How to Calculate Unrelated Business Income Tax (UBIT)
Do you think your Self-Directed IRA might owe UBIT? If it’s been engaging in some non-traditional investment activities, it might. There’s no need to panic. With a little education, you can understand what causes UBIT and how to calculate it.
Does UBIT Apply?
When a tax-exempt entity invests in an activity that is not substantially related to its tax-exempt purpose, any resulting income would be subject to the unrelated business income tax (UBIT). For Self-Directed IRAs, anything other than an investment for the purpose of saving for retirement – typically passive investments – will likely result in UBIT.
Your Self-Directed IRA is going to owe UBIT if it has carried out any of the following activities:
- Investing in an income-producing business, or investing in a pass-through entity such as a partnership or LLC that invests in an ongoing income-producing business
- Conducting real estate transactions as an ongoing business activity rather than as passive investing
- Using debt financing to make real estate investments
- Other activities including making a significant number of private loans in a given year and using margin to purchase stock or securities
How to Calculate UBIT
Calculating UBIT starts with determining an investment’s net taxable income for a given year. If an investment produces income, certain deductions – such as depreciation or operating expenses – can be written off on a percentage basis in order to determine net taxable income. Also, if an investment is leveraged, only the amount of income related to the financed portion of the investment is considered (a calculation for another discussion). Finally, only net taxable income over $1,000 for a given year will need to be reported.
Once you have a net taxable income, the amount of UBIT is calculated using the trust tax rates (per updates confirmed in Internal Revenue Bulletin (IRB): 2018-10) found in the following table:
|ANNUAL INCOME||UBIT TAX RATE|
|$0 – $2,550||10%|
|Over $2,550 – $9,150||$255 + 24% of amount over $2,550|
|Over $9,150 – $12,500||$1,839 + 35% of amount over $9,150|
|Over $12,500||$3,011.50 + 37% of amount over $12,500|
For example, if your Self-Directed IRA had $50,000 in net taxable income from an ongoing business activity, the IRA would pay $16,887 in UBIT ($3,011.50 + $13,875). It’s important to remember that payment for UBIT must come from the IRA and not personal funds.
Filing for UBIT
If your Self-Directed IRA owes UBIT, the IRA must obtain a Federal Tax Identification Number (EIN) and file IRS Form 990-T, along with supporting forms and schedules, in order to report its taxable income. While it’s not necessary to file if taxable income is less than $1,000, in the event there is a loss Form 990-T must be filed in order to offset the loss against future gains.
For Self-Directed IRAs and other retirement plans, Form 990-T must be filed by April 15th of each year, although it is possible to file a request for extension. Any payments would be made to the IRS through the Electronic Federal Taxpayer Payment System (EFTPS).
Be Familiar with UBIT Rules
It’s important for IRA owners to be educated about their investments, particularly the more complex alternatives available to Self-Directed IRAs, and the relevant tax consequences. Being savvy can help you avoid the risks associated with incurring UBIT, including not properly following the IRS’ UBIT rules. You may even be able to avoid UBIT altogether. Even so, it’s a good idea to engage the help of a tax professional when considering an UBIT-incurring investment in your Self-Directed IRA.