Journal of Sport Management. 1994. 8. 36-48© 1994 Human KineUcs Publishers, Inc.

Collegiate Athleticsand the Unrelated Business Income Tax

Caroline Kern Craig Karen WeismanIllinois State University Amateur Sofftball Association

in recent years, many university athletic programs have turned to program andScoreboard advertisements, corporate sponsorships, and other nomraditionaisources of revenue to supplement their operating budgets. As confirmed byseveral high-profile court cases, these nontraditional revenue sources canbe subject to federal unrelated business income tax—a consequence oftenoverlooked by athletic administrators and those involved in sport managementprograms. This article discusses the unrelated business income tax and itsimpact on collegiate athletic programs. Court cases and Internal RevenueService pronouncements are reviewed, where applicable. Compliance andplanning issues are also briefly addressed.

As state funding for university athletic program.s continues to decline, manyathletic administrators are finding it necessary to seek alternative sources ofrevenue. As noted by F. Miller (1989) and Stotlar and Johnson (1989), thesealternative sources often involve corporate sponsorships, program and Scoreboardadvertisements, and merchandise sales. For the most part, these fund-raisingactivities have been successful iti generating much-needed revenues for deficit-plagued programs. However, as several high-profile court cases have confirmed,many of these activities can be subject to federal unrelated business income tax—aconsequence often overlooked by athletic administrators and those involved insport management programs. The unrelated business income tax (UBIT) canhave far-reaching implications for how university athletic programs conduct theirrevenue-generating activities.

This article discusses the unrelated business income tax and it.s impact oncollegiate athletics. Select background information is briefly reviewed. A detailedanalysis of relevant court cases and Internal Revenue Service (IRS) pronounce-ments is then provided. The article concludes with a brief discussion of complianceand planning issues.

Background JttformationThe U.S. federal tax laws are derived from three sources: statutor>', administrative,and judicial. The Internal Revenue Code (I.R.C.) is a compilation of the tax

Caroline Kern Craig is with the Department of Accounting, 5520 Illinois StateUniversity, Normal. IL 61790-5520. Karen Weisman is with the Amateur Softball Associa-Uon, 2801 N.E. 50th St., Oklahoma City, OK 73111.

36

Unrelated Business Income Tax 37

Statutes and, therefore, serves as the backbone of the federal tax system. Inaddition to the I.R.C., regulations and other administrative pronouncements issuedby the IRS aiso influence the tax law. For example, Treasur>' Regulations (Treas.Reg.) are issued by the IRS to aid in the interpretation of the Intemal RevenueCode. Technical advice memoranda (Tech. Adv. Mem.), revenue rulings (Rev.Rul.), and private letter rulings (Priv. Ltr. Rul.) are issued to provide taxpayerswith information concerning the position of the IRS on a particular matter. Finally,the federal courts also influence the tax law by adjudicating disputes betweenthe IRS and taxpayers. Several federal courts hear tax ca.ses, including the TaxCourt, the Court of Claims, Appellate Courts (regional and federal circuits), andthe U.S. Supreme Court. The precedential value of these tax sources varies. TheIntemal Revenue Code and Treasury Regulations possess strong precedentialvalue. Other administrative pronouncements, particularly private letter rulings,carry less weight. Finally, court opinions are important sources of the tax law,with the greatest value placed on Supreme Court decisions.

As nonprofit entities, universities and their athletic programs are eligiblefor tax-exempt status under Intemal Revenue Code (I.R.C.) Section (§) 501(c)(3).This Code section permits organizations that are formed and operated exclusivelyfor religious, charitable, scientific, literary, or educational purposes to be exemptfrom most federal and state taxes. This favorable treatment is long-standingand exists in order to foster activities that serve some typ)e of common good.Nevertheless, it is important to note that tax exemption under I.R.C. § 501(c)(3)applies only to those activities that are "substantially related" to the entity'sexempt purpwse (i.e., religious, charitable, scientific, literar}', or educational activ-ities). In the case of universities, activities that promote the educational missionare considered to be substantially related to the exempt purpose. Activities that areunrelated to an organization's exempt purpose can produce adverse consequences,ranging from some measure of taxation to complete loss of exempt status. It isthe taxation of these unrelated activities for university athletic programs that isthe focus of this article.

The unrelated business income tax, originally enacted in 19.S0, is assessedonly on organizations that would otherwise be exempt from federal and statetaxation (e.g., educational institutions, churches, and charitable organizations).As the name suggests, the tax is assessed on trade or business income that isunrelated to the entity's exempt purpose. This tax exists in order to preventnonprofit entities from having an unfair competitive advantage over their for-profit counterparts. That is, if it were not for some form of UBIT, nonprofitentities could engage in business activities outside the scope of their exemptpurposes, not pay any typie of tax on their earnings, and have considerablecompetitive advantage over for-profit entities that must pay tax on their incomes.

Interestingly, the UBIT stems from a case involving a university with"outside" revenue sources. In the case in question, the New York University(NYU) School of Law purchased CF. Mueller and Co. (a macaroni maker) inorder to generate additional monies to support the university's otherwise tax-exempt programs. The taxability of these "outside" funds was questioned bythe IRS, and the case eventually prompted Congress to pass legislation aimed atforcing nonprofit entities to pay tax on their "unrelated" income. (See Mueller,C.F. V. Commissioner, 190 F2d 120, 3rd Cir. 1951, rev'd 14 T.C. 922, 1950,

38 Craig cmd Weisman

discussed in J.W. Miller, 1989.) The NYU case demonstrates that there is a long-standing precedent for taxing universities on unrelated trade or business income.

Factors That Trigger XJBIT

I.R.C. § 513 enumerates three factors that must be present in order for UBIT tobe imposed;' The organization must conduct a trade or business, the trade orbusiness must be conducted on a regular basis, and the trade or business mustbe substantially unrelated to the entity's exempt purpose. These requirementsare discussed next.

Oxganization Conducts a Trade or Business. A trade or businessexists if there is a sale of goods or jjerformance of services carried on for theproduction of income. Given this broad definition, it is important to note thatnot all revenue-generating activities constitute trades or businesses. For example,a university that receives tuition payments from its students is not conducting atrade or business since no profit motive is present. In contrast, the IRS ruledrecently that university-sponsored rock concerts did indeed generate trade orbusiness income since the university's principal motive for sponsoring the con-certs was profitability (Tech. Adv. Mem. 91-47-008, August 19, 1991, discussedin "Rock Concerts," 1992).

As a fmal point, it should be noted that trade or business income existsonly when there is "active participation" in the sale of goods or performanceof services. Income generated from a passive activity is not considered to betrade or business income. Examples of passive income include dividends, interest,and royalties (Jacobs & Goedert, 1990). As discussed subsequently, the exclusionof royalty income from the trade or business classification can be of particularimportance to athletic programs.

Trade or Business Conducted on a Regular Basis. In order for UB ITto be imposed, the trade or business must be conducted by the nonprofit entityon a regular basis. For the most part, activities that are conducted only sporadicallywill avoid tax. The IRS evaluates this "regularly carried on" condition bycomparing the activity in question to those conducted by for-profit entities. Asnoted by Ciccolella (1991), "(the) condition is met if the activity is reasonablysimilar in frequency, continuity, and manner" to those conducted by the privatesector (p. 24). This requirement exists largely for the convenience of would-betaxpayers and, as a consequence, permits nonprofit organizations to conductsporadic fund-raising activities without being subject to taxatkm.

Trade or Business Substantially Unxelated to Exempt Purpose. Anonprofit entity will only pay UBIT if it is regularly conckcting a trade orbusiness that i.s substantially unrelated to its exempt purpose. As one mightexpect, the interpretation of "substantially unrelated" has been the subject ofconsiderable debate and controversy over the years. While noi profit entities mayconsider most (if not all) of their activities to be related to their exempt function,the IRS tends to defme the exempt function much more narrowly. Not surprisingly,the IRS has the authority to decide, on a case-by-case basis, \»*ether an activityis substantially related to Ae exempt function of an organiz^on. As a result,this issue has been the focus of several prominent court cases, many of whichhave implications for athletic programs.

Unrelated Business Income Tax 39

DBIT inceptions. Several noteworthy exceptions exist with respect tothe applicability of the UBIT. In essence, these exceptions permit nonprofitentities to conduct unrelated trades or businesses within narrowly defined guide-lines and to avoid payment of UBIT . For example, state colleges and universitiesmay avoid UBIT by conducting trades or businesses for the convenience of theirstudents or employees. (A university bookstore is an example of a trade orbusiness that could fall under this exception.) In addition, UBIT may also beavoided if volunteers do "substantially all" of the work associated with theproduction of income, or if the trade or business involves the sale of donatedmerchandise or distribution of low-cost items. Finally, funds generated throughthe rental or exchange of donor membership lists can also be exempt from UBIT.As discussed subsequently, these exceptions have some applicability to universityathletic fund-raising.

Two additional points also warrant comment. First, if a nonprofit entityregularly conducts an unrelated trade or business, and the activity does notfall under an exception category, then UBIT must be paid. In recent years,approximately .35,000 nonprofit entities have filed UBIT returns annually C'UBIRevisited," 1988). The tax is assessed on net income generated for the year inexcess of SI,000. (The $1,O(X) amount operates as an exemption and exists foradministrative convenience.) The entity's "net income" is defined as grossincome less allowable expenses. The tax is computed using the regular corporateincome tax rates, which can be as high as 35%. Details concerning the UBITcalculation will be discussed in a subsequent section.

Second, it is important to remember that general guidelines exist to restrictthe scope of a nonprofit entity's trade or business activities. Unrelated trades orbusinesses may be conducted by nonprofit entities (with the payment of UBIT,where applicable) as long as the trade or business does not represent a substantialpan of the organization's activities. Under I.R.C. § 501(c)(3), nonprofit entitiesmust exist primarily to promote charitable, religious, scientific, literary, or educa-tional activities. If the unrelated trade or business activities become too prominent,the organization runs the risk of losing its exempt status and becoming a for-profit, tax-paying entity. It is therefore essential that unrelated trade or businessactivities be monitored closely.

UBIT and Collegiate AthleticsGiven the size and scojje of university athletic programs, many athletic directorsare spending considerable time and effort dealing with budgetary and financialmanagement issues. As noted by Hatfield, Wrenn, and Bretting (1987), collegiateathletic directors continue to be "highly occupied with monetary concerns"(p. 141). With this emphasis on revenue generation and "profitability," it isimportant for athletic administrators and those involved in sport management tohave some familiarity with UBIT and its consequences. The remainder of thisarticle addresses the UBIT implications of revenue sources common to collegiateathletic programs.

As discussed earlier, UBIT is assessed on nonprofit entities that regularlyconduct trades or businesses diat are substantially unrelated to the entity's exemptpurpose. Consequently, collegiate athletic programs will be subject to UBIT on

40 O a ^ and Weisman

those activities that do «/>/further the institution's educational mission. Typically,athletic programs generate operating funds from a wide variety of sources, rangingfrom student fees and ticket sales to signage and television rights. Many of theseactivities are clearly related to the university's mission and do not create UBITproblems. However, as several court cases have confirmed, certain revenue-generating activities conducted by athletic programs do indeed have UBIT conse-quences. The following discussion addresses the likely UBIT implications byrevenue source for collegiate athletic programs. Court cases and IRS pronounce-ments will also be reviewed, where applicable. Key elements of the discussionare summarized in Table 1.

Related Sources and Activities

As one might expect, the more commonplace sources of revenue for collegiateathletic programs are indeed related to the university's exempt purpose. Theserelated sources and activities are enumerated as follows. Fr>' (1991) providesan excellent overview of the UBIT consequences for many revenue-generatingactivities.

Table 1 Summary of UBIT Implications by Revenue Sourcefor Collegiate Athletic Programs

Revenue source Comments

Panel A—Revenue sources without UBIT implicationsTuition, student fees, and state No profit motive present

fundsCash and in-kind contributions Exempt provided donor not receiving comparable

value in returnTicket sales Exempt since related activityProgram sales and concessions Exempt unless generated from advertising or

merchandise salesTelevision and radio rights Tax exemption not available to university-owned

stationsTournament and bowl revenues Sponsoring organization may have UBIT problemRoyalty income Sales agreement can aifect taxationEndowment income Exempt since passive activity

Panel B—Revenue sources with UBIT implicationsAdvertising income American College of Phy.siciMis and NCAA coun

cases noteworthyCorporate sponsorships Cotton Bowl ruling made sponsorships taxable;

proposed regulations provide some reliefMerchandise sales Taxable if competing with fop-profit enterprisesRental income Tax treatment depend.s on type of rental propertyUnrelated debt-financed income Taxable becau.se of profit motive

Unrelated Business Income Tax 41

Tuition Waivers. Student Fees, and Other State Monies. The re-ceipt of tuition waivers, student fees, and other state monies does not in any waycreate a UBIT problem for university athletic programs. These funds are providedto further the institution's educational mission and, as a result, do not produce taxconsequences to the university or its programs. Of course, somewhat ironically, itis the decline in state funding that has forced many athletic programs to seekoutside support, which in tum has created the potential UBIT problems.

Cash and In-kind ChariUble Contributions. Similarly, the receiptof cash and in-kind charitable contributions will not create UBIT problems forathletic programs. (Examples of in-kind contributions include transportation andthe provision of meals and hotel accommodations for team members at "away"games.) These charitable donations are solicited from individuals and businessesto help support various athletic programs offered by universities. Such donationsare obviously encouraged since the tax law permits donors to take charitablecontribution deductions on their income tax returns. However, this favorabletreatment assumes that the donor is not receiving goods or serv ices of comparablevalue in return for the contribution.

Ticket Sales. It is well established that revenues generated from thesale of tickets to university sporting events are related to the university's exemptpurpose and are therefore not subject to UBIT. University sporting events contrib-ute to the overall mission of the institution and clearly enhance the quality ofthe educational experience for many students.

Program Sales and Concessions, Revenues generated from the saleof programs and concessions at university sporting events are also considered tobe related to the university's exempt purpose. Since it has become customary tosell programs and refi-eshments at virtually all sporting events, the associatedrevenues may be exempt from tax. However, as discus.sed subsequently, revenuesgenerated from the sale of merchandise (e.g.. clothing, mugs, etc.) and programadvertising space will ver>' likely be taxed under the UBIT provisions.

Television and Radio Rights. Currently, funds received from the saleof television and radio rights to collegiate sporting events are also considered tobe related to the university's exempt purpose. These activities promote the generalwelfare of the institution by publicizing the university and its athletic programs.However, it should be noted that this tax exemption does not apply to university-owned television and radio stations. In the case of university-owned stations, theincome generated may be subject to UBIT since a profit motive is typicallypresent (Iowa State University of Science and Technology v. Commissioner, 500F2d 508, Ct.Cls. 1974).

Tournament and Bowl Revenues. Revenues generated from a univer-sity's participation in postseason tournaments and bowls (e.g., conference tourna-ments, NCAA and NIT championships) will also be exempt from UBIT. Theseevents enhance the reputations of the comp)eting universities and their athleticprograms. Interestingly, it is the sponsoring organization, rather than the partici-pating universities, that may have some exposure to UBIT.'

Royalty Income. The tax law sp>ecifically exempts royalty income fromUBIT.'' Consequently, athletic programs that receive royalties from the sale ofteam names and logos will not pay tax on those funds. In this regard, it isimportant to distinguish between royalty income and other types of income relatedto the sale of an organization's name and logo. In a recent private letter ruling

42 Craig and Weisman

(Priv. Ltr. Rul. 90-29-047, April 27, 1990), the IRS determined that paymentsfrom an insurance company to an educational organization for the use of itsname and logo in connection with the company's solicitation of the organization'smembers was a payment for services as opposed to royalty income. The IRSreached this conclusion since the "(educatiotial) organization was directly andextensively involved in the promotion of the insurance plan" ("Payments,"1991, p. 133). This IRS ruling suggests that revenues generated frwn the sale ofan organization's name and logo will be treated as royalty income (and will beexempt from UBIT) as long as the oi^anization is not actively involved in thesolicitation of revenues.

Endowment Income. Finally, income generated from mi athletic pro-gram endowment fund may also be exempt from taxation. Common examplesof endowment income include dividends, interest, and capital gains.' These in-come items are not subject to UBIT since they are "passive" in nature and arenot generated in connection with an active trade or business.

Unrelated Sources and Activities

Under the current U.S. tax system, collegiate athletic programs will be liable forUBIT on revenue-generating activities that are unrelated to the university's ex-empt purpose. For most programs, these activities involve what could be describedas nontraditional sources of revenue. In recent years, many programs have gener-ated nontraditional revenues from the sade of advertising space and merchandise,the solicitation of corporate sponsorships, and the leasing of equipment andfacilities. Given the budgetary pressures facing many programs, it is quite likelythat athletic administrators will continue to seek nontraditional financing.

By narrowly defining a university's exempt function, the IRS often charac-terizes nontraditional revenue-raising activities as unrelated trades or businesses.As a consequence, universities must pay UBIT on their outside eamings in orderto ensure an "even playing field" with for-profit enterprises. In this regard, itis impxsrtant to note that UBIT will be assessed on unrelated trades or businesses,regardless of the ultimate use of the funds. The following discussion addresses thelikely UBIT consequences by source for many nontraditional revenue-generatingactivities conducted by university athletic programs.

Advertising Income. Most major collegiate athletic programs generaterevenues from the sale of advertising space in game programs and other publishedmaterials. Recently, several prominent court cases have confirmed that this in-come may indeed be subject to UBIT. Qearly, the most noteworthy case in thearea involved the sale of advertising space in a professional medical joumalpublished by the American College of Physicians, a nonprofit organization. Inthat case (United States v. American College of Physicians, 475 U.S. 834, 1986),the U.S. Supreme Court held that income generated from me(fical product adver-ti.sements was substantially unrelated to die organization's exempt purpose andtherefore taxable. The Court based its decision on the fact,.dial the AmericanCollege of Physicians had not solicited the advertisements "for the purpose ofcontributing to the educational value of the journal." The Cenrt then suggestedthat the advertising income could have been exempt from lax had the collegecoordinated "the content of the advertisements with the editarial content of the

Unrelated Business Income Tax 43

issue, or (pubiished) only advertisements reflecting new developments in thepharmaceutical markets" <Huffaker & Gut, 1986, p. 3).

The American College of Physicians case has far-reaching implications foruniversity athletic programs, as evidenced by a recent IRS ruling involving thesale of programs at university football games. In a technical advice memorandum(Tech. Adv. Mem. 91-37-002, April 29, 1991), the IRS ruled that amountsreceived in connection with the sale of advertising space in state universityfootball programs were unrelated to the university's educational mission. TheIRS reached this conclusion since the only guideline established concerningprogram content was a prohibition against "political or objectionable advertise-ments" ("Football Program," 1992, p. 58).

Schnee and Brock (1991) offer several suggestions concerning ways toavoid UBIT on program advertising. For example, they suggest that (a) theadvertisements should appear in a set form dictated by the university, (b) theadvertisements should appear in the program a limited number of times, unlessnew information is included, and (c) perhaps most importantly, the advertisementsmust be coordinated with the content of the program (e.g., athletic equipment orhealth club advertisements). Admittedly, it may prove somewhat difficult foruniversity athletic programs to coordinate their advertisements with programcontent. Nevertheless, any effon made in that regard will help reduce the potentialUBIT problem.

A .second prominent case involving university athletics and advertisingincome is National Collegiate Athletic Association v. Commissioner, 914 F2d1417 (10th Cir. 1990), action on decision, 1991-15 (July 3, 1991), rev'd, 92 T.C.456 (1989). This case turned principally on the interpretation of the "regularlycarried on" condition—a requirement that must be met in order for UBIT to beimposed. In the NCAA case, the Tenth Circuit Court of Appeals reversed theTax Court finding and held that revenues generated by the NCAA from the saleof advertisements in their championship basketball tournament programs werenot subject to UBIT, since the advertising activity was not conducted on a regularbasis. The programs were sold during a 3-week period once a year at tournamentgames. The court ruled that preliminary time spent in soliciting advertisementsand preparing them for publication was "not to be considered in determiningwhether (the) NCAA regularly carried on its program advertising business"(Webster, 1991, p. 143).

The Tenth Circuit's interpretation of the "regularly carried on" requirementhas not been without controversy. The IRS has indicated that it will not followthe Tenth Circuit's decision in the NCAA case (Action on Decision 91-15, July3, 1991). Moreover, in a subsequent ruling (Tech. Adv. Mem. 91-47-007, August16, 1991)—known as the "Cotton Bowl" ruling, the IRS also stated that, withrespect to the NCAA decision, the "court's factual analysis is faulty and its legalconclusions erroneous." It is interesting to note that the IRS's position on thisissue also contradicts an earlier Tax Court case involving the taxability of revenuesgenerated from program sales. In than earlier case (Suffolk County Patrolmen'sBenevolent Association v. Commissioner, 77 T.C. 1314, 1981), the Tax Courtruled that reveiMies generated from the sale of tickets and program guides at anannual vaudeville show were iax-«xempt, evai though considerable time wasspent planaing the eveitt.

44 Craig and

Given the mix of case law and IRS rulings in this area, it is quite likelythat the IRS will continue to litigate cases involving the tax treatment of advertis-ing revenues generated by nonprofit organizations. Consequently, university ath-letic programs remain at risk with respect to the taxability of program advertising,even if the underlying activity is held only sporadically and for a short periodof time. (Of course, in any event, the content of the advertisements must besubstantially related to the university's exempt purpose in order to comply withthe American College of Physicians ruling.)

Corporate Sponsorships. In recent years, many nonprofit organiza-tions, including university athletic programs, have turned to corporate sponsor-ships in an attempt to generate additional operating revenues. Not surprisingly,the tax treatment of these sponsorships ha.s been the subject of considerabledebate between the IRS and nonprofit entities. For example, in the recent CottonBowl ruling (which involved several tax issues), the IRS took the position that52.5 million in sponsorship fees received by organizers of the "Mobil CottonBowl" and the "John Hancock Bowl" was subject to UBIT. The IRS supportedits position by demonstrating that bowl organizers were not receiving a charitablecontribution since they provided a quid pro quo to sponsors in the form ofcommercial advertising (Crawford, 1992). As detailed in the American Collegeof Physicians case, such advertising revenues may indeed be characterized asunrelated trade or business income.

In an attempt to address the controversy in this area, the IRS has issuedproposed regulations concerning the tax treatment of corporate sponsorship reve-nues (Prop. Treas. Reg. § 1.513-4, 58 Fed. Reg. 5690. 1993). (If finalized, theseregulations will apply to payments received by nonprofit organizations afterJanuary 19, 1993.) The regulations enumerate several factors that will be consid-ered by the IRS in assessing whether corporate sponsorships constitute unrelatedtrade or business income to nonprofit entities. For example, sponsorship revenuewill be tax-exempt provided the sponsor logos and slogans do not contain compar-ative or qualitative descriptions of the sponsor's products or services, sponsorlocations and telephone numbers, or sponsor brand or trade names. In addition,the regulations permit the sponsor's name and logo to be included in promotionalfliers, newspap>er advertisements of the event, banners, signs, posters, brochures,and, quite importantly, on scoreboards. Conversely, the sponsorships will betaxed under the UBIT provisions if, among other factors, the spon.sorship includesan inducement to buy sell, rent, or lease the spon.sor's product or service or ifthe sponsorship payment is contingent upon attendance or broadcast ratings.If finalized, these regulations will help clarify the tax treatment of corporatesponsorship revenues and provide some relief to nonprofit organizations. Inthis regard, it is important to note that legislation exempting amateur athleticorganizations from these corporate sponsorship rules is currently under reviewby the U.S. Congress.* University athletic administrators will need to monitorthis legislation closely.

Merchandise Sales. Frequently, athletic programs rase funds throughthe .sale of merehandise at sporting events and other university-sponsored competi-tions. The sale of these merchandise items (e.g., mugs, penna^s, clothing, etc.)generates revenue that is very likely taxable under the UBIT provisions. Byselling this merchandise, the athletic program is competing wilh local bu.sinesses

Unrelated Business Income Tax 45

that operate as for-profit entities. The university must therefore pay tax on eamingsgenerated from the merchandise sales.

Rental Income. Many athletic programs are now leasing their equipmentand facilities to extemal parties in order to generate additional operating funds.Oftentimes, the equipment and facilities are rented in connection with athleticcamps and clinics. The tax treatment of this rental income is a function of thetype of property being leased (i.e., real vs. personal) and the nature of the leaseagreement. Generally, rental income from real property (buildings, practice fields,etc.) will be exempt from UBIT, provided more than 50% of the total rentsreceived under the lease relate to real property (as opposed to personal property).Rents from personal property (e.g., athletic equipment) will be taxed under theUBIT provisions if the personal property rents are more than 10% of the totalrents received under the lease.

Not surprisingly, universities and the IRS have not always agreed as to theinterpretation of these requirements. For example, the IRS ruled that the rentalof a university stadium to a professional football team was not income from therental of real property (and was therefore subject to UBIT) since the universityalso provided utilities, ground maintenance, linens, and stadium security (Rev.Rul. 80-298, 1980-2, CB 197). The technical nature of the tax law in this areahighlights the importance of careful planning when structuring lease agreementswith extemal parties.

Unrelated Debt-Financed Income. Finally, income generated fromdebt-financed prop)erty is also considered to be unrelated trade or business incomeand will be taxed accordingly.* Debt-financed property is defined as ali income-producing property on which there is "acquisition indebtedness" at any timeduring the year. In the case of athletic programs, a prominent example of suchproperty would be stadium skyboxes constructed with borrowed funds (Fr>',1991). Any income received in connection with skybox rentals would be charac-terized as unrelated debt-financed income. This income is considered to beunrelated to the university's exempt purpose since profit generation is the principalmotive underlying the acquisition of the property.

Compliance and Planning IssuesUniversity athletic administrators and those involved in sport management pro-grams also need to be aware of compliance and planning issues involving UBIT.Familiarity with these issues will ease the compliance burden and also facilitateeffective tax planning.

Compliance Issues

As noted earlier, UBIT is assessed on the net unrelated trade or business incomegenerated during the year in excess of $1,000. (Recall that the $1,000 amountoperates a.s an exemption and exists for administrative convenience.) Net incomeis defined as gross revenues less allowable expenses. The tax is assessed usingthe regular corporate income tax rates, which start at 15% and may reach 35%depending on the level of taxable income.

Since UBIT is assessed on net income (rather than gross revenues), theproper allocation of expenses to UBIT activities is critically important. Typically,

46 Cra^ and Weisman

allocable expenses are characterized as either direct or indirect expenses. Directexpenses are those that relate exclusively to the unrelated trade or business,including, for example, salaries of personnel who work only for the trade orbusiness activity, and utilities and maintenance costs incurred for trade or busitjessfacilities. Indirect expenses are those that benefit both related and unrelatedactivities. Examples of indirect expenses include salaries of administration person-nel who oversee all athletic department activities, and depreciation on buildingsthat hou.se both related and unrelated activities. Only those expenses allocatedto the unrelated trade or business may be used in computing unrelated trade orbusiness net income.' Given the complexities surrounding the UBIT calculation,it is essential that university athletic programs maintain accounting systems thatare capable of generating the necessary revenue and expen.se data.

Finally, it is important to note that if a nonprofit organization regularlycarries on two or more unrelated trades or businesses, UBIT is assessed on theaggregate net income derived from all unrelated activities. In the case of collegiateathletic programs, the UBIT liability will be determined at the university' level(in the aggregate) and paid accordingly. The aggregate nature of the UBITcalculation reinforces the importance of properly allocating expanses to relatedand unrelated activities. The federal UBIT is paid with Form 990-T, ExemptOrganization Business Income Tax Return.

Planning Issues

Given the continued emphasis on revenue generation and profitability by univer-sity athletic programs, many administrators are now encountering UBIT problems.It is therefore important to structure revenue-raising activities with this potentialUBIT liability in mind. For example, as a guiding principle, athletic programsshould attempt to raise funds through related activities. For example, renewedemphasis should be placed on soliciting charitable contributions from individualand business donors. In addition, attempts should be made at increasing revenuesfrom ticket sales, program sales, and concessions. (Of course, winning teamscontribute significantly to this effort!) Athletic programs should also focus ongenerating additional funds through the sale of television and radio broadcastrights. Importantly, athletic programs should also attempt to increase their shareof royalty income derived from the sale of team names aad logos. As a finalexample in this regard, athletic administrators may also want to consider takingadvantage of the exception categories present under the UBIT guidelines. Inparticular, tax-free revenues may be generated by selling donated merchandise,distributing low-co.st items, and renting or exchanging donor membership lists.

Planning possibilities also exist for revenues generated from what wotjldotherwise be unrelated activities. For example, some advertising income may beexempt from UBIT if it can be demonstrated that the content ®f the advertisementsis educational and therefore substantially related to the university's mission. Inaddition, it is very important to structure leasing agreements with external p>artiesso that the rental income will be exempt from UBIT. Also, as noted earlier, sinceUBIT is assessed on net income generated fixjm unrelated activities, it is essentialthat all allocable costs be accounted for and attributed to ilie trade or businessactivity. The timing of these expanses should also be monitored closely (e.g., ifpossible, incur expenses in years when the UBIT exposare h greatest). By taking

Unrelated Business Income Tax 47

advantage of these planning opportunities, athletic programs should be able tomanage their UBIT positions effectively.

ConclusionThis article has discussed the unrelated business income tax and its implicationsfor collegiate athletic programs. As demonstrated, many revenue-raising activitiesconducted by university athletic programs do indeed have UBIT consequences.It is therefore essential that athletic administrators and those involved in sportmanagement programs have some familiarity with this tax and its potential impacton revenue generation.

ReferencesCiccolella. M. (1991). A taxing question. Collegiate Athletic Management, 3(1), 24, 26.Crawford, CT. (1992). IRS anacks exempt organization income from corporate sponsor-

ship fees. The Journal of Taxation, 76, 230-234.Football program advertising is UBL (1992). The Journal of Taxation, 76, 58.Fry. K. (1991). Certain revenue-producing activities in your department may be subject

to the UBfT. Collegiate Athletic Management, 3(1), 25.Hatfield, B.D., Wrenn, J.P., & Bretting, M.M. (1987). Comparison of job responsibilities

of intercollegiate athletic directors and professional sport general managers. Journalof Sport Management, 1, 129-145.

Huffaker, J.B., & Gut, E.L. (1986). Supreme court holds advertising revenue was notsubstantially related income. The Journal of Taxation, 65. 2-5.

I.R.C. §§ 501. 512, 513. and 514.Iowa State University of Science and Technology v. Commissioner. 500 F2d 508 (Ct.Cls.

1974).Jacobs. J.A.. & Goedert, P.C. (1990). Tax issues for exempt organizations: A primer.

.Association Management, 42( 1), 47-54.Miller. F. (1989). Increased revenue plan for division \-.\ institutions. Athletic Administra-

tion, 24{3), 14-16.Miller, J.W., Jr. (1989). The unrelated business income trap. The National Public Accoun-

tant, M{9), 16-17.Mueller, C.F. v. Commissioner, 190 F2d 120 (3rd Cir. 1951), rev'd, 14 T.C. 922 (1950).National Collegiate Athletic Association v. Commissioner, 914 F2d 1417 (10th Cir. 1990),

action on decision, 1991-15 (July 3, 1991), rev'd. 92 T.C. 456 (1989).Payments for name and logo are UBTI. (1991). The Journal of Taxation, 74, 132-133.Priv. Ltr. Rul. 90-29-047 (April 27. 1990).Prop. Treas. Reg. § 1.513^, 58 Fed. Reg. 5690 (1993).Rev. Rul. 80-298, 1980-2 CB 197.Rock concerts at university resulted in UBTI. (1992). The Journal of Taxation, 76, 185-

186.Schnee, EJ., & Brock, E.A. (1991). Opponunities exist to reduce unrelated business

income from advertising revenue. The Journal of Taxation, 74, 240-245.Stotlar, D.K., & Johnson, n.A. (1989). Stadium ads get a boost. Athletic Business, 13(9),

49-51.

48 Craig and Weisman

Suffolk Country Patrolmen's Benevolent .Association v. Commissioner. 77 T.C. 1314

(1981).Tech. Adv. Mem. 91-37-002 (April 29. 1991).Tech. Adv. Mem. 91-47-007 (August 16. 1991).Tech. Adv. Mem. 91-47-008 (August 19. 1991).Treas. Reg. § l..'iI3.UBI revisited. (1988). A.ssoc.iation Management, 40(5). 16. 18.United States v. .i^erican College of Physicians, 475 U.S. 834 (1986).Webster, G.D. (1991). Advertising income rumbles. Association Management, 43(3), 136,

143.

Notes'Details concerning these factors may be found in Treas. Reg. § 1.5)3-1.'I.R.C. § ."513 enumerates the various exceptions to the UBIT. Jacobs and Goedert

(1990) provide a thorough analysis of the more routine exceptions.'These problems are exemplified by the recent IRS ruling involving the Cotton

Bowl and taxability of corporate sponsorships. Details concerning this ruling are discus.sedin connection with the review of "unrelated" revenue sources and activities.

•This exemption is enumerated in I.R.C. § 512(bK2).''Under limited circumstances, capital gain income may be subject to UBIT. Details

concerning these circumstances may be found in I.R.C. §§ 512 and 513."Rep. Bill Brewster (D.. OK) introduced legislation in the U.S. House of Representa-

tives (H.R. 1551) during summer 1993 to exempt amateur athletic events from the corporatesponsorship rules. The legislation is pending at the time of this writing.

^See I.R.C. § 512(b)(3) for further details concerning the tax treatment of rentalincome for nonprofit entities.

*1.R.C. § 514 enumerates several exceptions involving the nontaxability of unrelateddebt-financed income. For the most part, these exceptions do not apply to universityathletic programs.

''It should be noted that certain technical requirements exist concerning the allocationof expenses to unrelated trade or business activities, particularly with respect to thecomputation of net income from advertising. See Schnee and Brock (1991) for furtherdetails.

AcknowledgmentsThe authors would like to acknowledge Larry Lyons. CP.A., Assistant Athletic

Director-Finance, Illinois State University, for his assistance in the preparation of thismanuscript. Thanks also go to the editor and two anonymous reviewers for their helpfulcomments.