This week, the Internal Revenue Service released a notice requesting comments on draft guidance on tax-exempt organizations that have more than one unrelated business. The core of the guidance goes into how Unrelated Business Taxable Income (UBTI) would be applied to those organizations with multiple unrelated business lines and basically says that the losses of one unrelated business cannot be used to reduce the UBTI liabilities of another unrelated business.
**Of note, this is a complex issue. The explanation and scenario’s below are based upon CoaST’s understanding of the proposed rule after a brief discussion with the Internal Revenue Service. If our understanding of the new rule is altered by further conversations, we will be sure to amend this post and make such change public.
The examples are as follows:
Scenario 1.
Unrelated Business Line 1: $5
Unrelated Business Line 2: $-3
In the past, if a tax-exempt organization had two unrelated businesses then the losses from one would help reduce the UBTI exposure of another. In the scenario above, a tax-exempt organization would have a UBTI tax liability of $2.
Under tax reform, things have changed. The losses from one business line are separated from the profits of another business line for the purposes of computing UBTI liabilities. As such the amount subject to UBTI for the tax-exempt organization in this example reform is now $5.
Transportation Fringe Benefits & Today’s Notice
In relation to UBTI resulting from parking or transportation fringe benefits, the IRS indicates that it does not see transportation fringe benefits as a separate line of business. Why does this matter?
Scenario 2.
Unrelated Business Line 1: -$4
Transportation Fringe Benefits & Parking: $5
Paying UBTI on $1
In this scenario, the IRS determined that a tax-exempt organization only has one line of business (not two) as such the new guidance does not apply. Thus, the tax-exempt org can take the $4 lost and deduct it against the $5 Transportation Fringe Benefits & Parking, and as such, the tax-exempt organization has to a UBTI liability on $1.
However,
Scenario 3.
Unrelated Business Line 1: $5
Unrelated Business Line 2: -$3
Transportation Fringe Benefits & Parking: $5
Paying UBTI on $10
In this scenario, a tax-exempt organization has two lines of business and as such the new law and guidance apply. The losses from the second line of business cannot be used to offset the profitable business line nor the amount subject to UBTI on fringe benefits. The result is UBTI liability on $10 of revenue.
Scenario 4.
Unrelated Business Line 1: $5
Unrelated Business Line 2: $3
Transportation Fringe Benefits & Parking: $5
Paying UBTI on $13
In this scenario, a tax-exempt organization has two lines of business as such the new law and guidance apply. The two business line are added together with the fringe benefit to determine the UBTI liability of $13.
