Although compensation, community benefit, and college and university endowments have received the most attention from the Senate Finance committee and the tax-exempt community over the last few months, the IRS has looked towards another issue as a major revenue-raiser: the proliferation of unreported, and untaxed, unrelated business taxable income (“UBTI”).
Organizations described in Internal Revenue Code section 501(c) are generally exempt from federal income tax. However, Internal Revenue Code section 513 imposes a tax on their UBTI. Broadly defined, UBTI is income an otherwise tax-exempt organization receives from a trade or business which is unrelated to the tax-exempt organization’s exempt trade or business
Unfortunately, many tax-exempt organizations do not fully understand the rules dictating when their income is UBTI and when, therefore, they must file a Form 990-T in addition to a Form 990 or Form 990-PF and pay income tax on the UBTI. As a result, tax-exempt organizations often underreport their UBTI and underpay the related income tax. Doing so, however, can not only result an audit requiring the tax-exempt organization to pay the back taxes with interest, but might also force the tax-exempt organization to pay failure-to-file tax return penalties and failure-to-pay tax penalties.
The UBTI rules are not complex. They are simply very detailed. Senior staff and outside advisors for tax-exempt organizations need to know and understand these rules. For your convenience, a discussion of the UBTI rules is available online.
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