Issue

Many Christian colleges, seminaries, and universities rent land or building space to generate extra revenue throughout the year (REO!).  Generally, schools are not subject to unrelated business income taxes on real property rentals – even if those properties/facilities are “debt-financed”.  Personal property rentals, even if rented as part of a facility rental, may be a different story.

Situation

Denali Christian College (DCC) is a private college that is exempt under Internal Revenue Code section 501(c)(3) and 170(b)(1)(A)(ii).  As their auditors are on-site conducting the financial audit, they discover an invoice to a group called, “Halibut Computer Services”.  The invoice is for use of a campus meeting room for two-days lists line items as follows:

Room rental (July 21, 22)                   $600

A/V Equipment rental                         $300

Total                                                    $900

The audit team is concerned that some or all of the equipment rental may be subject to unrelated business income taxes (UBIT) – and, potentially, require Form 990-T filing.  DCC’s Controller feels that the “facility rental” is not subject to UBIT because of the exclusion for schools under I.R.C. section 514(c)(9).  We clarify that real property rentals are generally not subject to UBIT unless additional services or personal property rentals are involved.  The personal property amount should be based upon the “fair market value” of the equipment in question.

If $300 is a true representation of the fair market value of the A/V equipment rental, then, because this “personal property rental” is more than 10% and less than 50% of the value of the total rent ($300/$900 = 33.333%), DCC would need to report the $300 A/V equipment rental as unrelated business income.  However, they would be able to one-third (33.333%) of any direct or indirect expenses associated with the activity of renting the room as expenses to offset this income on Form 990-T.  In addition, analysis should be done as to whether this equipment rental activity is a) engaged in with a profit motive, and/or b) regularly carried on.

Rules

From IRS Publication 598:

Rents. Rents from real property, including elevators and escalators, are excluded in computing unrelated business taxable income. Rents from personal property are not excluded. However, special rules apply to “mixed leases” of both real and personal property.

Mixed leases. In a mixed lease, all of the rents are excluded if the rents attributable to the personal property are not more than 10% of the total rents under the lease, as determined when the personal property is first placed in service by the lessee. If the rents attributable to personal property are more than 10% but not more than 50% of the total rents, only the rents attributable to the real property are excluded. If the rents attributable to the personal property are more than 50% of the total rents, none of the rents are excludable.

Property is placed in service when the lessee first may use it under the terms of a lease. For example, property subject to a lease entered into on November 1, for a term starting on January 1 of the next year, is considered placed in service on January 1, regardless of when the lessee first actually uses it.

If separate leases are entered into for real and personal property and the properties have an integrated use (for example, one or more leases for real property and another lease or leases for personal property to be used on the real property), all the leases will be considered as one lease.

The rent attributable to the personal property must be recomputed, and the treatment of the rents must be redetermined, if:

  • The rent attributable to all the leased personal property increases by 100% or more because additional or substitute personal property is placed in service, or
  • The lease is modified to change the rent charged (whether or not the amount of rented personal property changes).

Any change in the treatment of rents resulting from the recomputation is effective only for the period beginning with the event that caused the recomputation.

Bottom Line

Personal property rentals (including A/V equipment, furniture, musical instruments, and/or cell phone towers) may generate income that is subject to unrelated business income taxes (UBIT).  It is best to consult with a qualified tax advisor and get their guidance and assistance on these issues.

Specific questions? Email Dave Moja.

The information provided herein presents general information and should not be relied on as accounting, tax, or legal advice when analyzing and resolving a specific tax issue. If you have specific questions regarding a particular fact situation, please consult with competent accounting, tax, and/or legal counsel about the facts and laws that apply.