IRS provides guidance for applying UBTI ‘silo’ rules

By Teresa A. Judycki, CPA, MST, Meyers Brothers Kalicka PC, Holyoke, Mass.

Editor: Michael D. Koppel, CPA (Retired)/PFS/CITP

In Notice 2018-67, the IRS requested comments and provided interim guidance and transition rules regarding new Sec. 512(a)(6), which was enacted in the law known as the Tax Cuts and Jobs Act (TCJA), P.L. 115-97. Sec. 512(a)(6) requires exempt organizations subject to tax on unrelated business taxable income (UBTI) to calculate UBTI separately with respect to each business — or to "silo" revenue and expenses for each separate business.

Under prior law, UBTI was the gross income of all unrelated trades or businesses less the allowed deductions from all unrelated trades or businesses. Effective for tax years beginning after Dec. 31, 2017, the loss from one trade or business, including any net operating loss (NOL) deduction, may not offset the income from a separate trade or business. But what is a separate trade or business? Notice 2018-67 provides that until proposed regulations are issued, exempt organizations may rely on a "reasonable, good-faith interpretation of §§511 through 514, considering all the facts and circumstances."

The notice states that Treasury and the IRS would prefer a method that is easier to administer than a facts-and-circumstances test for identifying separate trades or businesses. Treasury and the IRS are considering the use of North American Industry Classification System (NAICS) codes, and until the proposed regulations are issued, a "reasonable, good-faith interpretation" includes using an NAICS six-digit code.

The notice requests comments regarding possible rules or standards for the allocation of indirect expenses between separate unrelated trades or businesses for purposes of calculating UBTI and what methods should be considered "reasonable." For example, how should the accountant's fee be allocated among exempt and taxable activities?

Debt-financed income, specified payments from controlled entities, and certain insurance income are treated as unrelated business income. The notice acknowledges that siloing that income could impose a significant burden on exempt organizations, and it states that aggregating the income may be appropriate in certain circumstances. The notice requests comments concerning the treatment of such income that is not from a partnership.

An organization may invest in partnerships that conduct trades or businesses unrelated to the partner's exempt purpose. The organization is required to include its share of partnership income in its UBTI. Attempting to apply silo rules to activities conducted by partnerships could impose a significant burden on exempt organizations. Obtaining information from multitier partnerships could be very difficult. The notice indicates that proposed regulations will treat "investment activities" as one trade or business, permitting exempt organizations to aggregate those activities. The notice requests comments regarding the scope of activities that should be included in the category of investment activities.

Investment activities should capture only partnership interests in which the exempt organization does not significantly participate in any partnership trade or business. Notice 2018-67 provides interim and transition rules for aggregating qualifying partnership interests. Under the interim rule, until proposed regulations are issued, an exempt organization may aggregate its UBTI from a partnership with multiple trades or businesses, including trades or businesses conducted by lower-tier partnerships, as long as the directly held interest in the partnership meets either a de minimis or a control test. In addition, an exempt organization may aggregate all qualifying partnership interests as a single trade or business. A partnership meets the de minimis test if the exempt organization holds directly no more than 2% of the profits interest and no more than 2% of the capital interest in the partnership.

The control test is met if the exempt organization directly holds no more than 20% of the capital interest and does not have control or influence over the partnership. In applying both tests, the partner may rely on a Schedule K-1 and average the percentage interests at the beginning and end of the partnership's year. If the K-1 does not identify a specific profits interest, the organization does not meet the de minimis test.

Partnership interests held by disqualified persons, supporting organizations, and controlled entities must be aggregated in determining the partnership percentages for both the de minimis and control tests.

An organization that does not apply the interim rule may apply the transition rule for a partnership interest acquired before Aug. 21, 2018. Under the transition rule, an organization may treat a partnership as a single trade or business whether there is more than one trade or business conducted directly by the partnership or by lower-tier partnerships, similar to the interim rule, but there is no ability to further aggregate all partnership interests. The income from qualifying partnership interests permitted to be aggregated under either the interim rule or the transition rule includes any unrelated debt-financed income that arises in connection with that qualifying partnership interest. Note, though, that Sec. 501(c)(7) social clubs may not use either the interim rule or the transition rule. The notice clarifies that the Sec. 512(a)(7) tax on fringe benefits (employee parking tax) is not an unrelated trade or business and, therefore, is not subject to Sec. 512(a)(6).

Finally, the law is clear that NOLs are only allowed to offset income earned by the trade or business from which the loss arose for tax years beginning after Dec. 31, 2017. But the change does not apply to pre-2018 NOLs. Notice 2018-67 indicates that Sec. 512(a)(6) may have changed the NOL ordering rules to require post-2017 NOLs to be used before pre-2018 NOLs. The notice requests comments on the ordering of pre-2018 and post-2017 NOLs as well as how the NOL deduction should be taken by exempt organizations with more than one trade or business and having both pre-2018 and post-2017 NOLs.


Michael D. Koppel, CPA (Retired)/PFS/CITP, is a retired partner with Gray, Gray & Gray LLP in Canton, Mass.

For additional information about these items, contact Mr. Koppel at 781-407-0300 or

Unless otherwise noted, contributors are members of or associated with CPAmerica International.

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