Q: Can our nonprofit organization loose its tax exempt status
if we have too much advertising sales success?
Answer: Generally speaking, your organization’s
tax exemption covers any activity that is substantially related
to the charitable, educational or other purpose that forms the
basis upon which the IRS granted the exemption, even if the activity
is a business activity. However, if the organization regularly
carries on a business that’s not substantially related to
its exempt purpose, the organization is subject to income tax on
any profits from that activity.
As a default, IRS considers that advertising sales is unrelated business
income and imposes a tax on your profits from ad sales. But in many cases,
you can argue that advertising sales is actually related to your mission.
Running car ads in your member newsletter is probably not related business
income, but running ads from language schools in your career magazine
for immigrants certainly is related.
You can lose your tax-exempt status by having too much unrelated business
income (UBI), but unfortunately, the IRS has not issued any specific
guidelines as to how much is too much. We know publishers who deliberately
limit their advertising income to 25% of total annual receipts, but we
also know of cases where more than 50% of income was derived from UBI
and exempt status was upheld. It might be impossible to defend your tax
status if you earned nearly 100% of your operating funds through unrelated
All unrelated business profits are taxable, including profits from advertising
sales. The UBI tax law distinguishes between advertising, which involves
the promotion of goods and services (UBIT applies), and donor recognition,
which involves a mere acknowledgement of a donor's support (UBIT does
not apply). That's why an ad in a conference directory generally doesn't
give rise to UBIT liability. There are also special rules concerning
the type of expenses that can be deducted against the advertising sales
revenue for purposes of figuring the UBIT liability
Failure to identify and pay UBIT can result in your nonprofit being assessed
back taxes, interest and penalties. Organizations operating an unrelated
business must file form 990-T, Exempt Organization Business Income Tax
Return, whether a tax is due or not.
This topic is covered in our new book from Nolo Press published
in May 2007, Every Nonprofit's Guide
to Publishing. You can email
us if you have other questions we should answer.