Sikich Series on Tax Reform: IRS Issues Guidance on New UBIT Rules for Exempt Organizations

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The Internal Revenue Service (IRS) recently released Notice 2018-67 (Notice) providing guidance for tax-exempt organizations on the treatment of Unrelated Business Income Tax (UBIT). The Notice offers guidance and clarification for tax-exempt entities in applying the new Section 512(a)(6) unrelated business taxable income segmentation requirements under the “Tax Cuts and Jobs Act” (Act).

The IRS is seeking comments on this guidance through December 3, 2018 prior to issuing proposed regulations. Exempt organizations may rely on this guidance in this Notice until the new proposed regulations are issued.

In December 2017 the Act added Section 512(a)(6), which requires an organization with more than one unrelated business activity to calculate its UBIT separately for each trade or business activity for years beginning after December 31, 2017. However, the Act did not define or provide guidance as to how a trade or business activity should be defined for this purpose. This Notice assists organizations in applying and interpreting Section 512(a)(6).

What’s In Notice 2018-67?

1. Separate Trade or Business Guidance 

The Notice provides guidance on how an organization can determine whether they have multiple unrelated trades and businesses. To determine if an organization has more than one unrelated trade or business, an organization “may rely on a reasonable, good-faith interpretation” of Sections 511 through 514, considering all the facts and circumstances. A reasonable, good-faith interpretation includes using the “North American Industry Classification System” (NAICS) 6-digit codes to classify each business.Exempt organizations currently filing Form 990-T to report unrelated business income are already required to use the 6-digit NAICS code; nonetheless, organizations may want to consider reviewing the codes to confirm that they accurately reflect their activities. Codes are available in the Form 990-T filing instructions.The Notice also states that the fragmentation principle of the Code and Regulations, typically used to separate unrelated trades or businesses from exempt purpose activities, may also provide useful guidance in identifying separate trades or businesses.

The IRS requests comments describing whether and how these methods or other methods may aide in determining how to identify the separate trades or businesses of an organization.

2. Allocation of Directly Connected Deductions

Further, the Act will require exempt entities with more than one unrelated trade or business with shared expenses to allocate the expenses between the different unrelated trades or businesses. This requirement is similar to the existing rule for “dual-use facilities.” Currently, the IRS’s Priority Guidance Plan features an item regarding the allocation of expenses to dual-use facilities (facilities used for both exempt and non-exempt purposes). The IRS is requesting comments regarding possibly modifying the current allocation method under Section 512, as well as offering “specific standards for allocating expenses relating to dual use facilities and the rules.” The IRS is also asking for comments relating to what allocation methods should be considered “reasonable” and comments concerning possible rules or standards.

3. Section 512(b)(4) Unrelated Debt Financed Income, Section 512(b)(13) Income from Controlled Entities and Section 512(b)(17) Certain Insurance Income

Income of an exempt organization that is identified as Unrelated Debt Financed Income; Income from Controlled Entities; and Certain Insurance Income is considered gross income derived from an unrelated business activity even though such amounts ordinarily would be excluded from UBIT under the Code. One commentator stated that these amounts included in UBIT under Sections 512(b)(4), (13) and (17) do not have nexus, or a connection, to an unrelated trade or business.The IRS sees no distinction between amounts derived by an unrelated trade or business and the amounts included in UBIT “as an item of gross income derived from an unrelated trade or business” under Sections 512(b)(4), (13) and (17). The Notice explains one possible interpretation that would require treating each source of income (such as each debt-financed property) owned by an exempt organization as a separate trade or business. The IRS, however, recognizes this interpretation could impose a significant burden on an organization. Accordingly, the IRS is requesting comments regarding the Act’s treatment of this type of income (which is not from a partnership) but is included in UBIT under Sections 512(b)(4), (13) and (17).

4. Investment Activities

Generally, the activities of a partnership are considered the activities of the partners. An exempt organization that is a partner in a partnership that conducts a trade of business (or multiple trade or businesses) that are unrelated must include its share of income in UBIT. The IRS has received comments regarding the significant burden potentially placed on exempt organizations with ownership interests in multi-tier partnerships. The IRS intends to “propose regulations permitting exempt organizations to treat certain investment activities as one trade or business, thus allowing exempt organizations to aggregate gross income and directly connected deductions from all such ‘investment activities.’” The IRS expects that treating these investment activities as one trade or business will reduce the burden on exempt organizations and the IRS. Pending publication of proposed regulations, this Notice offers an Interim Rule and a Transition Rule for aggregating partnership interests.

Interim Rule

The Notice creates an Interim Rule that permits an exempt organization to “aggregate its UBIT from its interest in a single partnership with multiple trades or businesses, including trades or businesses conducted by lower-tier partnerships, as long as the directly-held interest in the partnership meets the requirements of either the de minimis test or the control test.”

The de minimis test is met if the exempt organization holds “no more than two percent of the profits interest and no more than two percent of the capital interest” of the partnership. The organization must include interests owned by a disqualified person, a supporting organization, and a controlled entity in the tests for the two percent.

The Notice states that the exempt organization may rely on the profits and capital percentages  provided on the Schedule K-1 it receives from the partnership. If the percentages change during the year, the organization can use an average of the beginning and ending amounts to determine amounts, and if the interest was purchased during the year, they can use the average for the period of ownership in the year.

The control test is met if the organization “directly holds no more than 20 percent of the capital interest and does not have control or influence over the partnership.” Similar to the de minimis test, interests of a disqualified person, a supporting organization, and a controlled entity must be included in the control test. Also, the organization can rely on the Schedule K-1 from the partnership to calculate percentages.

To determine whether an organization has control or influence over a partnership, all facts and circumstances are relevant. A tax-exempt organization has control or influence for this purpose if:

  • It “may require the partnership to perform, or may prevent the partnership from performing, any act that significantly affects the operations of the partnership;”
  • Any of its “officers, directors, trustees, or employees have rights to participate in the management of the partnership or conduct the partnership’s business at any time;” or
  • It “has the power to appoint or remove any of the partnership’s officers, directors, trustees, or employees.”

Organizations with partnership interests should review the capital and profits percentages on their Schedule K-1s and include the capital and profit percentages from disqualified persons, controlled entities and supporting organizations to determine whether the above tests are met.

Transition Rule

Exempt organizations not applying the above Interim Rule for a partnership interest acquired before August 21, 2018 may instead treat each partnership interest as a separate trade or business under Section 512(a)(6) under a Transition Rule regardless of how many trades or businesses are operated by the partnership or lower tier partnerships.

Unrelated Debt-Financed Income (UDFI) from a partnership interest in which the organization applies the Transition Rule is permitted to aggregate the UDFI with other UBIT from that partnership interest. Any UDFI that is under the Interim Rule may be aggregated in accordance with the Interim Rule.

5. Social Clubs, Voluntary Employee’s Beneficiary Associations, and Supplemental Unemployment Compensation Benefit Trusts

The Notice indicates that Section 512(a)(6) applies to Social Clubs, Voluntary Employee’s Beneficiary Associations (VEBAs), and Supplemental Unemployment Compensation Benefit Trusts; however, the rules for aggregation of partnership income for partnership investments are not available for social clubs. The IRS is taking comments regarding this consideration.

6. Fringe Benefits

Under the Act, an organization’s UBIT is increased by certain amounts paid or incurred for any qualified transportation fringe, any parking facility used in connection with qualified parking, and any on-premises athletic facility. The Notice states, however; that the IRS does not believe the provision of fringe benefits under Section 512(a)(7) is an unrelated trade or business. Therefore, any amount included in UBIT is not subject to the segmentation rules above. Many questions remain unanswered. For example, if an exempt organization has one unrelated trade or business with a loss, an argument can be made that the loss can reduce the UBIT caused by providing fringe benefits under Section 512(a)(7). If an organization has two or more unrelated trade or businesses, however, it appears that same argument may not apply.

7. Net Operating Losses

The Act did not change provisions affecting previous Net Operating Losses (NOLs), therefore, NOLs can be carried forward 20 years if the NOLs were incurred before 2018. Nonetheless, the Act did change how a not-for-profit organization with more than one unrelated trade or business calculates an NOL. These entities are now required to calculate their UBIT “including for purposes of determining any NOL deduction, separately with respect to each trade or business for taxable years beginning after December 31, 2017.” NOLs generated after December 31, 2017 can only be used to offset the income from the particular segregated trade or business in which the loss was created. These NOLs are allowed to be carried forward indefinitely. The IRS is seeking comments on the ordering rules for use of NOLs generated in years before and after December 31, 2017.

8. Global Intangible Low-Taxed Income (GILTI)

Generally, the IRS treats an inclusion of Global Intangible Low-Taxed Income (GILTI) as a dividend and excluded from UBIT, according to the Notice. GILTI that is part of a not-for-profit’s gross income and is attributable to insurance income is not treated as includible in this case.


Exempt organizations should review their unrelated business activities considering the guidance provided in the Notice. Many unanswered questions linger, however, and the IRS is actively seeking comments prior to issuing proposed regulations. Please reach out to a Sikich tax representative for assistance in planning with these new reporting requirements.


This publication contains general information only and Sikich is not, by means of this publication, rendering accounting, business, financial, investment, legal, tax, or any other professional advice or services. This publication is not a substitute for such professional advice or services, nor should you use it as a basis for any decision, action or omission that may affect you or your business. Before making any decision, taking any action or omitting an action that may affect you or your business, you should consult a qualified professional advisor. In addition, this publication may contain certain content generated by an artificial intelligence (AI) language model. You acknowledge that Sikich shall not be responsible for any loss sustained by you or any person who relies on this publication.


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