Non-Profit Business Activity and the Unrelated Business Income Tax

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American non-profit organizations are generally exempt from federal income tax, with the exception that profits earned from activities that are "unrelated" to exempt purposes are subject to the Unrelated Business Income Tax (UBIT). The UBIT is intended to prevent "unfair" competition between tax-exempt non-profits and taxable for-profit firms, and also to prevent erosion of the federal tax base through tax-motivated transactions between taxable and tax-exempt entities. The evidence indicates that American non-profit organizations engage in very little unrelated business activity, paying aggregate UBIT of less than $200 million annually. Large non-profit organizations, and those with pressing financial needs due to high program-related expenses and low receipts of contributions and government grants, are the most likely to have unrelated business income. The same organizational characteristics are not associated with earning income from inventory sales that are "related" to exempt purposes. This evidence suggests that non-profits incur important organizational costs in undertaking unrelated business activity, since unrelated business income is concentrated among organizations facing the strongest financial pressures. This, in turn, carries implications for the efficiency of the UBIT as a source of tax revenue and for the need to tax the business income of non-profit organizations in order to prevent "unfair" competition.


Copyright 1999 National Bureau of Economic Research and the Massachusetts Institute of Technology. Originally published in Tax Policy and the Economy, 13, 1999. DOI: