Coping with Complex Unrelated Business Income Tax Issues

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Taxation of Exempts




When charities look to nontraditional sources of financing to supplement contributions and fee-based revenues, they often encounter potential unrelated business income tax (UBIT) issues. Since the 1950s, UBIT has been imposed on a charity's net income froma regularly carried on trade or business that is unrelated to the charity's tax-exempt purposes. Oftentimes, the justification for imposing this tax on a charity's net income from unrelated business activities is that such activities involve unfair competitionwith the charity's for-profit counterparts. The Supreme Court has adopted the prevention of unfair competition as the underlying policy of the UBIT rules, stating that ‘[t]he undisputed purpose of the unrelated business income tax was to prevent tax-exempt organizations from competingunfairly with businesses whose earnings were taxed.‘ Tax-exempt organizations purportedly present two forms of unfair competition. First, because their profits are not subject to tax, tax-exempt organizations could engage in predatory pricing practices by charging less for similar goods and services than theirfor-profit competitors, thereby driving competitors out of the market. Second, tax-exempt organizations could more easily accumulate capital, allowing tax-exempt organizations a greater ability to expand, in turn giving them an unfair advantage over their competitors. In an effort to appropriately tax unrelated competitive business activities and shield related business activities and noncompetitive business activities from taxation, the UBIT regime presents a complex landscape which proves difficult for charitiesto navigate.

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