Enrolled Agent Study Covers When Tax-Exempt Entities Owe Tax

Sawyer Adams
November 8, 2011 — 1,195 views  
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Tax law allows many types of entities to exempt their income from tax. As long as an activity serves a social benefit, it may apply for tax-exempt status. A business operation that uses profits for a public purpose that's acceptable to the IRS is eligible for tax-exempt classification. Such businesses may even compete with taxable operations.

Some enrolled agent careers are solely focused on helping only entities that are tax-exempt. But the services don't end merely when the IRS approves the non-taxable status. More enrolled agent work is available for the annual tax filing of tax-exempt organizations. They must report income despite not incurring tax.

In fact, limitations exist to the non-assessment of tax. Therefore, an enrolled agent tax preparer must consider "Unrelated Business Income Tax." This is essentially a type of corporate income tax that is applied to any business activity of a tax-exempt entity that is unrelated to the public benefit provided by the organization.           

This also applies to pension funds, which are only entitled to investment income such as interest, dividends, and capital gains. The rules about unrelated businesses also keep IRAs exempt from tax. Consequently, an IRA trustee is not entitled to operate a business.

Charities occasionally earn a profit from a nonrecurring activity. In most cases, enrolled agent study reveals these situations as taxable unrelated business. The only way a tax-exempt entity can escape this category is when a business is part of the normal IRS approved ways for the organization to raise funds for a charitable purpose.

Some EA training about tax-exempt organizations is essential for any enrolled agent who expects to advise these entities. Even enrolled agents that don't specialize in tax work for non-taxable charities should recognize cases where an organization might incur unrelated business income tax. However, providing tax services specifically to tax-exempt entities is a growing area of enrolled agent employment.

For example, the National Education Association recently learned in Tax Court about advice it could have used from an EA practice about unrelated business income. Dues received by the NEA from its members are tax-exempt. However, the NEA publishes two magazines for members, which generate income from selling advertising. This is unrelated business income. Circulation costs were deducted against this income as a business expense.

The IRS said that some of the dues are allocable to unrelated business income because members receive the magazines, which are unrelated business activities. The Tax Court agreed, saying that a portion of membership dues is related to magazine circulation income. An appeal is likely. But, if the NEA loses, it will owe $1.1 million of tax.

IRS Circular 230 Disclosure

Pursuant to the requirements of the Internal Revenue Service Circular 230, we inform you that, to the extent any advice relating to a Federal tax issue is contained in this communication, including in any attachments, it was not written or intended to be used, and cannot be used, for the purpose of (a) avoiding any tax related penalties that may be imposed on you or any other person under the Internal Revenue Code, or (b) promoting, marketing or recommending to another person any transaction or matter addressed in this communication.

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Sawyer Adams