I will be speaking this week for The Nonprofit Centers Network on unrelated business income tax (“UBIT”) related issues faced by nonprofits providing shared space with other individuals or entities (you can register for the webinar here). As we’ve discussed in previous posts on UBIT, generally, net income from unrelated business activities will be subject to UBIT if the activity constitutes (1) a trade or business, (2) that is regularly carried on, and (3) is not substantially related to the furtherance of the organization’s exempt purpose.
Most nonprofits that share space with other entities presumably rent that space out for a return payment. Because renting space for a prolonged period would be considered a trade or business and is likely regularly carried on, whether the income from such rentals constitutes unrelated business income potentially subject to UBIT will turn on whether providing the rentals is substantially related to furthering the organization’s exempt purpose. If a nonprofit is formed with the purpose of strengthening the nonprofit sector by fostering collaboration, inspiring and nurturing nonprofits, reducing duplication, and increasing nonprofit efficiency, and rents space solely to other nonprofits exempt under Section 501(c)(3) of the Internal Revenue Code, then such rentals are likely to be considered substantially related. However, this remains somewhat of an unsettled area and whether the activities are substantially related may turn on how commercial in nature they are. If the same nonprofit were to begin renting some of its space to for-profits, the income from such rentals would likely be subject to UBIT and may even cause the organization’s activities to be viewed as too commercial in nature to qualify as exempt. Similarly, if an exempt organization with a completely unrelated purpose had extra space in its building and decided to rent it to other nonprofits or to for-profits, those rentals would unlikely be considered substantially related and the rental income may be subject to UBIT.
As we’ve previously discussed on this blog, though, there are exceptions, exclusions, and modifications that apply to the UBIT rules. One such exclusion is that income that is earned passively, including from some rentals of real property or personal property rented with real property, is not subject to UBIT. However, the rents exclusion does not apply (and thus the rental income may be subject to UBIT) if any of the following is true:
- The nonprofit renting the property out also provides services not typically provided with such a rental as part of the rental (e.g., administrative or technology support services);
- The value of the personal property rented out with the real property equals more than 50% of the total rent amount; or
- The amount of rent is determined based on the income or profits derived by the renter from the leased property, other than an amount based on a fixed percentage of receipts or sales.
Also, if property is acquired by a nonprofit as an investment to produce income and the nonprofit has debt on the property, then only a portion (based on the debt/basis percentage) of the rental income may be excluded from UBIT.
A nonprofit that shares space may potentially have multiple lines of unrelated business activities (such as if it runs a coffee cart or café for the benefit of its tenants or provides administrative support services for a separate fee) and each line of business will need to be analyzed separately for potential UBIT. There may also be other exclusions (such as if substantially all of the work related to the unrelated business is carried on by uncompensated volunteers or is for the convenience of the nonprofit’s members) or modifications (such as the reasonable allocation of expenses attributable to both related business activities and unrelated business activities) that may also impact the amount of UBIT that a nonprofit owes on any unrelated business income.
Any nonprofit that receives income from sharing space with other individuals or entities and is not absolutely certain that such rentals are substantially related to furthering its exempt purpose, or that engages in any other unrelated business activities, would be well-advised to consult with a nonprofit attorney or accountant to determine whether it has any income subject to UBIT.