UNRELATED BUSINESS INCOME NOT BEING REPORTED CORRECTLY

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By Kyle Clayton – Staff Accountant

The Colleges and Universities Compliance Project, begun in 2008 by the IRS, distributed 400 questionnaires to a randomly-selected sample of schools to ensure compliance with current regulations. Based on responses to the questionnaires and details of the respective Form 990s, the IRS selected 34 of these colleges and universities for further review and found that unreported unrelated business income (UBI) in higher education was found in almost every case examined by the IRS. Additionally, noncompliance in executive compensation reporting was found as a result of the study.

These examinations by the IRS resulted in increases to unrelated business income (UBI) which totaled approximately $90 million and disallowance of more than $170 million in losses and Net Operating Losses (NOLs) which, according to the study, could amount to more than $60 million in assessed taxes.

The main issue the IRS found was reported disallowed expenses were not tied to unrelated business activities. The study notes that the misreporting occurred for two reasons: lack of profit motive and improper expense allocation. To the point, the activity engaged in must qualify as a trade or business and the intent must be present to make a profit. A continued pattern of losses poses a red flag that an organization lacks a profit motive. As a result the activity would not qualify as a trade or business and losses would be disallowed. Also, the IRS found that approximately 60 percent of the Form 990-Ts reviewed as part of the survey contained misallocated expenses to offset UBI. An organization may allocate expenses for both exempt and unrelated business activities, but they must be reasonable and those expenses offsetting UBI must be directly connected to the unrelated business activities. As part of the survey, the IRS found that many of those claimed expenses, which led to losses, were not connected to the unrelated business activity.

Since the underreporting of UBI was noted in many of the cases examined, the IRS will be ramping up efforts to strengthen compliance for future reporting. Colleges and universities need to be aware of these issues and to ensure they are accurately reporting UBI. The IRS disallowed nearly $19 million in NOLs on the returns examined as part of the survey because they were either improperly calculated or unsupported on more than a third of the returns.

Source: The NonProfit Times: Audits Show Widespread Underreporting of UBI