[Federal Register Volume 67, Number 80 (Thursday, April 25, 2002)]
[Rules and Regulations]
[Pages 20433-20441]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 02-9930]
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Rules and Regulations
Federal Register
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Federal Register / Vol. 67, No. 80 / Thursday, April 25, 2002 / Rules
and Regulations
[[Page 20433]]
DEPARTMENT OF THE TREASURY
Internal Revenue Service
26 CFR Part 1
[TD 8991]
RIN 1545-BA68
Taxation of Tax-Exempt Organizations' Income From Corporate
Sponsorship
AGENCY: Internal Revenue Service (IRS), Treasury Department.
ACTION: Final regulations.
-----------------------------------------------------------------------
SUMMARY: This document contains final regulations relating to the tax
treatment of corporate sponsorship payments received by tax-exempt
organizations. The final regulations affect exempt organizations that
receive sponsorship payments.
DATES: Effective Date: These regulations are effective April 25, 2002.
Applicability Date: These regulations are applicable for payments
solicited or received after December 31, 1997.
FOR FURTHER INFORMATION CONTACT: Stephanie Lucas Caden or Barbara E.
Beckman of Office of Associate Chief Counsel (TE/GE), (202) 622-6080
(not a toll-free number).
SUPPLEMENTARY INFORMATION:
Background
Exempt organizations generally must pay tax on unrelated business
taxable income, as defined in section 512. Section 512(a)(1) defines
unrelated business taxable income (UBTI) as the gross income derived by
an organization from any unrelated trade or business (as defined in
section 513) regularly carried on by it, less the deductions that are
directly connected with the carrying on of the trade or business, both
computed with the modifications provided in section 512(b).
Section 513(a) defines unrelated trade or business as any trade or
business the conduct of which is not substantially related (aside from
the need of an organization for income or funds or the use it makes of
the profits derived) to the exercise or performance by the organization
of its charitable, educational, or other purpose or function
constituting the basis for its exemption under section 501. Section
513(c), captioned ``Advertising, etc., activities,'' provides that the
term trade or business includes any activity carried on for the
production of income from the sale of goods or the performance of
services, and that an activity does not lose identity as a trade or
business merely because it is carried on within a larger aggregate of
similar activities or within a larger complex of other endeavors which
may, or may not, be related to the exempt purposes of the organization.
See Sec. 1.513-1(b).
The IRS first published a notice of proposed rulemaking (EE-74-92)
(1993 proposed regulations) on January 22, 1993 (58 FR 5687), proposing
that the regulations under section 513 be amended to provide guidance
on the proper tax treatment of sponsorship payments received by an
exempt organization. The 1993 proposed regulations focused on the
nature of the services provided by the exempt organization rather than
the benefit received by the sponsor, and distinguished advertising,
which is an unrelated trade or business activity, from acknowledgments,
which are the mere recognition of a sponsor's payment and therefore do
not result in UBTI. In a so-called ``tainting rule,'' the 1993 proposed
regulations provided that if any activities, messages or programming
material constituted advertising with respect to a sponsorship payment,
then all related activities, messages, or programming material that
might otherwise be acknowledgments would be considered advertising. The
1993 proposed regulations also proposed to amend the regulations under
section 512(a) by adding examples of the allocation rule governing
exploitation of exempt activities in cases involving sponsorship
income.
The Taxpayer Relief Act of 1997, Public Law 105-34, section 965
(111 Stat. 788, 893-94), amended the Internal Revenue Code (Code) by
adding section 513(i). Section 513(i) governs the treatment of certain
sponsorship payments by providing that qualified sponsorship payments
are not subject to the unrelated business income tax (UBIT). Section
513(i) defines qualified sponsorship payments as payments made by a
person engaged in a trade or business with respect to which there is no
arrangement or expectation that such person will receive any
substantial return benefit other than the use or acknowledgment of the
name or logo (or product lines) of the person's trade or business in
connection with the exempt organization's activities. Section 513(i)
further provides that use or acknowledgment does not include
advertising (including messages containing qualitative or comparative
language, price information or other indications of savings or value,
or an endorsement or other inducement to purchase, sell, or use a
sponsor's products or services).
Section 513(i) specifically provides that, to the extent a portion
of a payment would (if made as a separate payment) be a qualified
sponsorship payment, that portion of such payment and the other portion
of such payment are treated as separate payments. Whether a separate
transaction that falls outside of the section 513(i) safe harbor is
subject to the UBIT depends on the application of existing rules under
sections 512, 513, and 514.
Section 513(i) applies to payments solicited or received after
December 31, 1997. Section 513(i) does not apply to qualified
convention and trade show activities (described in section
513(d)(3)(B)) or to the sale of an acknowledgment or advertising in
exempt organization periodicals. For this purpose, the term periodicals
means regularly scheduled and printed material published by or on
behalf of an exempt organization that is not related to and primarily
distributed in connection with a specific event conducted by the exempt
organization.
To reflect the differences between the 1993 proposed regulations
and section 513(i), and in response to comments submitted on the 1993
proposed regulations, new proposed regulations (REG-209601-92) (2000
proposed regulations) were issued on March 1, 2000 (65 FR 11012).
The 2000 proposed regulations amend the regulations under section
513, and provide that qualified sponsorship payments within the meaning
of section 513(i) are not UBTI. The 2000 proposed
[[Page 20434]]
regulations define the phrase ``substantial return benefit'' to mean
any benefit other than (1) a use or acknowledgment of the payor's name
or logo in connection with the exempt organization's activities, or (2)
certain goods or services that have an insubstantial value under
existing IRS guidelines. Generally, according to the 2000 proposed
regulations, benefits such as complimentary tickets, pro-am playing
spots, and receptions for donors have an insubstantial value only if
they have a fair market value of not more than 2% of the payment, or
$74 (adjusted for inflation for tax years beginning after calendar year
2000 pursuant to section 1(f)(3)), whichever is less. See Sec. 1.170A-
13(f)(8)(i)(A); Rev. Proc. 90-12 (1990-1 C.B. 471), as adjusted for
inflation (for calendar year 2002, the amount is $79, see Rev. Proc.
2001-59 (2001-52 I.R.B. 623) (December 26, 2001)).
The 2000 proposed regulations clarify that for an exempt
organization to avail itself of the section 513(i) safe harbor, it must
establish that some portion of the payment exceeds the fair market
value of any substantial return benefit received by a payor in return
for making the payment. In a sponsorship arrangement, the fair market
value of the substantial return benefit may equal the entire amount of
the sponsorship payment. The burden of establishing the fair market
value of any substantial return benefit falls on the exempt
organization. The 2000 proposed regulations state that the exempt
organization's determination of the fair market value of a substantial
return benefit provided to the payor will not be set aside for purposes
of applying the section 513(i) safe harbor so long as the organization
makes a reasonable and good faith valuation of the substantial return
benefit received by the payor.
The 2000 proposed regulations provide that the right to be the only
sponsor of an activity, or the only sponsor representing a particular
trade, business, or industry is generally not a substantial return
benefit. Any portion of the payment attributable to the exclusive
sponsorship arrangement, therefore, may be a qualified sponsorship
payment. However, if in return for a payment, the exempt organization
agrees that products or services that compete with the payor's products
or services will not be sold or provided in connection with one or more
activities of the exempt organization, the payor has received a
substantial return benefit and the portion of the payment attributable
to the exclusive provider arrangement is not a qualified sponsorship
payment. Consistent with the allocation rule described above, when a
payor receives both exclusive sponsorship and exclusive provider rights
in exchange for making a payment, the fair market value of the
exclusive provider arrangement and any other substantial return benefit
is determined first (i.e., without regard to the existence of the
exclusive sponsorship arrangement).
The 2000 proposed regulations clarify that qualified sponsorship
payments in the form of money or property (but not services) are
treated as contributions received by the exempt organization for
purposes of determining public support to the organization under
section 170(b)(1)(A)(vi) or section 509(a)(2). The exclusion of
contributed services for purposes of determining public support is
consistent with the general rule regarding donated services. See
Secs. 1.509(a)-3(f), 1.170A-9(e)(7)(i) and 1.170A-1(g).
A public hearing was held on June 21, 2000. After consideration of
all the comments, the proposed regulations under section 513(i) are
revised as follows. The major areas of the comments and revisions are
discussed below.
Explanation of Provisions and Discussion of Comments
Like the 2000 proposed regulations, the final regulations define
the phrase substantial return benefit to mean any benefit other than
(1) a use or acknowledgment of the payor's name or logo in connection
with the exempt organization's activities, or (2) certain goods or
services that have an insubstantial value. If a payor receives a
substantial return benefit in exchange for a payment, the section
513(i) safe harbor does not apply to the payment (or portion thereof)
attributable to the substantial return benefit. In that case, whether
the payment (or portion thereof) is subject to UBIT must be determined
under existing principles and rules. Thus, the payment may not be
subject to UBIT because the exempt organization's activity is not an
unrelated trade or business within the meaning of section 513(a) (for
example, because substantially all of the work in carrying on the trade
or business is performed by volunteers) or is not regularly carried on
within the meaning of section 512(a)(1), or because one of the section
512(b) modifications applies. See also Rev. Rul. 77-367 (1977-2 C.B.
193) (inurement) and Rev. Rul. 66-358 (1966-2 C.B. 218) (private
benefit).
Many comments were received regarding the disregarded benefits
standard contained in the 2000 proposed regulations. Commentators
generally believe that valuing insubstantial benefits places an undue
administrative burden on exempt organizations. Commentators also
believe that the disregarded benefits standard in the proposed
regulation is too low and significantly diminishes an exempt
organization's ability to appropriately thank its sponsors. While the
$79 ceiling (as adjusted for 2002) is an appropriate amount for exempt
organizations to thank individual donors, the Treasury Department and
IRS agree with the commentators that the $79 ceiling is too low with
respect to corporations or persons engaged in a trade or business. In
response to these concerns, the final regulations eliminate the $79
ceiling placed on the fair market value of benefits that may be
disregarded for purposes of section 513(i).
Several commentators suggest that in addition to eliminating the
$79 ceiling, the final regulations should increase the level of
disregarded benefits to 10% or 15% of the amount of the payment. The
Treasury Department and IRS believe 2% is an appropriate level for
several reasons. The 2% threshold is used in other areas of the Code
and regulations to describe insubstantial amounts. The 2000 proposed
regulations allow the full amount of qualified sponsorship payments
(except for payments in the form of services) to be treated as
contributions for purposes of the public support test under sections
170(b)(1)(A)(vi) and 509(a)(2), without reduction for the amount of
disregarded benefits. The 2% ceiling keeps the level of disregarded
benefits low enough so that the entire amount of a qualified
sponsorship payment may be treated as a contribution for public support
purposes. Accordingly, the final regulations disregard benefits having
a fair market value of not more than 2% of the payment.
Many commentators to the 2000 proposed regulations object to a
requirement that exempt organizations must value benefits provided to
payors where the payment does not affect the organization's tax
liability, e.g., where the payment attributable to the benefit
constitutes income from a trade or business that is substantially
related to the organization's exempt purposes. The Treasury Department
and IRS note that organizations described in section 170(c) (other than
section 170(c)(1)) are required to account for benefits provided to
donors under section 6115. See Publication 1771, ``Charitable
Contributions---Substantiation and Disclosure Requirements.'' Pursuant
to section 6115, a section 170(c) organization that receives a quid pro
[[Page 20435]]
quo contribution in excess of $75 is required to inform the donor that
the amount of the contribution that is deductible for federal income
tax purposes is limited to the amount by which the payment exceeds the
value of goods or services (except as provided in Sec. 1.170A-
13(f)(8)(i)) furnished by the charity, and is required to provide a
good faith estimate of the value of those goods or services. Therefore,
for exempt organizations eligible to receive tax deductible
contributions, there is no additional tax administrative burden imposed
by the disregarded benefits provision of either the 2000 proposed
regulations or the final regulations.
The final regulations provide that in determining whether the 2%
threshold has been exceeded in any year, all return benefits (other
than use or acknowledgment) must be considered. For example, if in
exchange for a payment the exempt organization provides both a license
and advertising the combined fair market value of which does not exceed
2% of the total payment, the entire payment (even the portion
attributable to the advertising) may be treated as a qualified
sponsorship payment, and the entire amount (except any payment in the
form of services) constitutes public support under section 509.
Alternatively, if the combined fair market value exceeds 2% of the
total payment, the value of both the license and advertising is not
disregarded and constitutes a substantial return benefit. In that case,
the portions of the payment attributable to the license and advertising
each must be analyzed separately under sections 512, 513, and 514. Only
the portion of the payment, if any, that exceeds the fair market value
of the substantial return benefit constitutes a qualified sponsorship
payment.
Consistent with the 2000 proposed regulations, the final
regulations provide that the right to be the only sponsor of an
activity, or the only sponsor representing a particular trade, business
or industry is generally not a substantial return benefit. The portion
of any payment attributable to the exclusive sponsorship arrangement,
therefore, may be a qualified sponsorship payment. However, if in
return for a payment, the exempt organization agrees that products or
services that compete with the payor's products or services will not be
sold or provided in connection with one or more activities of the
exempt organization, the payor has received a substantial return
benefit and the portion of the payment attributable to the exclusive
provider arrangement is not a qualified sponsorship payment.
Some commentators express concern that the definition of exclusive
provider arrangements contained in the 2000 proposed regulations may
include vendor contracts negotiated as part of a competitive bidding
process required by state law. Both the 2000 proposed regulations and
the final regulations provide that unless the exempt organization
agrees to limit distribution of competing products in connection with
the payment, the exempt organization has not entered into an exclusive
provider arrangement. For example, when the nature of the goods or
services to be provided necessitates the use of only one provider
because of limited space or because the competitive bidding process
requires only the lowest bid be accepted, the exempt organization has
not entered into an exclusive provider arrangement unless it agrees to
limit distribution of competing products.
In particular, these commentators express concern about the tax-
treatment of discounts and rebates negotiated with vendors as part of
the competitive bidding process. Generally, discounts (and rebates) are
considered an adjustment to the purchase price and do not constitute
gross income to the purchaser. See Rev. Rul. 84-41 (1984-1 C.B. 130);
Rev. Rul. 76-96 (1976-1 C.B. 23). For example, when a university
negotiates discounted rates for the soft drinks it purchases for its
cafeterias, snack bars, and concessions, the amount of the discount is
not includible in UBTI.
Many commentators suggest that the exclusive provider provisions in
the 2000 proposed regulations create an implication that exclusive
provider arrangements are automatically subject to UBIT because they
fall outside the scope of section 513(i). This assumption is incorrect;
although the income from some exclusive provider arrangements may be
includible in UBTI, not all contracts will meet the criteria for
inclusion in UBTI pursuant to sections 511, 512, and 513. For example,
a university that enters into a multi-year contract with a soft drink
company to be the exclusive provider of soft drinks on campus in return
for an annual payment is not necessarily subject to UBIT on that
payment. If the company agrees to provide, stock and maintain on-campus
vending machines as needed, leaving little or no obligation on the
university's part to perform any services or conduct activities in
connection with the enterprise, then based on this contract alone the
university may not have the requisite level of activity to constitute a
trade or business under section 513(a). This example assumes no agency
relationship exists between the company and the university. In
determining the level of activity, however, any promotional or
marketing efforts by the university pursuant to the contract should be
considered. If the contract grants the company a license to market its
products using the university's name and logo, the portion of the total
payment attributable to the value of the license may be excludable as a
royalty under section 512(b)(2). In some cases, payments in connection
with the grant of an exclusive concession, such as for the operation of
a campus bookstore or cafeteria, may be treated as rental income under
section 512(b)(3).
When an exempt organization agrees to perform substantial services
in connection with the exclusive provider arrangement, income received
by the organization may be includible in UBTI. For example, assume that
a university enters into a multi-year contract with a sports drink
company under which the company will be the exclusive provider of
sports drinks for the university's athletic department and concessions.
As part of the contract, if the university agrees to perform various
services for the company, such as guaranteeing that coaches make
promotional appearances on behalf of the company (e.g., attending photo
shoots, filmed commercials, and retail store appearances), assisting
the company in developing marketing plans, and participating in joint
promotional opportunities, then the university's activities are likely
to constitute a regularly carried on trade or business. These
activities are unlikely to be substantially related to the university's
exempt purposes. Furthermore, the income received by the university for
those services is not excludable as a royalty under section 512(b)(2).
See Rev. Rul. 81-178 (1981-2 C.B. 135), situation 2.
The 2000 proposed regulations solicited comments on the application
of the rules governing periodicals and trade shows to an exempt
organization's Internet sites, and whether providing a link to a
sponsor's Internet site is advertising within the meaning of section
513(i). The comments received generally suggest that a link to a
corporate sponsor's Internet site as part of a sponsorship arrangement
is not a message, but a convenient feature of the Internet that can
only be activated by the viewer, and thus constitutes a permissible
form of acknowledgment. With regard to periodicals, most commentators
expressed the view that
[[Page 20436]]
the term ``periodical'', for purposes of the section 513(i) exclusion,
includes material published electronically. Some commentators suggest
that an exempt organization's Internet site should not be treated as a
periodical simply because it has text that changes from time to time.
Other commentators suggest criteria for analyzing whether an Internet
site is a periodical.
Only a few comments were received on the application of the trade
show exclusion in section 513(i) to an exempt organization's Internet
site. These comments generally suggest that trade shows conducted over
the Internet be treated the same as trade shows conducted in person.
That is, payments made in connection with Internet-based trade shows
would not be exempt from UBIT as qualified sponsorship payments, but
would be exempt from UBIT as income generated by qualified convention
and trade show activity.
Many options for addressing the Internet in the final regulations
were considered. The final regulations take the approach that, where
possible, answers are provided. However, the Treasury Department and
IRS note that the analysis of particular Internet issues, such as the
use of hyperlinks, may be different for purposes of section 513(i) than
other sections of the Code. The Treasury Department and IRS also
conclude that some Internet issues addressed in comments are beyond the
scope of section 513(i).
For purposes of section 513(i), the issue of whether a hyperlink
constitutes an acknowledgment or advertising is addressed in the final
regulations with two new examples. In the first new example, the exempt
organization posts a list of its sponsors on its Web site, including
the sponsor's Internet address, which appears as a hyperlink from the
exempt organization's Web site to the sponsor's Web site. The example
concludes that posting the sponsor's Web site address constitutes an
acknowledgment, even though it appears as a hyperlink. In the second
new example, a charity maintains a Web site that contains a hyperlink
to a sponsor's Web site where an endorsement by the charity for the
sponsor's product appears. The charity approved the endorsement before
it was posted on the sponsor's Web site. The example concludes that the
endorsement is advertising. These two examples address hyperlinks for
purposes of section 513(i) only, and do not suggest how hyperlinks are
treated under other sections of the Code.
With respect to periodicals, section 513(i) mentions periodicals
only in the sense that the safe harbor does not apply to any payment
which entitles the payor to the use or acknowledgment of the name or
logo (or product lines) of the payor's trade or business in exempt
organization periodicals. Such payments are analyzed instead under the
existing UBIT rules. Section Sec. 1.512(a)-1(f) provides special rules
for determining the amount of UBTI attributable to the sale of
advertising in exempt organization periodicals. After considering the
comments, the Treasury Department and IRS conclude that the regulations
under section 512 are the more appropriate place for an analysis of
issues relating to electronic periodicals. Nevertheless, the Treasury
Department and IRS clarify that periodicals may include some forms of
electronic publication. The final regulations state that the term
periodical means regularly scheduled and printed material published by
or on behalf of the exempt organization that is not related to and
primarily distributed in connection with a specific event conducted by
the exempt organization, and for this purpose, printed material
includes material that is published electronically.
As noted above, relatively few comments were received on the trade
show exclusion. Because of the small sampling of comments received, and
because trade show rules impact many different industries and typically
involve large sums of money, the final regulations do not change the
rules on what constitutes a qualified convention and trade show
activity. Existing guidance on trade shows is found in section 513(d)
and Sec. 1.513-3, and any reference to trade shows in the final
regulations under section 513(i) is intended to be consistent with
these rules.
Many commentators wrote regarding the valuation of substantial
return benefits, and suggest that the 2000 proposed regulations do not
offer enough guidance on how to make a reasonable and good faith
valuation of a substantial return benefit. Commentators also assert
that the valuation provisions do not further administrative convenience
and simplicity. The fair market value of any substantial return benefit
provided as part of a sponsorship arrangement is the price at which the
benefit would be provided between a willing recipient and a willing
provider of the benefit, neither being under any compulsion to enter
into the arrangement and both having reasonable knowledge of relevant
facts, and without regard to any other aspect of the sponsorship
arrangement. While the Treasury Department and IRS appreciate the
difficulty an exempt organization has in valuing substantial return
benefits, the final regulations retain the valuation standard contained
in the 2000 proposed regulations. Several commentators suggest
incorporating safe harbors into the final regulations to determine the
value of a substantial return benefit. For example, one commentator
suggests that a safe harbor be added to provide that an exempt
organization's valuation would not be challenged if it were determined
based on the face amount of the tickets, cost of the dinner, or any
reasonably comparable measure. Another commentator suggests that the
fair market value be based on data provided by the payor, or as agreed
by the parties. Another commentator favors predicting values of yearly
benefits based on actual benefits provided over a three-year period.
After considering these comments, the Treasury Department and IRS
conclude that the safe harbors suggested by the commentators either are
inconsistent with the general rule, do not provide any additional
guidance, or are prone to abuse. For this reason, no safe harbors were
added to the final regulations with respect to valuation.
Clarification is provided, however, with respect to the valuation
date. The 2000 proposed regulations provide that in allocating a
sponsorship payment, the fair market value of the substantial return
benefit is to be determined on the date the parties enter into the
sponsorship arrangement. The final regulations take the same approach
for binding, written sponsorship contracts. This rule, which is
illustrated by two new examples, provides exempt organizations the
advantage of only having to value substantial return benefits once,
even if the value of the substantial return benefit increases over the
term of the contract. If the parties make a material change to a
sponsorship contract, it is treated as a new contract as of the date
the material change is effective. A material change is defined as an
extension or renewal of the contract, or a more than incidental change
to any amount payable (or other consideration) under the contract. If
there is no binding, written contract, the fair market value of the
substantial return benefit is determined when the benefit is provided.
The reason for distinguishing between written and oral agreements in
the final regulations is to allow smaller exempt organizations to
arrange sponsorship informally on a year-to-year basis and value those
benefits each year as they occur.
Few comments were received on the Sec. 1.512(a)-1(e) example
relating to expense allocation. Of the comments
[[Page 20437]]
received, most state that the 1993 proposed regulations did not
interpret the exploitation exception too broadly, and request that the
prior examples be reinstated. The commentators also suggest that the
new example is factually unrealistic. Despite these comments, the final
regulations do not change the Sec. 1.512(a)-1(e) example. The comments
received generally do not contain substantive suggestions for change,
and the Treasury Department and IRS believe that the current example in
the final regulations correctly amplifies the technical provisions of
the regulation, which is very limited in scope.
Special Analyses
It has been determined that this decision is not a significant
regulatory action as defined in Executive Order 12866. Therefore, a
regulatory assessment is not required. It also has been determined that
section 553(b) of the Administrative Procedure Act (5 U.S.C. chapter 5)
does not apply to these regulations, and because the final rule does
not impose a collection of information on small entities, the
Regulatory Flexibility Act (5 U.S.C. chapter 6) does not apply.
Therefore, a Regulatory Flexibility Analysis is not required. Pursuant
to section 7805(f) of the Code, these regulations were previously
submitted to the Chief Counsel for Advocacy of the Small Business
Administration for comment on their impact on small business.
Drafting Information
The principal author of these regulations is Stephanie Lucas Caden,
Office of Division Counsel/Associate Chief Counsel (Tax Exempt/
Government Entities), Internal Revenue Service. However, personnel from
other offices of the Service and the Treasury Department participated
in their development.
List of Subjects in 26 CFR Part 1
Income taxes, Reporting and recordkeeping requirements.
Adoption of Amendments to the Regulations
Accordingly, 26 CFR part 1 is amended as follows:
PART 1--INCOME TAXES
Paragraph 1. The authority citation for part 1 continues to read in
part as follows:
Authority: 26 U.S.C. 7805 * * *
Par. 2. In Sec. 1.170A-9, a sentence is added to the end of
paragraph (e)(6)(i) to read as follows:
Sec. 1.170A-9 Definition of section 170(b)(1)(A) organization.
* * * * *
(e) * * *
(6) * * * (i) * * * For purposes of this paragraph (e), the term
contributions includes qualified sponsorship payments (as defined in
Sec. 1.513-4) in the form of money or property (but not services).
* * * * *
Par. 3. Section 1.509(a)-3 is amended by:
1. Adding a sentence to the end of paragraph (f)(1).
2. Revising the paragraph heading and introductory text for
paragraph (f)(3).
3. Redesignating the current Example in paragraph (f)(3) as Example
1 and revising the heading.
4. Adding Example 2 and Example 3 to paragraph (f)(3).
The revisions and additions read as follows:
Sec. 1.509(a)-3 Broadly, publicly supported organizations.
* * * * *
(f) * * *
(1) * * * For purposes of section 509(a)(2), the term contributions
includes qualified sponsorship payments (as defined in Sec. 1.513-4) in
the form of money or property (but not services).
* * * * *
(3) Examples. The provisions of this paragraph (f) may be
illustrated by the following examples:
Example 1. * * *
Example 2. Q, a performing arts center, enters into a contract
with a large company to be the exclusive sponsor of the center's
theatrical events. The company makes a payment of cash and products
in the amount of $100,000 to Q, and in return, Q agrees to make a
broadcast announcement thanking the company before each show and to
provide $2,000 of advertising in the show's program (2% of $100,000
is $2,000). The announcement constitutes use or acknowledgment
pursuant to section 513(i)(2). Because the value of the advertising
does not exceed 2% of the total payment, the entire $100,000 is a
qualified sponsorship payment under section 513(i), and $100,000 is
treated as a contribution for purposes of section 509(a)(2)(A)(i).
Example 3. R, a charity, enters into a contract with a law firm
to be the exclusive sponsor of the charity's outreach program.
Instead of making a cash payment, the law firm agrees to perform
$100,000 of legal services for the charity. In return, R agrees to
acknowledge the law firm in all its informational materials. The
total fair market value of the legal services, or $100,000, is a
qualified sponsorship payment under section 513(i), but no amount is
treated as a contribution under section 509(a)(2)(A)(i) because the
contribution is of services.
* * * * *
Par. 4. Section 1.512(a)-1 is amended by:
1. Revising the paragraph heading and introductory text for
paragraph (e).
2. Redesignating the current Example in paragraph (e) as Example 1
and revising the heading.
3. Adding Example 2 to paragraph (e).
The revisions and additions read as follows:
Sec. 1.512(a)-1 Definition.
* * * * *
(e) Examples. This section is illustrated by the following
examples:
Example 1. * * *
Example 2. (i) P, a manufacturer of photographic equipment,
underwrites a photography exhibition organized by M, an art museum
described in section 501(c)(3). In return for a payment of $100,000,
M agrees that the exhibition catalog sold by M in connection with
the exhibit will advertise P's product. The exhibition catalog will
also include educational material, such as copies of photographs
included in the exhibition, interviews with photographers, and an
essay by the curator of M's department of photography. For purposes
of this example, assume that none of the $100,000 is a qualified
sponsorship payment within the meaning of section 513(i) and
Sec. 1.513-4, that M's advertising activity is regularly carried on,
and that the entire amount of the payment is unrelated business
taxable income to M. Expenses directly connected with generating the
unrelated business taxable income (i.e., direct advertising costs)
total $25,000. Expenses directly connected with the preparation and
publication of the exhibition catalog (other than direct advertising
costs) total $110,000. M receives $60,000 of gross revenue from
sales of the exhibition catalog. Expenses directly connected with
the conduct of the exhibition total $500,000.
(ii) The computation of unrelated business taxable income is as
follows:
(A) Unrelated trade or business (sale of
advertising):
Income....................................... $100,000 .........
Directly-connected expenses.................. (25,000) .........
----------------------
Subtotal................................... 75,000 $75,000
======================
(B) Exempt function (publication of exhibition
catalog):
Income (from catalog sales).................. 60,000 .........
Directly-connected expenses.................. (110,000) .........
----------------------
Net exempt function income (loss).......... (50,000) (50,000)
======================
Unrelated business taxable income.......... .......... 25,000
(iii) Expenses related to publication of the exhibition catalog
exceed revenues by $50,000. Because the unrelated business activity
(the sale of advertising) exploits an exempt activity (the
publication of the exhibition catalog), and because the
[[Page 20438]]
publication of editorial material is an activity normally conducted
by taxable entities that sell advertising, the net loss from the
exempt publication activity is allowed as a deduction from unrelated
business income under paragraph (d)(2) of this section. In contrast,
the presentation of an exhibition is not an activity normally
conducted by taxable entities engaged in advertising and publication
activity for purposes of paragraph (d)(2) of this section.
Consequently, the $500,000 cost of presenting the exhibition is not
directly connected with the conduct of the unrelated advertising
activity and does not have a proximate and primary relationship to
that activity. Accordingly, M has unrelated business taxable income
of $25,000.
* * * * *
Par. 5. Section 1.513-4 is added to read as follows:
Sec. 1.513-4 Certain sponsorship not unrelated trade or business.
(a) In general. Under section 513(i), the receipt of qualified
sponsorship payments by an exempt organization which is subject to the
tax imposed by section 511 does not constitute receipt of income from
an unrelated trade or business.
(b) Exception. The provisions of this section do not apply with
respect to payments made in connection with qualified convention and
trade show activities. For rules governing qualified convention and
trade show activity, see Sec. 1.513-3. The provisions of this section
also do not apply to income derived from the sale of advertising or
acknowledgments in exempt organization periodicals. For this purpose,
the term periodical means regularly scheduled and printed material
published by or on behalf of the exempt organization that is not
related to and primarily distributed in connection with a specific
event conducted by the exempt organization. For this purpose, printed
material includes material that is published electronically. For rules
governing the sale of advertising in exempt organization periodicals,
see Sec. 1.512(a)-1(f).
(c) Qualified sponsorship payment--(1) Definition. The term
qualified sponsorship payment means any payment by any person engaged
in a trade or business with respect to which there is no arrangement or
expectation that the person will receive any substantial return
benefit. In determining whether a payment is a qualified sponsorship
payment, it is irrelevant whether the sponsored activity is related or
unrelated to the recipient organization's exempt purpose. It is also
irrelevant whether the sponsored activity is temporary or permanent.
For purposes of this section, payment means the payment of money,
transfer of property, or performance of services.
(2) Substantial return benefit--(i) In general. For purposes of
this section, a substantial return benefit means any benefit other than
a use or acknowledgment described in paragraph (c)(2)(iv) of this
section, or disregarded benefits described in paragraph (c)(2)(ii) of
this section.
(ii) Certain benefits disregarded. For purposes of paragraph
(c)(2)(i) of this section, benefits are disregarded if the aggregate
fair market value of all the benefits provided to the payor or persons
designated by the payor in connection with the payment during the
organization's taxable year is not more than 2% of the amount of the
payment. If the aggregate fair market value of the benefits exceeds 2%
of the amount of the payment, then (except as provided in paragraph
(c)(2)(iv) of this section) the entire fair market value of such
benefits, not merely the excess amount, is a substantial return
benefit. Fair market value is determined as provided in paragraph
(d)(1) of this section.
(iii) Benefits defined. For purposes of this section, benefits
provided to the payor or persons designated by the payor may include:
(A) Advertising as defined in paragraph (c)(2)(v) of this section.
(B) Exclusive provider arrangements as defined in paragraph
(c)(2)(vi)(B) of this section.
(C) Goods, facilities, services or other privileges.
(D) Exclusive or nonexclusive rights to use an intangible asset
(e.g., trademark, patent, logo, or designation) of the exempt
organization.
(iv) Use or acknowledgment. For purposes of this section, a
substantial return benefit does not include the use or acknowledgment
of the name or logo (or product lines) of the payor's trade or business
in connection with the activities of the exempt organization. Use or
acknowledgment does not include advertising as described in paragraph
(c)(2)(v) of this section, but may include the following: exclusive
sponsorship arrangements; logos and slogans that do not contain
qualitative or comparative descriptions of the payor's products,
services, facilities or company; a list of the payor's locations,
telephone numbers, or Internet address; value-neutral descriptions,
including displays or visual depictions, of the payor's product-line or
services; and the payor's brand or trade names and product or service
listings. Logos or slogans that are an established part of a payor's
identity are not considered to contain qualitative or comparative
descriptions. Mere display or distribution, whether for free or
remuneration, of a payor's product by the payor or the exempt
organization to the general public at the sponsored activity is not
considered an inducement to purchase, sell or use the payor's product
for purposes of this section and, thus, will not affect the
determination of whether a payment is a qualified sponsorship payment.
(v) Advertising. For purposes of this section, the term advertising
means any message or other programming material which is broadcast or
otherwise transmitted, published, displayed or distributed, and which
promotes or markets any trade or business, or any service, facility or
product. Advertising includes messages containing qualitative or
comparative language, price information or other indications of savings
or value, an endorsement, or an inducement to purchase, sell, or use
any company, service, facility or product. A single message that
contains both advertising and an acknowledgment is advertising. This
section does not apply to activities conducted by a payor on its own.
For example, if a payor purchases broadcast time from a television
station to advertise its product during commercial breaks in a
sponsored program, the exempt organization's activities are not thereby
converted to advertising.
(vi) Exclusivity arrangements--(A) Exclusive sponsor. An
arrangement that acknowledges the payor as the exclusive sponsor of an
exempt organization's activity, or the exclusive sponsor representing a
particular trade, business or industry, generally does not, by itself,
result in a substantial return benefit. For example, if in exchange for
a payment, an organization announces that its event is sponsored
exclusively by the payor (and does not provide any advertising or other
substantial return benefit to the payor), the payor has not received a
substantial return benefit.
(B) Exclusive provider. An arrangement that limits the sale,
distribution, availability, or use of competing products, services, or
facilities in connection with an exempt organization's activity
generally results in a substantial return benefit. For example, if in
exchange for a payment, the exempt organization agrees to allow only
the payor's products to be sold in connection with an activity, the
payor has received a substantial return benefit.
(d) Allocation of payment--(1) In general. If there is an
arrangement or expectation that the payor will receive a substantial
return benefit with respect to any payment, then only the portion,
[[Page 20439]]
if any, of the payment that exceeds the fair market value of the
substantial return benefit is a qualified sponsorship payment. However,
if the exempt organization does not establish that the payment exceeds
the fair market value of any substantial return benefit, then no
portion of the payment constitutes a qualified sponsorship payment.
(i) Treatment of payments other than qualified sponsorship
payments. The unrelated business income tax (UBIT) treatment of any
payment (or portion thereof) that is not a qualified sponsorship
payment is determined by application of sections 512, 513 and 514. For
example, payments related to an exempt organization's providing
facilities, services, or other privileges to the payor or persons
designated by the payor, advertising, exclusive provider arrangements
described in paragraph (c)(2)(vi)(B) of this section, a license to use
intangible assets of the exempt organization, or other substantial
return benefits, are evaluated separately in determining whether the
exempt organization realizes unrelated business taxable income.
(ii) Fair market value. The fair market value of any substantial
return benefit provided as part of a sponsorship arrangement is the
price at which the benefit would be provided between a willing
recipient and a willing provider of the benefit, neither being under
any compulsion to enter into the arrangement and both having reasonable
knowledge of relevant facts, and without regard to any other aspect of
the sponsorship arrangement.
(iii) Valuation date. In general, the fair market value of the
substantial return benefit is determined when the benefit is provided.
However, if the parties enter into a binding, written sponsorship
contract, the fair market value of any substantial return benefit
provided pursuant to that contract is determined on the date the
parties enter into the sponsorship contract. If the parties make a
material change to a sponsorship contract, it is treated as a new
sponsorship contract as of the date the material change is effective. A
material change includes an extension or renewal of the contract, or a
more than incidental change to any amount payable (or other
consideration) pursuant to the contract.
(iv) Examples. The following examples illustrate the provisions of
this section:
Example 1. On June 30, 2001, a national corporation and Z, a
charitable organization, enter into a five-year binding, written
contract effective for years 2002 through 2007. The contract
provides that the corporation will make an annual payment of $5,000
to Z, and in return the corporation will receive no benefit other
than advertising. On June 30, 2001, the fair market value of the
advertising to be provided to the corporation in each year of the
agreement is $75, which is less than the disregarded benefit amount
provided for in paragraph (c)(2)(ii) of this section (2% of $5,000
is $100). In 2002, pursuant to the sponsorship contract, the
corporation makes a payment to Z of $5,000, and receives the
specified benefit (advertising). As of January 1, 2002, the fair
market value of the advertising to be provided by Z each year has
increased to $110. However, for purposes of this section, the fair
market value of the advertising benefit is determined on June 30,
2001, the date the parties entered into the sponsorship contract.
Therefore, the entire $5,000 payment received in 2002 is a qualified
sponsorship payment.
Example 2. The facts are the same as Example 1, except that the
contract provides for an initial payment by the corporation to Z of
$5,000 in 2002, followed by annual payments of $1,000 during each of
years 2003-2007. In 2003, pursuant to the sponsorship contract, the
corporation makes a payment to Z of $1,000, and receives the
specified advertising benefit. In 2003, the fair market value of the
benefit provided ($75, as determined on June 30, 2001) exceeds 2% of
the total payment received (2% of $1,000 is $20). Therefore, only
$925 of the $1,000 payment received in 2003 is a qualified
sponsorship payment.
(2) Anti-abuse provision. To the extent necessary to prevent
avoidance of the rule stated in paragraphs (d)(1) and (c)(2) of this
section, where the exempt organization fails to make a reasonable and
good faith valuation of any substantial return benefit, the
Commissioner (or the Commissioner's delegate) may determine the portion
of a payment allocable to such substantial return benefit and may treat
two or more related payments as a single payment.
(e) Special rules--(1) Written agreements. The existence of a
written sponsorship agreement does not, in itself, cause a payment to
fail to be a qualified sponsorship payment. The terms of the agreement,
not its existence or degree of detail, are relevant to the
determination of whether a payment is a qualified sponsorship payment.
Similarly, the terms of the agreement and not the title or
responsibilities of the individuals negotiating the agreement determine
whether a payment (or any portion thereof) made pursuant to the
agreement is a qualified sponsorship payment.
(2) Contingent payments. The term qualified sponsorship payment
does not include any payment the amount of which is contingent, by
contract or otherwise, upon the level of attendance at one or more
events, broadcast ratings, or other factors indicating the degree of
public exposure to the sponsored activity. The fact that a payment is
contingent upon sponsored events or activities actually being conducted
does not, by itself, cause the payment to fail to be a qualified
sponsorship payment.
(3) Determining public support. Qualified sponsorship payments in
the form of money or property (but not services) are treated as
contributions received by the exempt organization for purposes of
determining public support to the organization under section
170(b)(1)(A)(vi) or 509(a)(2). See Secs. 1.509(a)-3(f)(1) and 1.170A-
9(e)(6)(i). The fact that a payment is a qualified sponsorship payment
that is treated as a contribution to the payee organization does not
determine whether the payment is deductible by the payor under section
162 or 170.
(f) Examples. The provisions of this section are illustrated by the
following examples. The tax treatment of any payment (or portion of a
payment) that does not constitute a qualified sponsorship payment is
governed by general UBIT principles. In these examples, the recipients
of the payments at issue are section 501(c) organizations. The
expectations or arrangements of the parties are those specifically
indicated in the example. The examples are as follows:
Example 1. M, a local charity, organizes a marathon and
walkathon at which it serves to participants drinks and other
refreshments provided free of charge by a national corporation. The
corporation also gives M prizes to be awarded to winners of the
event. M recognizes the assistance of the corporation by listing the
corporation's name in promotional fliers, in newspaper
advertisements of the event and on T-shirts worn by participants. M
changes the name of its event to include the name of the
corporation. M's activities constitute acknowledgment of the
sponsorship. The drinks, refreshments and prizes provided by the
corporation are a qualified sponsorship payment, which is not income
from an unrelated trade or business.
Example 2. N, an art museum, organizes an exhibition and
receives a large payment from a corporation to help fund the
exhibition. N recognizes the corporation's support by using the
corporate name and established logo in materials publicizing the
exhibition, which include banners, posters, brochures and public
service announcements. N also hosts a dinner for the corporation's
executives. The fair market value of the dinner exceeds 2% of the
total payment. N's use of the corporate name and logo in connection
with the exhibition constitutes acknowledgment of the sponsorship.
However, because the fair market value of the dinner exceeds 2% of
the total payment, the dinner is a substantial return benefit. Only
that portion of the payment, if any, that N can demonstrate exceeds
the fair market value of the dinner is a qualified sponsorship
payment.
Example 3. O coordinates sports tournaments for local charities.
An auto
[[Page 20440]]
manufacturer agrees to underwrite the expenses of the tournaments. O
recognizes the auto manufacturer by including the manufacturer's
name and established logo in the title of each tournament as well as
on signs, scoreboards and other printed material. The auto
manufacturer receives complimentary admission passes and pro-am
playing spots for each tournament that have a combined fair market
value in excess of 2% of the total payment. Additionally, O displays
the latest models of the manufacturer's premier luxury cars at each
tournament. O's use of the manufacturer's name and logo and display
of cars in the tournament area constitute acknowledgment of the
sponsorship. However, the admission passes and pro-am playing spots
are a substantial return benefit. Only that portion of the payment,
if any, that O can demonstrate exceeds the fair market value of the
admission passes and pro-am playing spots is a qualified sponsorship
payment.
Example 4. P conducts an annual college football bowl game. P
sells to commercial broadcasters the right to broadcast the bowl
game on television and radio. A major corporation agrees to be the
exclusive sponsor of the bowl game. The detailed contract between P
and the corporation provides that in exchange for a $1,000,000
payment, the name of the bowl game will include the name of the
corporation. In addition, the contract provides that the
corporation's name and established logo will appear on player's
helmets and uniforms, on the scoreboard and stadium signs, on the
playing field, on cups used to serve drinks at the game, and on all
related printed material distributed in connection with the game. P
also agrees to give the corporation a block of game passes for its
employees and to provide advertising in the bowl game program book.
The fair market value of the passes is $6,000, and the fair market
value of the program advertising is $10,000. The agreement is
contingent upon the game being broadcast on television and radio,
but the amount of the payment is not contingent upon the number of
people attending the game or the television ratings. The contract
provides that television cameras will focus on the corporation's
name and logo on the field at certain intervals during the game. P's
use of the corporation's name and logo in connection with the bowl
game constitutes acknowledgment of the sponsorship. The exclusive
sponsorship arrangement is not a substantial return benefit. Because
the fair market value of the game passes and program advertising
($16,000) does not exceed 2% of the total payment (2% of $1,000,000
is $20,000), these benefits are disregarded and the entire payment
is a qualified sponsorship payment, which is not income from an
unrelated trade or business.
Example 5. Q organizes an amateur sports team. A major pizza
chain gives uniforms to players on Q's team, and also pays some of
the team's operational expenses. The uniforms bear the name and
established logo of the pizza chain. During the final tournament
series, Q distributes free of charge souvenir flags bearing Q's name
to employees of the pizza chain who come out to support the team.
The flags are valued at less than 2% of the combined fair market
value of the uniforms and operational expenses paid. Q's use of the
name and logo of the pizza chain in connection with the tournament
constitutes acknowledgment of the sponsorship. Because the fair
market value of the flags does not exceed 2% of the total payment,
the entire amount of the funding and supplied uniforms are a
qualified sponsorship payment, which is not income from an unrelated
trade or business.
Example 6. R is a liberal arts college. A soft drink
manufacturer enters into a binding, written contract with R that
provides for a large payment to be made to the college's English
department in exchange for R agreeing to name a writing competition
after the soft drink manufacturer. The contract also provides that R
will allow the soft drink manufacturer to be the exclusive provider
of all soft drink sales on campus. The fair market value of the
exclusive provider component of the contract exceeds 2% of the total
payment. R's use of the manufacturer's name in the writing
competition constitutes acknowledgment of the sponsorship. However,
the exclusive provider arrangement is a substantial return benefit.
Only that portion of the payment, if any, that R can demonstrate
exceeds the fair market value of the exclusive provider arrangement
is a qualified sponsorship payment.
Example 7. S is a noncommercial broadcast station that airs a
program funded by a local music store. In exchange for the funding,
S broadcasts the following message: ``This program has been brought
to you by the Music Shop, located at 123 Main Street. For your music
needs, give them a call today at 555-1234. This station is proud to
have the Music Shop as a sponsor.'' Because this single broadcast
message contains both advertising and an acknowledgment, the entire
message is advertising. The fair market value of the advertising
exceeds 2% of the total payment. Thus, the advertising is a
substantial return benefit. Unless S establishes that the amount of
the payment exceeds the fair market value of the advertising, none
of the payment is a qualified sponsorship payment.
Example 8. T, a symphony orchestra, performs a series of
concerts. A program guide that contains notes on guest conductors
and other information concerning the evening's program is
distributed by T at each concert. The Music Shop makes a $1,000
payment to T in support of the concert series. As a supporter of the
event, the Music Shop receives complimentary concert tickets with a
fair market value of $85, and is recognized in the program guide and
on a poster in the lobby of the concert hall. The lobby poster
states that, ``The T concert is sponsored by the Music Shop, located
at 123 Main Street, telephone number 555-1234.'' The program guide
contains the same information and also states, ``Visit the Music
Shop today for the finest selection of music CDs and cassette
tapes.'' The fair market value of the advertisement in the program
guide is $15. T's use of the Music Shop's name, address and
telephone number in the lobby poster constitutes acknowledgment of
the sponsorship. However, the combined fair market value of the
advertisement in the program guide and complimentary tickets is $100
($15 + $85), which exceeds 2% of the total payment (2% of $1,000 is
$20). The fair market value of the advertising and complimentary
tickets, therefore, constitutes a substantial return benefit and
only that portion of the payment, or $900, that exceeds the fair
market value of the substantial return benefit is a qualified
sponsorship payment.
Example 9. U, a national charity dedicated to promoting health,
organizes a campaign to inform the public about potential cures to
fight a serious disease. As part of the campaign, U sends
representatives to community health fairs around the country to
answer questions about the disease and inform the public about
recent developments in the search for a cure. A pharmaceutical
company makes a payment to U to fund U's booth at a health fair. U
places a sign in the booth displaying the pharmaceutical company's
name and slogan, ``Better Research, Better Health,'' which is an
established part of the company's identity. In addition, U grants
the pharmaceutical company a license to use U's logo in marketing
its products to health care providers around the country. The fair
market value of the license exceeds 2% of the total payment received
from the company. U's display of the pharmaceutical company's name
and slogan constitutes acknowledgment of the sponsorship. However,
the license granted to the pharmaceutical company to use U's logo is
a substantial return benefit. Only that portion of the payment, if
any, that U can demonstrate exceeds the fair market value of the
license granted to the pharmaceutical company is a qualified
sponsorship payment.
Example 10. V, a trade association, publishes a monthly
scientific magazine for its members containing information about
current issues and developments in the field. A textbook publisher
makes a large payment to V to have its name displayed on the inside
cover of the magazine each month. Because the monthly magazine is a
periodical within the meaning of paragraph (b) of this section, the
section 513(i) safe harbor does not apply. See Sec. 1.512(a)-1(f).
Example 11. W, a symphony orchestra, maintains a Web site
containing pertinent information and its performance schedule. The
Music Shop makes a payment to W to fund a concert series, and W
posts a list of its sponsors on its Web site, including the Music
Shop's name and Internet address. W's Web site does not promote the
Music Shop or advertise its merchandise. The Music Shop's Internet
address appears as a hyperlink from W's Web site to the Music Shop's
Web site. W's posting of the Music Shop's name and Internet address
on its Web site constitutes acknowledgment of the sponsorship. The
entire payment is a qualified sponsorship payment, which is not
income from an unrelated trade or business.
Example 12. X, a health-based charity, sponsors a year-long
initiative to educate the public about a particular medical
condition. A large pharmaceutical company manufactures a drug that
is used in treating the medical condition, and provides funding for
the initiative that helps X produce educational materials for
distribution and
[[Page 20441]]
post information on X's Web site. X's Web site contains a hyperlink
to the pharmaceutical company's Web site. On the pharmaceutical
company's Web site, the statement appears, ``X endorses the use of
our drug, and suggests that you ask your doctor for a prescription
if you have this medical condition.'' X reviewed the endorsement
before it was posted on the pharmaceutical company's Web site and
gave permission for the endorsement to appear. The endorsement is
advertising. The fair market value of the advertising exceeds 2% of
the total payment received from the pharmaceutical company.
Therefore, only the portion of the payment, if any, that X can
demonstrate exceeds the fair market value of the advertising on the
pharmaceutical company's Web site is a qualified sponsorship
payment.
Approved: April 12, 2002.
Robert E. Wenzel,
Deputy Commissioner of Internal Revenue.
Mark Weinberger,
Assistant Secretary of the Treasury.
[FR Doc. 02-9930 Filed 4-24-02; 8:45 am]
BILLING CODE 4830-01-P