Unrelated Business Income Tax (UBIT)
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Unrelated Business Taxable Income (UBTI) is generally defined as the gross income derived from any unrelated trade or business regularly carried out by an exempt organization.(1) The tax on unrelated business taxable income is called Unrelated Business Income Tax (UBIT) and applies to Individual Retirement Arrangements (IRAs) including Traditional, Roth, SEP and SIMPLE IRAs.
If an enterprise is a pass-through entity, also known as a partnership or limited liability company, that produces and sells goods or provides services, the IRAs’ share of the enterprise’s ongoing net income will be unrelated business taxable income and the IRA is required to pay income tax (UBIT) at current trust tax rates. Additionally, if the business is a pass-through entity that acquires any assets through loans or on margin, a portion of the IRAs’ share of the income may also constitute UBTI subject to UBIT.
Unrelated Debt Financed Income (UDFI) is income derived from any debt-financed property held to produce income (including gain from its disposition) including rental real estate, tangible personal property and corporate stock and the amount of unrelated debt-financed income is a percentage of the total gross income derived from the property during a tax year and that income is also subject to UBIT. When an investor chooses to leverage an IRA real estate investment through the use of a non-recourse loan, the IRA will be subject to unrelated business income tax (UBIT) by the unrelated debt financed income (UDFI) produced by the property.
Investors are encouraged to review the implications of UBIT on UBTI or UDFI with their tax professional. More information can also be found by reviewing IRS Publication 598.
(1) IRS Publication 598
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