UBIT: When a Nonprofit Owes Income Tax
The tax on income from a regularly carried-on business unrelated to an organization's exempt purpose, the exceptions that cover most nonprofit revenue, and the siloing rule for multiple activities.
Reviewed by the Fairlight Accounting cross-border tax team — U.S. & Canadian Tax Desks
Unrelated business income tax applies when a tax-exempt organization earns income from a trade or business that is regularly carried on and not substantially related to its exempt purpose. The income is taxed at the corporate rate, reported on Form 990-T once it reaches $1,000, and losses from one unrelated business cannot offset another's profits.
On this page
What is the test?
| Element | Question |
|---|---|
| Trade or business | Is the activity carried on for the production of income from selling goods or services? |
| Regularly carried on | Is it conducted with the frequency and continuity of a comparable commercial activity? (An annual fundraising dinner is not; a year-round café is) |
| Not substantially related | Does the activity itself contribute importantly to the exempt purpose — not merely produce money for it? |
Income that fails any element is not unrelated business income. The fact that profits fund the mission is irrelevant.
What is excluded?
- Activities conducted substantially by volunteers
- Sales of donated merchandise (thrift stores)
- Activities for the convenience of members, students, patients, or employees
- Passive income: dividends, interest, royalties, most rents from real property, and gains on investments — unless the asset is debt-financed
- Qualified sponsorship payments, where the sponsor receives only acknowledgment, not advertising
- Certain bingo games, low-cost item distributions, and trade show activities
- Research performed for a government unit, and research by colleges, universities, hospitals, and fundamental-research organizations
Income from debt-financed property, interest, rents, royalties, and annuities (but not dividends) from controlled subsidiaries, and advertising (as opposed to sponsorship) are taxable.
How is the tax computed?
Gross unrelated income minus directly connected expenses, with a $1,000 specific deduction, taxed at 21 percent for corporations (exempt trusts pay trust rates). Since 2018, each separate unrelated business is computed on its own — a loss from one cannot shelter another's profit — though net operating losses within a silo carry forward. Form 990-T is due with the organization's Form 990 and is itself a public document for 501(c)(3)s.
When does a nonprofit need a taxable subsidiary?
When an unrelated activity grows large enough to risk the organization's exemption (unrelated activities that become substantial relative to exempt ones), carries liability, or needs outside investors. A for-profit subsidiary pays tax on its income and pays dividends to the parent, which are excluded as passive income. Management fees and rents between the two must be at arm's length and some payments from a controlled subsidiary are taxable to the parent.
Frequently asked questions
Is income from a nonprofit's rental property taxable?
Rent from real property is generally excluded unless the property is debt-financed or the rent includes substantial services.
Are sales from an online store taxable?
If the merchandise relates to the mission (a museum's catalogues), no; if it is unrelated (general consumer goods), yes.
Does paying unrelated business tax threaten the exemption?
Paying the tax is fine; an unrelated business that becomes the organization's primary activity does threaten it.
Do state taxes apply?
Most states with a corporate income tax also reach unrelated business income; Florida taxes it under its corporate income tax, after the $50,000 exemption, on Form F-1120 or F-1120A.
Official sources
The IRS explains: “For most organizations, unrelated business income is income from a trade or business, regularly carried on, that is not substantially related to the charitable, educational, or other purpose that is the basis of the organization's exemption.” — Internal Revenue Service, Unrelated business income tax, https://www.irs.gov/charities-non-profits/unrelated-business-income-tax
The IRS explains: “Organizations with more than one unrelated trade or business must compute unrelated business taxable income (UBTI), including for the purpose of determining any net operating loss deduction, separately with respect to each such trade or business.” — Internal Revenue Service, Publication 598 (03/2021), Tax on Unrelated Business Income of Exempt Organizations, https://www.irs.gov/publications/p598
Next step
Fairlight Accounting handles U.S. domestic, cross-border (U.S.–Canada), and international tax returns, plus bookkeeping, payroll, and CFO advisory. Our U.S. Tax Desk screens each revenue line of a nonprofit against the exclusions and prepares Form 990-T where one applies. See pricing or book a free fit call.
Cross-border taxes, handled in one place
U.S. and Canadian filings prepared together by our U.S. and Canadian Tax Desks.
Book a free fit call