Payments from corporations to sponsor your conferences, events, or programs can be a win-win for both the corporation and your nonprofit. The corporation gets public recognition and a "halo" from its association with the nonprofit. And the nonprofit receives tax-exempt, unrestricted revenue. What's not to like?
However, if a corporate sponsorship is not structured properly, it can result in taxable income to the nonprofit. A nonprofit may decide to pay tax in order to receive more income, but some nonprofits find themselves paying tax inadvertently. Here's what to watch for.
Tax-Exempt Organizations Sometimes Pay Tax
Contrary to what the term suggests, a tax-exempt nonprofit is not immune from all federal income tax. A nonprofit may be subject to federal corporate income tax—called the unrelated business income tax (UBIT)—on income from activities that are not substantially related to its exempt purposes. The tax is imposed at the regular corporate rate of 21%, and state income taxes may also apply, depending on the state. This tax takes a significant bite out of a nonprofit's revenue from a taxable activity.
Corporate donations, like individual donations, are generally not taxable to the nonprofit. But if the corporation receives certain benefits back from the nonprofit—such as the wrong kind of recognition—the entire donation can become taxable. Fortunately, the Internal Revenue Code offers a safe harbor, the "qualified sponsorship payment" exemption, for the types of recognition and other benefits that can be given to corporate sponsors without making the sponsorship payments taxable, even if the sponsored activity is unrelated to the nonprofit's exempt purposes.
A Qualified Sponsorship Payment Is Not Taxable
A "qualified sponsorship payment" is a payment made without an expectation that the sponsor will receive a "substantial return benefit" in exchange, and such payments are not taxable for the nonprofit.1 A "substantial return benefit" is any benefit or package of benefits to the sponsor valued at more than 2% of the sponsorship payment. Importantly, in calculating the 2% value, the mere "use or acknowledgment" of the sponsor's name, logo, or products is not included. This is critical because, of course, sponsors expect to see their name in lights on conference signage, tote bags, and so on. But how that name appears can be a trap for the unwary, as discussed below.
1. "Disregarded Benefits"—The 2% Rule
Goods, services, or other benefits are disregarded if the aggregate fair market value of all benefits received by a sponsor in exchange for the sponsor's payment does not exceed 2% of the value of the sponsorship payment. For example, if the nonprofit receives a $10,000 corporate sponsorship payment, the nonprofit may give the sponsor benefits valued, in the aggregate, at $200 or less without incurring UBIT. These return benefits can include the following, but it can be very hard to provide them for a small amount (like $200 in our example):
- Providing facilities, services, or other privileges (like event tickets or priority access) to the sponsor;
- Granting the sponsor a right to use an intangible asset (like the nonprofit's trademark or copyright); or
- Designating the sponsor as an exclusive provider (for example, saying that the corporation is the exclusive printer for the nonprofit, as compared to an exclusive sponsor arrangement, which is discussed below).
Under the 2% Rule, the entire fair market value of benefits is either totally disregarded or totally treated as a substantial return benefit (except for the value of any permitted use or acknowledgment). If the 2% Rule is exceeded, only the portion that exceeds the fair market value of the substantial return benefit is treated as a qualified sponsorship payment.
For example, assume a hotel chain pays $10,000 to sponsor your nonprofit's annual gala. To recognize the hotel chain's support, your nonprofit uses the hotel's name and logo without any promotional language on banners and posters and gives the hotel one gala ticket worth $180. The gala ticket is worth less than $200 (the 2% threshold), so the benefits are disregarded and the entire $10,000 payment is a qualified sponsorship payment exempt from UBIT. If, on the other hand, your nonprofit gives the hotel executives a whole table at the gala worth $1,800, the entire $1,800 value, not just the $1,600 in excess of the 2% limitation, is considered a substantial return benefit and would be taxable unless it qualified for some other exemption under the general UBIT rules. Meanwhile, the portion of the payment that exceeds the fair market value of the tickets, $8,200, would be a qualified sponsorship payment and not taxable. In both cases, the use of the sponsor's name and logo would qualify as a permitted use or acknowledgment (discussed further below) and thus does not count as a monetary benefit, so it is disregarded in the calculations.
2. "Use or Acknowledgment"
Merely thanking the corporate sponsor or other "use or acknowledgment" of the corporate sponsor's name, logo, or product lines is not considered part of a substantial return benefit and therefore does not count toward the 2% Rule. The IRS considers the following to be permitted forms of use or acknowledgment:
- Exclusive event sponsorship arrangements (allowing a sponsor to be the sole sponsor for a particular event or program);
- Use of logos and well-established slogans;
- A list of the sponsor's locations, telephone numbers, or website;
- Value-neutral descriptions, including displays or visual depictions, of the sponsor's product line or services;
- The sponsor's brand or trade names and product or service listings; and
- Links on the exempt organization's website to the sponsor's website, as long as the links do not go directly to a product sales page.
If Sponsor Recognition Isn't "Use or Acknowledgment," It May Be Taxable Advertising
If recognition of a sponsor doesn't qualify as "use or acknowledgment," as described above, it is probably advertising. Advertising may be the biggest pitfall for nonprofits with corporate sponsors—nonprofits can easily cross the line from recognition that is considered permitted use or acknowledgment into overenthusiastic promotion for the corporate sponsor. Advertising means any message that promotes or markets any trade or business, or any service, facility, or product, including messages containing:
- Qualitative or comparative descriptions of the sponsor's product (e.g., "Slumber Suites' hotel rooms are the most comfortable in the U.S.");
- Price information or other indications of savings or value (e.g., "Slumber Suites offers reasonably priced rooms from coast to coast");
- Endorsements (e.g., "Altruism for America Foundation recommends Slumber Suites—we've stayed with them for our annual conference for 5 years"); or
- Inducements to purchase, sell, or use any company service, facility, or product (e.g., "Stay at Slumber Suites for your next vacation").
The taxability of an advertising arrangement is evaluated under the 2% Rule. Unlike other return benefits—the value of which may be separated from the value of a use or acknowledgment—a single message that contains both advertising and an acknowledgment is considered wholly advertising. Note that the advertising rules apply only to advertising by the nonprofit, not by the corporation. The corporation is free to advertise its support of the nonprofit in any way it wishes (e.g., "Slumber Suites is proud to support Altruism for America Foundation's annual conference and proud to share with all the attendees why our hotels are the best value in the market").
Evaluating whether a particular payment satisfies the qualified sponsorship exemption to UBIT requires a fact-intensive review. These rules are complex and include a number of exceptions.2This article only provides a high-level overview of qualified sponsorship payments. Nonprofits should carefully analyze their specific activities related to sponsorship payments and understand, or avoid, any potential tax obligations.