For many nonprofits, corporate funding can be a lifeline during periods of economic uncertainty. However, your nonprofit needs to take care when soliciting and negotiating such arrangements. Sometimes they can lead to an unexpected tax bill.
Understanding payments
According to the Internal Revenue Code, qualified sponsorship payments aren’t subject to unrelated business income tax (UBIT). These payments from businesses may be in the form of cash or property, but there can’t be any expectation that the business sponsor will receive a substantial return benefit.
What qualifies as a substantial return benefit? It generally refers to anything more than a simple acknowledgement of the sponsor’s support. Examples of benefits include advertising and promotional messages, privileged access to members, or goods, as well as the right to use the nonprofit’s trademark or logo, or exclusive provider arrangements (such as limiting access to competitors’ products).
Sponsored activities may include:
§ A single event,
§ A series of related events,
§ An ongoing activity, or
§ Continuing support of a nonprofit’s operation.
A qualified sponsorship payment doesn’t have to relate to the organization’s exempt purpose. If you agree with a certain company that it'll be your exclusive sponsor, that’s not a problem. However, problems can arise if you restrict access to the sponsor’s competitors, such as by barring competing products from being sold or displayed at your event. That would result in a substantial return benefit, which, in turn, could trigger UBIT.
Determining what isn't a payment
When a sponsor receives a substantial return benefit, only the portion of the payment that exceeds the fair market value (FMV) of that benefit is considered a qualified sponsorship payment. If you can’t determine that the payment exceeds the FMV, then no portion of the payment constitutes a qualified sponsorship payment.
Payments don’t qualify if they’re contingent on the degree of public exposure, such as event attendance, broadcast ratings, or similar factors. They also don’t qualify if they entitle the sponsor to have its name or logo used in the organization’s regularly scheduled and printed periodicals, such as magazines or e-newsletters, rather than materials created for an event. And they don’t qualify if they’re connected to convention or trade show activities.
Payments that are partly qualified will be treated by the IRS as if separate payments were made. Any income received in exchange for such sponsor benefits is generally subject to UBIT.
Line between advertising and acknowledging
According to the IRS, a primary issue is distinguishing qualified sponsorship payments and the related acknowledgment of sponsors from the sale of advertising. Advertising is defined as any transmitted, published, displayed or distributed message or programming material that promotes or markets a business, service, facility or product. On the other hand, an acknowledgment is intended only to identify the sponsor — not promote its products, services or facilities.
Acknowledgments don’t have to be bare bones. They can include the sponsor’s logo, slogans, brand or trade names; locations and phone numbers; product service listings; and value-neutral descriptions of its product line or services. An acknowledgment can also include a sponsor’s website URL. It can link to the website’s home page, but not to the page for a particular product or service. When crafting an acknowledgment, avoid comparative or qualitative descriptions — for example, “the best software for nonprofits.” The IRS considers a message that includes comparative or qualitative language and an acknowledgment to be advertising.
Finally, your acknowledgments shouldn’t include price information, indications of savings or value, or inducements to buy, sell or use the sponsor’s products or services. But mere display or distribution of a sponsor’s product at a sponsored activity isn’t considered to be such an inducement.
Get it right
A well-executed corporate sponsorship can benefit both the nonprofit that receives funding and the sponsor that receives valuable branding opportunities. But if it’s not done right, your organization could end up owing UBIT. Contact us to help you navigate the process.
