Taxes: Not-For-Profits

Not-for-profit organizations exempt from income tax may receive unlimited amounts of income from activities substantially related to the pursuit of their exempt purposes. Unrelated business activity of an exempt organization, however, is taxable. There are no clear principles or hard-and-fast rules to determine whether an income-producing activity is related or unrelated to a nonprofit organization's exempt purpose. Also, as in many tax areas, IRS regulations and tax court decisions frequently change interpretations of related and unrelated business income. The IRS has announced that it will focus on the methodology used to allocate expenses to unrelated business income streams and will look more carefully at organizations that repeatedly lose money on those activities.

The organization's tax-exempt status, itself, may be jeopardized, moreover, if too large a proportion of an organization's revenue comes from unrelated business income. However, neither the Tax Code nor the IRS clearly defines what constitutes too large a proportion of total revenue.

In computing tax on unrelated business income, a not-for-profit's unrelated business income is its gross income from unrelated business activities less the deductions directly connected with the income. The organization may allocate direct expenses between exempt functions and the unrelated business activities; deduct charitable contributions it makes, up to a specified limit; and deduct a net operating loss carryover. The tax rates on unrelated business income are generally the same as the corporate tax rates. Also, features such as general business tax credit carryovers and the alternative minimum tax apply in a manner similar to what applies to fully taxable entities. The first $1,000 of unrelated business income is not subject to tax. The tax is computed on IRS Form 990-T; the return need not be filed if gross unrelated business income is less than $1,000. In addition, organizations liable for unrelated business income tax are normally required to make estimated tax payments.

Copyright Blythe Paperless 2011