For many tax-exempt organizations, earning revenue outside of donations, grants, and program service income is a normal part of operations. But not all revenue is treated the same for tax purposes. Reported on Form 990-T, and subject to many unique rules, this blog series explores key 990-T topics to help organizations better understand common risks, reporting challenges, and planning opportunities.
If an exempt organization earns income from an activity that is not related to its exempt mission, that income may be considered unrelated business income (UBI) and could be subject to unrelated business income tax (UBIT). UBIT is reported on Form 990-T and is subject to a flat 21% tax rate.
Understanding when revenue crosses that line is important for compliance, planning, and minimizing unexpected tax exposure.
What Is Unrelated Business Income?
In general, UBI is revenue from a trade or business that is regularly carried on and not substantially related to the organization’s exempt purpose.
All three of the following elements must be present for revenue to be treated as UBI:
- It comes from a trade or business
- The activity is regularly carried on
- The activity is not substantially related to the organization’s exempt purpose
If all three apply, the income may be subject to the UBIT.
Common Examples of UBI
Some of the most common sources of UBI are listed below.
Advertising
Payments for promoting a business’s products or services generally create UBI.
This is different from a simple sponsorship acknowledgment, in which the sponsor is acknowledged only by name, logo, or slogan, without promotional language, price information, or endorsements.
Advertising can present itself in multiple ways. The most common are through online communication and publications.
Sales of Goods or Services Unrelated to Mission
If your organization sells goods or services that do not further its exempt purpose, the income from those sales may be UBI.
Pass-Through Income Reported on K-1s from Partnerships or S Corporations
Pass-through entities can generate unrelated business taxable income, especially when they conduct an unrelated trade or business.
Common Income Exclusions from UBI
Not all revenue from non-donation sources is taxable. The tax rules provide several important exclusions, though each comes with exceptions.
Common exclusions include:
- Investment income, such as dividends, interest, and certain capital gains
- Royalties
- Rental income from real property that doesn’t provide any significant services
- Qualified sponsorship payments, limited to name and logo acknowledgments
- Activities conducted entirely by volunteers
These exclusions can provide valuable planning opportunities, but they should not be applied without reviewing the underlying facts.
When Exclusions Can Become UBI
One of the most important things for you and your leadership team to understand is that income that appears excluded at first glance can still become taxable under certain circumstances.
Debt-Financed Property
Otherwise-excluded income may become taxable to the extent the property is financed with acquisition debt.
Controlled Entities
Certain payments from controlled entities, including rents, interest, annuities, and royalties, may be included in UBI.
Rentals with Services or Significant Personal Property
Rental income from real property is often excluded, but that exclusion can be lost if the organization provides significant services to tenants or if a substantial portion of the rental relates to personal property rather than real property.
Reporting and Tax Requirements
If your organization has UBI, you may have filing obligations even if the activity is not a large part of your organization’s overall operations.
Form 990-T Filing Threshold
Your organization must file Form 990-T if it has gross total income of $1,000 or more from unrelated business activities during the year.
Separate “Silos”
Your organization must compute UBI separately for each unrelated trade or business. Losses from one unrelated activity generally cannot offset income from another.
Deductions
Only expenses that are ordinary, necessary, and directly connected to each activity are fully deductible. You should allocate shared and overhead costs on a reasonable, supportable basis. Depending on the type of income, there are specific guidelines for the shared and overhead cost allocations.
Practical Steps for Nonprofits
Because UBI issues often arise gradually as organizations diversify their revenue sources, proactive tracking and review can reduce both tax risk and administrative burden.
Consider these practical steps:
- Track each unrelated activity separately and maintain documentation on how it relates, or doesn’t relate, to your exempt purpose.
- Review K‑1s and investment holdings for leverage and other UBI.
- Structure sponsorships and rentals carefully to stay within the exclusions.
How can RKL help?
RKL’s nonprofit experts can partner with you to determine if your organization has any UBI risk areas. While UBI can support your organization’s cash flow, it is important to consider the risks and potential taxes when evaluating new revenue sources. RKL can help you understand how the IRS may treat your revenue and practical ways to reduce your tax burden if your organization has UBI. Contact us today!
