8104 / What is unrelated business taxable income (UBTI)? When does a charitable remainder trust have UBTI?
An unrelated trade or business means any trade or business that is not substantially related to the charitable purpose of the trust.1 In general, UBTI means the gross income derived by the trust from an unrelated trade or business regularly carried on by the trust, reduced by certain modified deductions directly connected to the unrelated trade or business.2 For example, there is a specific deduction for up to $1,000 of UBTI.3 Certain unrelated debt-financed income is also treated as UBTI.4
Unrelated business taxable income includes income from debt-financed property.5 Securities purchased on margin have been held to be debt-financed property.6 An exempt trust that is a limited partner may receive unrelated business income to the same extent as if it were a general partner.7 A charitable remainder trust that received unrelated business taxable income from its investments in three limited partnerships was held to be taxable as a complex trust under IRC Section 664(c) to the full extent of its income.8
Planning Point: A common source of unrelated business taxable income encountered by charitable remainder trusts is an investment in a hedge fund, real estate limited partnership, or other form of pass-through entity. These types of investment products typically rely on debt of some form to achieve their investment goals. The prospectus or other offering statement should be carefully reviewed to determine if the entity will be reporting unrelated business taxable income to its investors. Ted R. Batson, Jr., MBA, CPA, is Senior Vice President of Professional Services for Renaissance.
1. IRC § 513.
2. IRC § 512.