExample DeterminationRental of equipment (e.g., outdoor recreation equipment, scientific instruments, etc.) to non-University members.

The rental of equipment tonon-University members is not related to the University’s exempt purpose.

Equipment Sales

ExemptExample DeterminationSale of obsolete equipment to the general public.

Gains and losses from the sale of property are excludable from UBI taxes.

ReportableExample DeterminationSale of electronic equipment (inventory) to non-University members.

The sale of equipment to non-University members is not related to the University’s exempt purpose. In addition, income from inventory and other stock held for sale is not exempt.

Facilities Usage (no lease)

ExemptExample DeterminationRental of facilities to non-University members for conferences and symposiums.

The use of the University’s facilities and services by outside organizations for conducting educational activities is related to the University’s exempt purpose. Even though the conferences are conducted by outside organizations, the activity is considered to be in furtherance of an educational purpose.

Use of recreational facilities for classes offered to the general public and alumni.

The conduct of University clinics, lessons, workshops and seminars at recreational areas, to instruct and educate individuals of all ages in a particular sport, is in furtherance of the University’s educational purpose.

ReportableExample DeterminationUse of University-owned golf course by alumni, spouse and guests of students, faculty and staff.

Alumni are not sufficiently distinguishable from the general public. Spouses and guests are also treated as members of the general public and do not fall within the convenience exception.

Hotel & Restaurant Operations

ExemptExample DeterminationSales to students’ , student’s families and friends, prospective students and their families, participants in school functions and activities.

Group of persons broadly defined by the IRS Exempt Organization Division as having a “demonstrable connection” to the exempt purposes of the University.

ReportableExample DeterminationSales to tourists, spectators at sporting events (including alumni), and the general public.

Do not fall within the convenience exception.

Entertainment Events

ExemptExample DeterminationEvents conducted in which the school’s own students put on the event (i.e., a play, concert recital, or ballet).

Furtherance of an educationalpurpose. The students’ participation in performances before audiences is an essential part of their training. Income derives from activities that contribute importantly to the University’s exempt purposes.

ReportableExample DeterminationEvents involving professional entertainers (i.e. a professional performance involving paid entertainers).

Events are only related to the school’s educational purposes if they are “operated primarily as an integral part of the educational program of the university, but they are unrelated if operated in substantially the same manner as a commercial operation. Therefore, each event needs to be reviewed separately to determine the involvement of students/faculty, if the event was conducted in a commercial manner, and if it contributes importantly to the University’s missions.

Rents (lease basis)

ExemptExample DeterminationRental 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.

Rents from real property are exempt.

Rental of athletic facilities and equipment to non-University members. Revenue is derived from rental of real property (95%) and personal property (5%).

Rents from personal property are not taxable if there is a mixed lease and the rents attributable to the personal property are “incidental” (10% or less).

ReportableExample DeterminationLeasing of property for a fee that is based on a percent of net income or profit.

Rents dependent on profits or income derived by the University from real property do not qualify for the exclusion unless they are based on a fixed percentage of gross receipts or sales. Rents based on a percentage of net profits are taxable.

Parking Facilities

ExemptExample DeterminationIncome from University owned parking facilities used by faculty, staff, and employees.

Necessary for the normal conduct of the University’s mission (i.e. convenience factor).

University enters into a lease with a third party who operates the University’s parking facility and pays fixed rent to the University.

Such payments are not considered UBI, as these payments constitute rent from real property.

ReportableExample DeterminationOperation of a parking facility that is used by members of the general public.

This activity is not substantially related to the University’s exempt purpose,and parking fees are not treated as rent from real property.

ExemptExample DeterminationSale of clothing and other items to the University community that are embossed with the University seal.

Bookstore or other on-campus sale of University logo items to members of the University community qualify under the convenience rule.

Sale of excess crops used in research. The crops are sold in an “as is” condition whenmature.

Income derived from the sale of goods which result from the performance of an exemptfunction is not taxable if the product is sold in substantially the same state it was in upon completion of the exempt function.

ReportableExample DeterminationSale of emblematic items (T-shirts, mugs, caps, pennants, etc.) to alumni and the general public. The sales are made by mail order on a regular basis.

The sale of emblematic items is not substantially related to the exempt purpose of the University. Moreover, these sales are not for the convenience of University members since alumni are considered members of the general public.

Tower Rentals

ExemptExample DeterminationRental of space on campus building 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).

Income is considered tax exempt rent from real property.

Payments for the use of excess radio frequency.

IRS Private Letter Ruling that these types of payments constitute a royalty, and therefore are nontaxable.

ReportableExample DeterminationRental of antenna space on atower owned by the University (permanently affixed to either the ground or an existing building).

The rental of antenna space on the tower is not eligible for the rental exclusion. Towers are treated as tangible personal property rather than real property.

Catering/Food Services

ExemptExample DeterminationRental 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.

Rents from real property are excluded. In addition, no services are rendered beyond those usually provided in connection with the rental of space.

Food services that are not directly accessible from the street and patronage by the general public is not directly or indirectly solicited.

Use by students, faculty and staff is exempt from UBI as a convenience to them. Casual and intermittent use by members of the general public does not constitute a business activity regularly carried on in a commercial manner.

ReportableExample DeterminationRental 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 bothcatering services and rental of facilities

The real property exclusion is lost if services other than those customarily provided for the convenience of the lessee are provided.

Catering services to non-University customers.

Not related to the University’s exempt purpose.

Questions

Andrea Newman, CPAJames Moore & Co.www.jmco.comEmail: Andrea.Newman@jmco.comPhone: (352) 378-1331

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