Unrelated Business Income: A History

Posted on Wednesday, April 08, 2015

Prior to 1950, tax-exempt organizations did not pay unrelated business income tax.  In Trinidad v. Sagrada Orden de Predicadores, 263 US 578, T.D. 3548, III-1 C.B. 270 (1924) the U.S. Supreme Court stated “that the destination and not the source of the income was the ultimate test of the right of exemption.”  So as long as the revenue was used for an exempt purpose, it did not matter where it came from. 

The Revenue Act of 1950 changed the definition of exempt income.  The Act established the unrelated business income tax (UBIT) for tax years beginning after December 31, 1950.  It was created to address the unfair competition that tax-exempt organizations had over competing for-profit entities.  The tax was imposed on charitable organizations (excluding churches), labor and agricultural organizations, chambers of commerce, business leagues and real estate boards, certain trusts, and certain title holding companies.  Income was considered unrelated if it was (1) considered a trade or business, (2) regularly carried on, and (3) was not substantially related to the exempt purpose.  It no longer mattered what the income was used for.  Income from debt-financed real estate sale-lease-back activities was also included as unrelated business income.

The Tax Reform Act of 1969 expanded the application of unrelated business income to include all organizations exempt under IRS 501(a) except United States instrumentalities for years beginning with January 1, 1970.  It also expanded the definition of debt-financed income and cited conditions where interest, rents, annuities, and royalties from a controlled corporation are subject to tax. 

There have not been any significant changes to the basic definition of unrelated business income since the Tax Reform Act of 1969.  There does; however, continue to be new sources of revenue that may be considered unrelated business income to nonprofits.  Unrelated business income and the calculation of tax is reported on Form 990-T.

*A copy of Form 990-T for calendar year 1951 can be found on the IRS website.

Posted by: Carrie Minnich, CPA

Posted in Mission Minded Nonprofits

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