Consider Unrelated Business Income after Incorporating as a Non-Profit Organization

Many new corporations start as tax-exempt organizations by operating as a business with a social goal. The IRS grants the tax exemption when a corporation’s profit is used to serve a community interest. Your only income from having such a tax-exempt corporation is the salary you receive. But you serve an important mission and perhaps have greater assurance that buyers accept your company’s product because of the social benefits served by doing so.

The IRS grants authority to generate non-taxable profits from an activity that are donated to the charitable purpose of your tax-exempt corporation. But you have to exercise care to not stray from the activity that’s the foundation of the corporation’s tax exemption. Any profitable activity of the organization that deviates from its primary purpose is considered taxable “unrelated business income.”

Income that is unrelated to the tax-exempt purpose of a non-profit corporation is taxed as if incurred by a for-profit entity. The activity must be carried on regularly to qualify as unrelated business income.

The IRS excludes some recurring actions from classification as unrelated business income. One such exception is an activity conducted strictly for the convenience of visitors, employees, or members. That permits tax exemption for income derived by a non-profit corporation from operating an on-site cafeteria. However, income from running an up-scale restaurant on the corporation’s premises is likely to incur IRS scrutiny as an unrelated business.

Specific steps are taken when a tax-exempt corporation incurs unrelated business income. The required procedure is to define the unrelated business, calculate income and deductions for that unrelated activity, file Form 990-T with the IRS, and pay estimated taxes.

Form 990-T is required from any tax-exempt corporation with at least $1,000 of gross receipts from unrelated business. The form is submitted on the 15th day of the 5th month after the end of the organization’s taxable year and is separately filed from the corporation’s annual Form 990 report. An organization must pay quarterly estimated taxes if it expects income to exceed $500.