For nonprofit organizations, the IRS makes a distinctions between income “substantially related” to the organization’s cause from other revenue which is not. Nonprofits with a tax-exempt status who participate in income producing activities around its mission are not subject to any income tax.
However, unrelated business income is subject to income tax. Too much income from these activities can jeopardize the nonprofit’s tax-exempt status in the long-run. Unfortunately, the IRS doesn’t have a clear indicator of when this may get out of balance. So, be cautious when choosing to engage in unrelated business activities.
Unrelated business income can generate much needed revenue for any nonprofit. For example, consider the Girl Scouts’ cookie sales or the Goodwill thrift stores. These activities are high-profile for those organizations and are conducted nationwide. They are extremely profitable forms of fundraising.
Unrelated Business Income Tax (UBIT)
Unrelated business income tax is very similar to the income tax owed by for-profit entities. It’s name helps identify that the income tax owed is unique for an organization which normally engages in tax-exempt activities.
A nonprofit will find itself subject to UBIT if some of its revenue results from a “regularly” conducted “trade or business.” ‘Trade or business” is defined as selling goods or services for the purpose of producing income.
The term “regularly” depends on whether the nonprofit participates in these activities as frequently as other similar businesses. Selling items far below their market value may allow the IRS to offer the nonprofit an exemption.