An Interview by Revenue Strategist Gail Bower with Nonprofit Principal Bruce W. Braunewell, CPA.
An important member of your advisory team on earned revenue is your accountant or auditor whose ideas and counsel can save you surprises at tax time. For insights about tax and other planning issues, Gail Bower turned to colleague Bruce W. Braunewell, Principal at CliftonLarsonAllen LLP.
This Q&A is part of a new guide by Gail Bower on earned revenue. It is simply a guide and not a substitute for tax advice for your individual organization.Please consult your tax advisor or contact Bruce to review your specific situation.
Nonprofit organizations have several legal and tax issues to address when it comes to generating earned revenue. What are a few suggestions you have for clients to address and minimize tax liability?
Be wary of relying too heavily on a ‘cheat sheet’ approach; each situation will have its own specific facts and circumstances that will need to be taken into consideration. That said, here are a few big picture suggestions:
- Discuss potential new revenue generating streams with your outside professionals (external accountant/auditor and attorney) early in your planning process; your professional advisors can give you guidance on structure, tracking and the potential tax impact before you get too far into generating a new source of revenue.
- Think critically about why new revenue streams are being considered by your organization. Some revenue sources will relate directly to the current mission, some may branch into new mission areas and others may be purely to generate revenue. Understanding the distinction will be an important part of reporting the activity and potentially limiting tax liability.
- Recognize that there may be expenses that can be reasonably and consistently allocated against unrelated business income to minimize the tax impact on the organization.
What is unrelated business income tax (UBIT) and what do nonprofit CEOs need to know about it?
Nonprofit organizations that generate revenue from a trade or business which is carried out on a regular basis and is not related to their mission (and exempt purpose) may incur UBIT. Examples of revenues that can trigger UBIT include:
- rental of debt-financed property,
- advertising revenue generating from a program book,
- fitness center or day care fees generated from the general public, and
- gift shop sales to the general public.
Nonprofit CEOs do not need to memorize every IRS regulation related to UBIT. However, they do need to be able to recognize and acknowledge the types of revenue streams that could trigger UBIT.
CEOs should also understand that the threshold for reporting unrelated business income to the IRS is extremely low. Gross unrelated business income of $1,000 or more must be reported to the IRS on Form 990-T.
Obviously reducing UBIT is essential. Are there circumstances when the risk of incurring the tax is worthwhile, and if so, what would those circumstances be?
Incurring unrelated business income tax is not always a bad thing. If an organization identifies a business activity that is going to help in diversifying revenue streams and could potentially lead to an increase in much needed reserves, it may be well worth it to pay UBIT on such an activity.
How does UBIT pertain to corporate sponsorship, a form of earned revenue?
Most commonly, UBI will be generated from advertising revenue that is imbedded in the sponsorship. Having a clear contract that separately lists each benefit with its cost to the sponsor could help protect the organization from tainting the entire sponsorship. Also, keep in mind the definition of ‘advertising’ for purposes of UBI determination, excludes basic recognition (name, address). You could likely write entire blog just on the nuances of advertising and how it relates to UBI; it is a deep topic.
Are there limits to how much a nonprofit can generate through earned income?
Pursuing mission related earned income is not something that carries a limit; however there are limits on how much UBI a nonprofit can generate. The limit on UBI is not a set number or percentage. Instead, an organization will need to look at the specific facts and circumstance. A general rule of thumb is that if the nonprofit is spending the same amount or more time on UBI activities than it is on exempt function activities then there is likely a need for restructuring.
Your accounting practice focuses on nonprofit organization. What’s the biggest mistake you see when it comes to diversifying revenue, and how do you help clients mitigate those problems?
CLA works with a significant number of social service organizations, and many times these organizations can be as much as 80% to 100% dependent on governmental funding. We don’t carry a silver bullet for diversification of revenue. However, because we see so many examples of other types of revenues within our client base, we can at least engage in conversation with our boards of directors and management in order to help mitigate situations where revenue is concentrated with one source.
When would a nonprofit organization consult with an accountant and tax advisor, such as yourself, when developing a strategy for earned revenue sources?
Hopefully we have built a relationship with the nonprofit organization as a trusted advisor so that we will be contacted early in the planning process when contemplating new revenue sources (and not at the back end). We may not have all the answers, but we can certainly leverage connections with other professionals (such as Gail Bower) to help bring the best solutions to our clients.
What’s the biggest advantage of earned revenue for organizations?
To learn more about earned income, download Gail Bower's new Guide to Earned Revenue. It's free.
Bruce W. Braunewell, CPA, is Principal at CliftonLarsonAllen LLP (CLA) and has 28 years of public accounting experience. He has served clients within the nonprofit community his entire professional career. Bruce is the Public Sector Group leader for the Philadelphia area offices of CLA. He is a member of the American and Pennsylvania Institutes of Certified Public Accountants. Besides Pennsylvania, he holds a professional license to practice in both New Jersey and New York. He is a frequent speaker on a variety of nonprofit topics including nonprofit tax, board governance, the importance of reserves, uniform grant guidance, cost allocation, enterprise risk management, fraud and nonprofit lifecycles. For more information, visit CliftonLarsonAllen LLP.