Recent TAM on a Sport Association’s UBTI Finds Acceptable Split of Income and Employee Activity

Recent TAM on a Sport Association’s UBTI Finds Acceptable Split of Income and Employee Activity

One issue that perpetually plagues a tax-exempt organization is whether the income it receives from its unrelated trades or businesses (its "unrelated business taxable income" or UBTI) is so large that it will cause it to lose its tax-exempt status. This issue is difficult because there are no hard and fast rules in this area. Neither the Internal Revenue Code of 1986, as amended (the Code) nor the regulations promulgated thereunder provide more than a vague answer. Moreover, because the outcome is heavily dependent on the particular facts and circumstances in each situation, it is difficult to discern a broadly applicable rule. While there is no new clear set of rules, recently the IRS did issue Technical Advice Memorandum (TAM) 201005061, which adds to a small body of guidance, at least for a 501(c)(6) trade association.


In general, tax-exempt organizations formed under Section 501 of the Code may not be created for the purpose of engaging in an unrelated trade or business. Income from an unrelated trade or business regularly carried on by the exempt organization will not be exempt from tax, but will be subject to tax as UBTI. The specific rules governing the method of determining the interplay between an unrelated trade or business and an organization's exempt status are slightly different, depending on whether the exempt organization is, for example, a Section 501(c)(3) organization, which is a charitable organization such as a church, school, or museum; or a Section 501(c)(6) trade association, such as a chamber of commerce. However, in all cases, an exempt organization's exempt status may be jeopardized if it engages in too much unrelated business activities or earns too much UBTI.

The Code and regulations' rules regarding the appropriateness of the conduct of an unrelated trade or business by an exempt organization contain vague standards for determining whether such unrelated business will jeopardize an organization's exemption. For Section 501(c)(3) organizations, an organization must not be organized or operated for the "primary purpose" of carrying on an unrelated trade or business. Similarly, a Section 501(c)(6) organization "whose purpose" is to engage in a regular business of a kind ordinarily carried on for profit will not qualify as an exempt business league. These standards have been applied in case law and IRS guidance in which various facts and circumstances tests have been created. In certain situations it is relatively simple to determine the outcome under these tests, but in other situations it is virtually impossible to predict the conclusion that the IRS or a court might reach. In close situations, i.e., where most of an organization's revenue comes from a successful unrelated business, but only a small portion of the organization's expenses or the time of its staff are expended in furtherance of the unrelated program, it is unclear how the organization should apply the tests and whether it should be concerned that its exemption may be in jeopardy.

Technical Advice Memorandum 201005061

In TAM 201005061 issued on February 5, 2010, the IRS addressed the unrelated business activities conducted by an athletic trade association. In the TAM the association's purposes included promoting the common business interests of the associated members and promoting the objectives of a specific unnamed sport that is played by amateurs and professionals.

One aspect of the sport that the association addressed was that players generally must pay fees to play at sports facilities. The association and participating sports facilities sell to the general public, for a fee, discount certificates to help defray the costs to the players to engage in the sport at various sports facilities. Sales by the association resulted in "significant revenue and substantial profits" for the association. These revenues were used as a source of funding for many of the association's programs that carried out its exempt purposes. The TAM provides that the staff time that the association devoted to the discount certificates fluctuated somewhat over the years, although it decreased overall. The association "substantiated" that an average of 25 percent of the staff time was spent on the discount program during the first six years of the discount program. Also, the association's board spent approximately 5 percent of its time on the discount program, and approximately 10 percent of the overall time spent by the association's committees was spent on the discount certificate program.

Based on an extensive analysis, not relevant to this article, the TAM concluded that the fee income earned from sales of the discount certificates constituted UBTI. The helpful aspect of this ruling is that the IRS based its conclusion that the association should not lose its exempt status on the fact that the association's employees spent only 25 percent of their time on the unrelated business activities. Thus, the IRS concluded that even though a "substantial portion" of the association's revenues came from the sale of the discount certificates, the sale of discount certificates did not constitute the primary purpose of the association or the primary activity of the association's employees.

Pepper Perspective

It is rare for IRS guidance to include quantifiable data in determining whether an unrelated business jeopardizes an exempt organization's status.1 Because the IRS seems to recognize that it is not fatal for a significant amount of an exempt organization's revenues to be comprised of UBTI if its employees spend at least 75 percent of their time engaged in the organization's exempt activities, it would be useful for exempt organization if the IRS added a quantifiable standard or safe harbor to the regulations governing the unrelated business activities of exempt organizations.


1 See Private Letter Ruling 9550001 (Section 501(c)(6) organization performed administrative tasks for health and welfare plan, the combination of the administrative activities and other non-exempt activities generated 23 percent of the organization's revenue and 19.7 percent of its expenses, the fees received for the administrative services were UBTI, and the extent of the non-exempt activities did not jeopardize the organization's exempt status); Private Letter Ruling 9128003 (a Section 501(c)(6) formed to promote positive employer-employee relations also provided approximately three months worth of administrative support in connection with compensation consulting services, the administrative support was UBTI, but it did not jeopardize the organization's exempt status); Private Letter Ruling 8038004 (a Section 501(c)(3) organization that aided voluntarily discharged members of the armed forces who were disabled did not lose its exempt status even though 46 percent of the organization's net income were from sales of prosthetics that constituted UBTI).

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