Is It Advertising or Is It a Sponsorship? Only One Is Subject to UBI Tax

  • Tax strategies
  • 12/13/2021

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Key insights

  • Advertising and sponsorship acknowledgement can look very similar, but only advertising is subject to unrelated business income tax.
  • Any message or material that promotes or markets any trade, business, service, facility, or product using the key factors defined by the IRS is considered advertising.
  • A payment made by a trade or business where there is no arrangement or expectation of any return benefit is considered a sponsorship.
  • An activity is subject to unrelated business income tax if it is “regularly carried on,” which can be difficult to define.

In the nonprofit world, you often raise money by putting advertisements in your publications or on your websites. Your organization can also raise money by soliciting sponsorships for events or activities. Advertising and sponsorship acknowledgement can look very similar, but the difference is important: advertising revenue is often unrelated business income (UBI) and subject to unrelated business income tax (UBIT) and sponsorship acknowledgement is not.

What is considered advertising?

Advertising, as defined in IRS Reg. §1.513-4(c)(2)(v), is any message or material that promotes or markets any trade, business, service, facility, or product using:

  • Qualitative or comparative language
  • Price information or other indications of savings or value
  • Endorsements
  • Inducement to purchase, sell, or use any company, service, facility, or product

Furthermore, a single message that contains both advertising and an acknowledgment is considered advertising.

What is considered a sponsorship?

A qualified sponsorship payment (QSP) is a payment made by a trade or business where there is no arrangement or expectation of any return benefit other than the use or acknowledgement of the name, logo, or product lines of such trade or business. It specifically does not include the attributes listed for advertising.

QSPs can be very attractive to businesses, as they are considered marketing expenses for the for-profit organization (an IRC §162 deduction). Large companies are familiar with these rules and have designed programs specifically for tax-exempt organizations.

Sponsorships may be acknowledged by the recipient organization. IRS Reg. §1.513-4(c)(2)(iv) specifies that the following acknowledgements are permissible and do not constitute a substantial return benefit:

  • Exclusive sponsor arrangements
  • Name, address, phone number, website, logo
  • General description of the product line
  • Visual depictions of the products or services
  • Taglines
  • Display or distribution of the product

A QSP cannot include:

  • An exclusive provider arrangement
  • The provision of goods, facilities, services, or privileges to the sponsor
  • Right to use the exempt organization’s logo, trademark, patent, etc.
  • Payments contingent on exposure
  • Periodicals
  • Income from qualified convention and trade shows. This is not UBTI, but it is specifically exempted from tax under IRC §513(d) rather than under the sponsorship rules of IRS Reg. §1.513-4.

Spot the difference

Let’s go through a few examples of how to tell a sponsorship acknowledgement from an advertisement.

First, an easy one: Purple Car Company puts an advertisement for one of its models in an organization’s monthly publication. There is a glossy picture of the vehicle and the words: “Receive a $3,000 credit on a 2022 Puma” along with the contact information for the company. This is clearly an advertisement, as there is an inducement to buy included in the presentation.

Now, let’s say that Purple Car Company sponsors a concert series for the local orchestra. In the program is a picture of a Puma along with the name of the car company, its contact information, and its logo. There is also a Puma parked outside the concert hall. As well, in the concert program, Purple Car Company is listed as an “Emerald Sponsor.” This is a QSP. None of the acknowledgements include qualitative language, price information, an endorsement, or an inducement to purchase.

This is where it gets tricky. What about a travel agency that buys a spot in the program for a gala event? As well as its name and contact information, the agency includes as part of the spot: “What Today’s Business Travelers Want” followed by, “High-tech features and services that new era travelers expect.” It has no comparative language, no price indications, endorsements. But the verbiage — is that an inducement to purchase, or more along the lines of a tagline?

UBI activities

For an activity to be UBI, it needs to meet the test of being “regularly carried on.” If the advertising is contained in an event program and that event only takes place once a year, it may not qualify as regularly carried on.

The National Collegiate Athletic Association (NCAA) won a case where the IRS and the Tax Court both determined that the advertising in the program for the final tournament of the season was subject to UBI. The U.S. Court of Appeals, Tenth Circuit sided with the NCAA saying that the actual distribution of the programs to spectators only took place for three weeks a year, so it was not regularly carried on. Generally, an activity that occurs more than one time a year is enough to be considered regularly carried on. However, in cases when solicitation of the advertising took place for most of a year, the advertising was considered UBI even though the publication (a school yearbook) only came out once a year.

Advertising in periodicals or on a website will almost always be UBI. Advertising revenue can be offset by both direct and allocable expenses as well as excess readership costs. Readership costs are all the periodical expenses other than direct advertising, including the production and distribution of non-ad content. When those costs exceed circulation income, there are excess readership costs. Excess readership costs cannot reduce the net income of the activity below zero.

Taxable advertising revenue, and the associated income tax, is not always a “bad” thing. It can offset some of the costs of a periodical or website. Remember, there will be a requirement to file a Form 990-T to report the net income, if any, and that there may be income tax assessed. It does not jeopardize the organization’s tax-exempt status as long as the majority of the organization’s time and effort is spent on its exempt purpose.

How we can help

Up-front planning is the key. You don’t want any unpleasant surprises after the fact. CLA can help you plan or assess a proposed transaction in order to achieve a satisfactory agreement both from the nonprofit’s perspective and that of the for-profit entity.

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