Question

Research Problem 1. Wonderful Wilderness, Inc., is a tax-exempt organization. Its mission is to “explore, enjoy, and protect the wild places of the earth; practice and promote the responsible use of the earth’s ecosystems and resources; educate and enlist humanity to protect and restore the quality of the natural and human environment; and use all lawful means to carry out these objectives.” Lloyd Morgan, the chief financial officer, presents you with the following information. Wonderful Wilderness raises funds to support its mission in a variety of ways, including contributions and membership fees. As part of this effort, Wonderful Wilderness develops and maintains mailing lists of its members, donors, catalog purchasers, and other supporters. Wonderful Wilderness holds exclusive ownership rights to its mailing lists. To ac- quire the names of additional prospective members and supporters, Wonderful Wilderness occasionally exchanges membership lists with other organizations. In addition, Wonderful Wilderness permits other tax-exempt organizations and commercial entities to pay a fee, as set forth in a fee schedule, to use its mailing lists on a one-time basis per transaction. Morgan is aware that the Federal income tax law applies a UBIT. He is also aware of the § 512(b)(2) provision that excludes royalties from the UBIT. An IRS agent has raised the issue that the revenue from the use of the mailing lists by other entities may be taxable as unrelated business income. Morgan wants you to research this issue for him. Write a letter to Morgan that contains your findings, and prepare a memo for the tax research files. Wonderful Wilderness’s address is 100 Wilderness Way, Pocatello, ID 83209.

Answer 1

To

Lloyd Morgan

Chief Financial Officer

Wonderful Wilderness, Inc

100 Wilderness Way,

Pocatello, ID 83209

SUBJECT: APPLICABILITY OF § 512(B)(2) AND PROVISION AND TAXABILITY UNDER UNRELATED INCOME

Sir,

According to the facts stated in the question, the company named Wonderful Wilderness Inc is providing the services to do the social cause or ensures the welfare of general public as whole. The various kinds of activities that the company provides includes educating the children and the future of the country, maintaining the system of ecosystem in order to maintain the balance in the environment, promoting the correct use of the natural resources since they are on the verge of extinction and improving the quality of the environment we are living in. Apart from that, the company is also generating income from letting the use of the mailing list that is exclusively owned by the company including the names of contributors, donors etc. The company charges money from other companies for accessing and using the same. Therefore, the litigation has arise on the above issue in the context of the taxability.

According to Lloyd Morgan, CFO of this company, royalty income is the income earned by the firm in the form of mailing list based on charge per transaction and thus is excluded from unrelated business taxable income as deduction. The same was asserted by him based on the awareness of the § 512(b)(2) provision which excludes royalties from the UBIT.

As per § 512(b)(2) , unrelated business taxable income is the income which can be earned from the unrelated trade or business by the organisation. However, in order to compute the net unrelated business taxable, the specified items or the deductions are permissible . As provided in subsection (b) royalties that are connected with the trade to be excluded from the taxable income. Therefore, you are of the view that the same shall not be taxable. It is to be mentioned here that the revenue authority is of the view that the income that is being derived from the use of the mailing list will not be covered under the term royalty as contended by you. Therefore, the same shall be taxable under the taxation provisions and will not be excluded from the unrelated business taxable income.

As per the case of Disabled American Veterans v. United States wherein the court held that the earnings from the use of mailing list would not be classified under the head Royalty under 512(b)(2) and therefore this activity would be considered as the additional revenue earned by the company to be taxable.

Thanks & Regards

Your Consultant

References

1. LII. (n.d.). 26 U.S. Code § 512 - Unrelated business taxable income. Retrieved from https://www.law.cornell.edu/uscode/text/26/512

2. D. ROYALTIES. (n.d.). Retrieved from https://www.irs.gov/pub/irs-tege/eotopicd89.pdf