By: Jeffrey S. Tenenbaum Esq. , Venable LLP
Source: Center Collection
Published: November 2001
Read an overview of the federal income tax treatment of corporate sponsorship revenue received by tax-exempt organizations. The key issues addressed include: the definition of "qualified sponsorship payment" and "substantial return benefit"; sponsorship and advertising; and exclusivity arrangements. This whitepaper will be especially useful for association professionals engaged in executive leadership and governance issues; sponsorship activities; strategy; new product development; finance; communications and publications; and meetings, expositions and special events.
The Taxpayer Relief Act of 1997, in addressing the federal income tax treatment of corporate sponsorship revenue received by tax-exempt organizations, finally put to rest the long and contentious battle over corporate sponsorship income. Specifically, the 1997 law amended the Internal Revenue Code (the "Code") to provide that the receipt of "qualified sponsorship payments" by a tax-exempt organization does not constitute the receipt of income from an "unrelated trade or business." In addition, for 501(c)(3) tax purposes (e.g., public support test), "contributions" include "qualified sponsorship payments" in the form of money or property (but not services). Proposed regulations issued by the IRS in February, 2000 provide further clarification of the rules in this area.
Definition of "Qualified Sponsorship Payment"
A "qualified sponsorship payment" is defined as "any payment of money, transfer of property, or performance of services by any person [individual or entity] 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 tax-exempt purposes. It also is irrelevant whether the sponsored activity is temporary or permanent.
Definition of "Substantial Return Benefit"
A "substantial return benefit" is defined as any benefit other than: (i) goods, services or other benefits of "insubstantial value" (as described below); or (ii) a "use or acknowledgment" (as described below). Good, services or other benefits of "insubstantial value" include: (i) benefits with an aggregate fair market value of not more than 2% of the amount of the payment, or $74 (for year 2000, to be adjusted annually for inflation), whichever is less; or (ii) token items (e.g., bookmarks, calendars, key chains, mugs, posters, tee shirts) bearing the tax-exempt organization's name or logo that have an aggregate cost within the limit established by the IRS for "low-cost articles" (such limit which is adjusted annually for inflation). Note that if the fair market value of the benefits (or the cost, in the case of token items) exceeds the amounts or limits specified above, then (except as provided below) the entire fair market value (as opposed to the cost) of such benefits, not merely the excess amount, is considered a substantial return benefit.
A substantial return benefit includes:
- advertising (as described below);
- providing facilities, services or other privileges to the sponsor (or persons designated by the sponsor), unless such privileges are of "insubstantial value" (as described above); or
- granting the sponsor (or persons designated by the sponsor) an exclusive or non-exclusive right to use an intangible asset (e.g., name, logo, trademark, copyright, patent) of the tax-exempt organization. Note that while payment for providing a sponsor with the right to use such an intangible asset will not constitute a qualified sponsorship payment, it may constitute a tax-free royalty.
Use or Acknowledgment
As stated above, a substantial return benefit does not include a "use or acknowledgment" of the name or logo (or product lines) of the sponsor's trade or business in connection with the activities of the tax-exempt organization. Use or acknowledgment does not include advertising (as described below), but may include:
- sponsor logos and slogans that do not contain qualitative or comparative descriptions of the sponsor's products, services, facilities, or company;
- a list of the sponsor's locations (e.g., addresses), telephone numbers, facsimile numbers, or Internet addresses;
- value-neutral descriptions (including displays or visual depictions) of the sponsor's product line(s) or services; and
- sponsor brand or trade names and product or service listings.
Logos or slogans that are an established part of the sponsor's identity are not considered to contain qualitative or comparative descriptions. Mere display or distribution (whether for free or remuneration) of a sponsor's product by the sponsor or the tax-exempt organization to the general public at a sponsored activity will not be considered an inducement to purchase, sell or use the sponsor's product and thus will not affect the determination as to whether a payment constitutes a qualified sponsorship payment.
"Advertising" is defined as any message or other programming material that is broadcast or otherwise transmitted, published, displayed, or distributed, and that promotes or markets any trade or business, or any service, facility or product.
- 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 considered advertising. The above rules do not apply to activities conducted by a sponsor on its own (e.g., if a sponsor purchases broadcast time from a television station to advertise its product during commercial breaks in a sponsored program, the tax-exempt organization's activities will not thereby be converted to advertising).
Exclusive sponsor. An arrangement that acknowledges the sponsor as the exclusive sponsor of a tax-exempt organization's activity, or the exclusive sponsor representing a particular trade, business or industry, generally will not, by itself, result in a substantial return benefit. For example, if in exchange for a payment, a tax-exempt organization announces that its event or activity is sponsored exclusively by the sponsor (and does not provide any advertising or other substantial return benefit to the sponsor), then the sponsor has not received a substantial return benefit.
Exclusive provider. An arrangement that limits the sale, distribution, availability, or use of competing products, services or facilities in connection with a tax-exempt organization's activity generally will result in a substantial return benefit. For example, if in exchange for a payment, a tax-exempt organization agrees to permit only the sponsor's products to be sold in connection with its event or activity, then the sponsor has received a substantial return benefit.
Allocation of Payment
If there is an arrangement or expectation that the sponsor will receive a substantial return benefit with respect to any payment, then only the portion (if any) of the payment that exceeds the fair market value of the substantial return benefit (determined on the date the sponsorship arrangement is entered into) will be considered a qualified sponsorship payment. In other words, if, in exchange for a payment to a tax-exempt organization in connection with a sponsored event or activity, the sponsor receives advertising benefits as well as an acknowledgment, then unrelated business income tax ("UBIT") will be assessed only on the fair market value of the portion allocable to the advertising benefits (subject to the burden of proof described below). However, if the tax-exempt organization fails to establish that the payment exceeds the fair market value of any substantial return benefit, then no portion of the payment will constitute a qualified sponsorship payment. The UBIT treatment of any payment (or portion thereof) that does not constitute a qualified sponsorship payment will be determined by application of the standard UBIT rules and exclusions. For example, payments related to a tax-exempt organization's provision of facilities, services or other privileges to the sponsor (or persons designated by the sponsor), advertising, exclusive provider arrangements, a license to use intangible assets of the tax-exempt organization, or other substantial return benefits, will be evaluated separately in determining whether the tax-exempt organization realizes any unrelated business taxable income.
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, both having reasonable knowledge of the relevant facts, and without regard to any other aspect of the sponsorship arrangement.
To the extent necessary to prevent avoidance of the "Allocation of Payment" rule described above, where the tax-exempt organization fails to make a reasonable and good faith valuation of any substantial return benefit, the IRS 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.
The existence of a written sponsorship agreement will not, by itself, cause a payment to fail to constitute 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 constitutes a qualified sponsorship payment. Similarly, the terms of the agreement, not the title or responsibilities of the individual(s) that negotiate the agreement, will determine whether a payment (or any portion thereof) made pursuant to the agreement constitutes a qualified sponsorship payment.
A 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 event or activity. The fact that a payment is contingent upon sponsored events or activities actually being conducted will not, by itself, cause the payment to fail to constitute a qualified sponsorship payment.
Determining Public Support (for 501(c)(3) Organizations)
With respect to 501(c)(3) organizations, qualified sponsorship payments in the form of money or property (but not services) will be treated as "contributions" received by the tax-exempt organization for purposes of determining public support to the organization.
Deductibility of Payments by Sponsors
The fact that a payment constitutes a qualified sponsorship payment that is treated as a contribution to the tax-exempt organization does not determine whether the payment is deductible to the sponsor as a business expense or as a charitable contribution.
Exception for Trade Show Activities and Periodicals
The unrelated business income exception for qualified sponsorship payments does not apply with respect to: (i) payments made in connection with qualified convention and trade show activities (which are governed by a separate exception in the Code); or (ii) income derived from the sale of advertising or acknowledgments in periodicals of tax-exempt organizations. For this purpose, the term "periodical" means regularly scheduled and printed material published by or on behalf of the tax-exempt organization that is not related to and primarily distributed in connection with a specific event conducted by the tax-exempt organization.
The proposed regulations issued by the IRS contain ten detailed examples illustrating the application of the proposed regulations to the sponsorship and related activities of tax-exempt organizations.
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