"Unrelated Business Taxable Income from Rental of Real Estate: Parking Issues"

Originally published in Matthew Bender. 17 The Real Estate Tax Digest 11, 353 (Nov. 1999).

Thomas R. Popplewell is a tax lawyer and partner of the Dallas office of Houston's Andrews & Kurth. His e-mail address is tpopplewell@akllp.com. The views represented here are his own and do not represent those of the firm.

Copyright 1999, Matthew Bender. All rights reserved.

Introduction

Numerous entities exempt from federal income taxation, particularly trusts established for employee benefit plans such as pension plans and profit sharing plans, invest in income producing real estate. These investments are usually structured so that income derived from the real estate is exempt from the federal income tax on unrelated business taxable income under section 511(a) of the Internal Revenue Code of 1986.1 This article focuses on the issue of how the presence of a parking lot, parking garage or other parking facility may affect the exemption from federal income taxation available for rental income from real estate.

Unrelated Business Taxable Income

Section 511(a) subjects most organizations exempt from federal income taxation under section 501(a), and certain governmental colleges and universities,2 to a tax on their "unrelated business taxable income" ("UBTI"), as defined in section 512. Organizations exempt from income taxation under section 501(a) include organizations described in section 401(a) (i.e., employee benefit trusts), section 501(c) (e.g., traditional tax-exempt organizations such as charitable foundations)3 and section 501(d) (i.e., certain religious and apostolic organizations). Throughout this article, organizations subject to the unrelated business taxable income provisions of the Code will be described as "exempt organizations."

Section 512(a) states:

[T]he term "unrelated business taxable income" means the gross income derived by any organization from any unrelated trade or business (as defined in section 513) regularly carried on by it, less the deductions allowed by this chapter which are directly connected with the carrying on of such trade or business, both computed with the modifications provided in subsection (b).

Section 513(a) states:

The term "unrelated trade or business" means . . . any trade or business the conduct of which is not substantially related (aside from the need of such organization for income or funds or the use it makes of the profits derived) to the exercise or performance by such organization of its charitable, educational, or other purpose or function constituting the basis for its exemption under section 501.4

Many exempt organizations, especially employee benefit trusts, earn income from investments that may constitute a trade or business, including rents from real property. This article is only concerned with the conditions under which income from parking earned by an exempt organization, that is not substantially related to the exercise or performance by such organization of its charitable, educational, or other purpose or function constituting the basis for its exemption under section 501, constitutes UBTI.

Exceptions from Unrelated Business Taxable Income

Section 512(b)(3), enacted by the Revenue Act of 1950, modifies the definition of unrelated trade or business by excepting certain types of rents:

In the case of rents --

(A) Except as provided in subparagraph (B), there shall be excluded --

(i) all rents from real property (including property described in section 1245(a)(3)(C)), and

(ii) all rents from [certain] personal property.

Section 512(b)(3)(B) includes rent in UBTI (i) if more than 50% of the rent is attributable to personal property or (ii) if the amount of rent depends in whole or in part on the income or profits derived by any person from the property leased (other than an amount based on a fixed percentage or percentages of receipts or sales).

There is very sparse authority to flesh out the statutory provision providing for the rental exemption.5

Treas. Reg. § 1.512(b)-1 provides:

Whether a particular item of income falls within any of the modifications provided in section 512(b) shall be determined by all the facts and circumstances of each case. . . . [I]f a payment termed "rent" by the parties is in fact a return of profits by a person operating the property for the benefit of the tax-exempt organization or is a share of the profits retained by such organization as a partner or joint venturer, such payment is not within the modification for rents.

Treas. Reg. § 1.512(b)-1(c)(5)6 is the most important regulation in this area and provides:

[P]ayments for the use or occupancy of rooms and other space where services are also rendered to the occupant, such as for the use or occupancy of rooms or other quarters in hotels, boarding houses, or apartment houses furnishing hotel services, or in tourist camps or tourist homes, motor courts or motels, or for the use or occupancy of space in parking lots, warehouses, or storage garages, does not constitute rent from real property. Generally, services are considered rendered to the occupant if they are primarily for his convenience and are other than those usually or customarily rendered in connection with the rental of rooms or other space for occupancy only. The supplying of maid service, for example, constitutes such service; whereas the furnishing of heat and light, the cleaning of public entrances, exits, stairways and lobbies, the collection of trash, etc. are not considered as services rendered to the occupant. Payments for the use or occupancy of entire private residences or living quarters in duplex or multiple housing units, of offices in any office building, etc., are generally treated as rent from real property. (emphasis added)

Legislative History

The legislative history of the Revenue Act of 1950 and the Tax Reform Act of 1969 distinguish between the rental of real property and the operation of unrelated trades or businesses, such as parking lots. The hearings and the committee reports relating to the Revenue Act of 1950 strongly criticize the tax-free operation of "ordinary businesses" by exempt organizations. Exempt organizations were engaged in the "active conduct of business" including manufacture of automobile accessories, ceramics, food products, leather goods and china; distribution of petroleum products; operation of theaters, oil wells and cotton gins.7

The committee reports define an unrelated trade or business which is regularly carried on. One example of an unrelated trade or business is an organization's operation of a public parking lot one day a week.8 The House Report then defines the modifications to unrelated business taxable income:

The tax applied to unrelated business taxable income does not apply to . . . rents (other than certain rents on property acquired with borrowed funds) . . . . Your committee believes that such "passive" income should not be taxed where it is used for exempt purposes because investments producing incomes of these types have long been recognized as proper for educational and charitable organizations.9 The term "rents from real property" does not include income from the operation of a hotel but does include rents derived from a lease of the hotel itself. Similarly, income derived from the operation of a parking lot is not considered "rents from real property."10

In 1969, the Treasury Department recommended extending the unrelated business income tax to all exempt organizations.11 The Joint Committee staff supported Treasury's recommendation, citing its own research into business activities of churches. One of the numerous examples of such unrelated businesses was a church's operation of a parking lot.12 The House committee report from the Tax Reform Act of 1969 incorporates the Joint Committee's examples of proliferating church-operated businesses:

[N]umerous business activities of churches have come to the attention of the committee. Some churches are involved in operating chains of religious bookstores, hotels, factories, companies leasing business property, radio and TV stations, newspapers, parking lots, record companies, groceries, bakeries, cleaners, candy sale businesses, restaurants, etc. There is inequity in taxing certain exempt organizations on their "unrelated business income" and not taxing others. [Emphasis added]13

Congress recognized that exempt organizations had traditionally invested in securities and real estate. The 1950 and 1969 legislation was enacted to tax all other non-traditional, unrelated trades or businesses. The legislative history acknowledges that the distinction between real estate and taxable unrelated businesses rests upon tradition, not upon degrees of "activity" or "passivity,"14 not upon any distinction between "trade or business" and "investment,"15 and not upon extent or value of organizations" real estate activities.16 Congress twice singled out the operation of parking lots by exempt organizations and twice stated that the operation of parking lots yields unrelated business taxable income and not "rent."17

Parking Issues in Rulings Concerning Exempt Organizations

The Internal Revenue Service ("Service") has considered in general counsel memoranda, private rulings and technical advice memoranda the treatment of parking in connection with the activities of and investments by exempt organization. While these Service pronouncements by statute may not be relied upon or otherwise cited as precedent by taxpayers, other than the taxpayer that is subject of a particular ruling,18 they do provide guidance as to the position of the Service on the subjects addressed therein.

In General Counsel Memoranda 3982519 the Service concluded that direct operation of a parking lot by an exempt organization never produces rent, as defined in section 512(b)(3) but that the lease of a parking lot to a third party operator may constitute rent depending on the type of services provided to the third-party lessee. The General Counsel Memoranda considered four prior technical advice memoranda: Technical Advice Memoranda 8904002,20 Technical Advice Memoranda 8445005,21 Technical Advice Memoranda 785200722 and Technical Advice Memoranda 8720005.23 In Technical Advice Memoranda 8904002, the exempt organization owned an office building of which it used part. There was an adjacent parking lot used by the organization's employees and members and the public. The Service concluded that operation of the parking lot produced UBTI. In Technical Advice Memoranda 8445005, the exempt organization operated a cultural center and parking garage under contract with a county. The exempt organization derived revenue from parking during cultural performances (not at issue) and from daily and monthly parking. The Service concluded that because no services were provided, the daily and monthly parking income was not UBTI. In Technical Advice Memoranda 7852007 income from operation by an exempt organization of parking lots for events held at a nearby stadium and auditorium constituted UBTI. In Technical Advice Memoranda 8720005, the leasing of an entire lot generated rent where no services other than maintenance and repairs were provided to the tenant. The General Counsel Memoranda adopted the reasoning of Technical Advice Memorandas 8904002 and 7852007 that the operation of a parking lot can never produce rent. General Counsel Memoranda 39825, after citing and describing generally the above summarized authorities, concludes

Treas. Reg. section 1.512(b)-1(c)(5) closely tracks the legislative history of section 512(b)(3). The regulation states categorically that parking lot revenues are not rents from real property. Therefore, the operation of a parking lot by an exempt organization will never constitute "rent" as defined in section 512(b)(3). Because the operation of parking lots do not yield "rent," we need not inquire whether the exempt organization performs any services primarily for the convenience of the occupant. This inquiry is necessary only for activities which the regulation does not specifically address.

On the other hand, the legislative history also shows, by analogy to operating versus leasing a hotel, that leasing a parking lot to a third-party operator may generate "rent." GCM 35301. The next step in the lease situation is to analyze any purported "lease" to ascertain whether the "lease" creates a true landlord-tenant relationship and not an agency, partnership or joint venture, and whether the landlord-exempt organization performs only the services "usually and customarily rendered in connection with the rental of . . . other space for occupancy only." (emphasis added).24

The General Counsel Memoranda disagreed with the conclusion of Technical Advice Memoranda 8445005 which held that operational revenues in that case did constitute rent because they were payments for the use of real property and the organization rendered no services to the automobile drivers.

Recently the Service considered the taxation of parking (storage) income to two exempt organizations in two technical advice memoranda.25 In each case the entity had buildings that were used during part of the year for exempt purposes. During winter, the exemptorganization collected fees for long-term storage of trailers, campers, motor homes, boats and cars. Other than the actual act of storage, no services were provided.

In each situation the taxpayer claimed that it had provided no services (or no significant services) and that, therefore, based on Treas. Reg. § 1.512(b)-1(c)(5) the income was exempt rental income. The Service held that the income was not exempt and was unrelated business taxable income. In one of the technical advice memoranda26 the Service stated:

Y has misinterpreted section 1.512(b)-1(c)(5) of the regulations concerning the phrase "where services are also rendered to the occupant". That phrase specifically refers to the use or occupancy of rooms or other quarters in hotels, boarding houses, or apartment houses furnishing hotel services, or in tourist camps or tourist homes, motor courts, or motels. The phrase does not refer to the use of occupancy of space in parking lots, warehouses, or storage garages.

Section 1.512(b)-1(c)(5) of the regulations closely tracks the legislative history of section 512(b)(3) of the Code in which it is stated that parking lot income is not rental income. (See House Report at 36, 110, 1950-2 C.B. 409, 459).

Moreover, since section 1.512(b)-1(c)(5) of the regulations states categorically that parking lot revenue and revenue from warehouses, or storage garages are not rent from real property, income from the operation of a storage garage by an exempt organization does not constitute "rent" as defined in section 512(b)(3). Because the operation of a storage garage does not yield "rent," within the ambit of section 512(b)(3), it is not necessary to determine whether the exempt organization performs any services primarily for the convenience of the occupant. (emphasis added)

Thus the taxpayer in the technical advice memoranda parsed Treas. Reg. § 1.512(b)-1(c)(5) as follows:

payments for the use or occupancy of rooms and other space where services are also rendered to the occupant, such as (1) for the use or occupancy of rooms or other quarters in hotels, . . . or motels, or (2) for the use of occupancy of space in parking lots, warehouses, or storage garages, does not constitute rent from real property. (underscored numerals added for clarity)

However, the Service parsed Treas. Reg. § 1.512(b)-1(c)(5) as follows:

payments (1) for the use or occupancy of rooms and other space where services are also rendered to the occupant, such as for the use or occupancy of rooms or other quarters in hotels, . . . or motels, or (2) for the use of occupancy of space in parking lots, warehouses, or storage garages, does not constitute rent from real property. (underscored numerals added for clarity)

The Service's interpretation of the Treas. Reg. 1.512(b)-1(c)(5) in these technical advice memoranda is consistent with its analysis in General Counsel Memoranda 39825. As General Counsel Memoranda 39825 does explicitly, Technical Advice Memoranda 199901002 implicitly rejects the conclusion of Technical Advice Memoranda 8445005 that the "reference to parking in section 1.512(b)-1(c)(5) of the regulations shows only that parking receipts do not constitute rent if services are also rendered. So long as the payments are for the use of real property, and no services primarily for the convenience of the customer are provided, payments by the customer to the operator of the parking facility constitute rent, and are therefore excluded under section 512(b)(3) of the Code."27 The correct interpretation of the regulation is certainly not clear. However, in this instance what is clear is that the taxpayers in these technical advice memoranda could have avoided any issues with UBTI if each had leased all of its buildings to a third party for the winter who then subleased them to the end users.28 Of course, the net economic result probably would not have been identical. But it might have been better on an after tax basis.

Office Buildings, Apartments and Shopping Centers

The very much more difficult issues arise where parking facilities are provided in connection with the operation of another rental property, such as an office building, apartment or shopping center.

One can clearly see that the operation of a stand alone parking garage in conjunction with a downtown office building can easily be bifurcated into the operation of the parking garage and the rental of the office building. The operation of the parking garage would most likely be considered a trade or business not eligible for the rental exception of section 512(b)(3). Generally, the rental of the office building will be described in the rental exception of section 512(b)(3). However, consider the simple suburban apartment complex, strip shopping center or suburban office building where the landlord offers a paved lot on an unreserved basis as the only available parking. Surely each exempt organization owner in the United States of such a building is not required to allocate a portion of the rent to the parking lot and treat such allocated portion as UBTI.29

However, each case is not always so black and white. Suppose that in addition to providing unreserved parking the landlord provides some reserved parking. Is it relevant that no additional rent is charged? What if an extra fee is charged? Suppose a limited number of covered parking stalls are provided at an apartment complex and each is allocated to a specified apartment? Again, what if a separate fee is or is not charged? Suppose no separate fee is charged and parking is limited to tenants and guests, but vehicles must be parked by attendants due to safety concerns or the structure of the facility?

In analyzing these questions, it is helpful to review the legislative history applicable to the taxation of, and the private letter rulings issued to, real estate investment trusts (REITs). Generally, a REIT must maintain a certain level of its income from real estate property, including "rents from real property."30 The analysis of these rules is beyond the scope of this article. However, generally qualifying rent for a REIT includes real estate rental income as well as "charges for services customarily furnished or rendered in connection with the rental of real property, whether or not such charges are separately stated."31 However, generally for rental income to qualify as "rents from real property" a REIT may not receive income from (i) services furnished or rendered by the REIT to the tenants of the property or (ii) managing or operating the property, unless either (i) the services, management or operation are furnished by an independent contractor or (ii) the income would be excluded from UBTI under section 512(b)(3) if received by a tax-exempt entity.32

With respect to charges for services customarily furnished in connection with the rental of real property, Treas. Reg. § 1.856-4(b), dealing with REITs, provides in part [t]he furnishing of water, heat, light, and air-conditioning, the cleaning of windows, public entrances, exits, and lobbies, the performance of general maintenance and of janitorial and cleaning services, the collection of trash, and the furnishing of elevator services, telephone answering services, incidental storage space, laundry equipment, watchman or guard services, parking facilities, and swimming pool facilities are examples of services which are customarily furnished to the tenants of a particular class of buildings in many geographic marketing areas . . . . The services must be furnished through an independent contractor . . . ."

Thus, in analyzing the authorities and private letter rulings for REITs one must carefully distinguish between rental income that is qualified because services are rendered by an independent contractor and those in which the rules under Treas. Reg. § 1.512 are used to qualify the income. Only those in which the rules under Treas. Reg. § 1.512 are used to qualify the income are relevant to the taxation of exempt organizations. Failure to observe and apply thisdistinction will likely result in incorrect conclusions. For example, in PLR 19990802333 a REIT operated rental properties which had parking lots where services were provided to the tenants. However, the services were rendered by independent contractors. For purposes of the REIT rules under section 856(d) the rents qualified as rents from real property under the independent contractor provisions applicable only to REITs, not under section 512(b)(3), also applicable to exempt organizations. Therefore, this ruling and others like it offers no assistance to exempt organizations who must look solely to the rules under section 512(b)(3) to determine whether rents are exempt from the UBTI rules.

In 1986 when section 856(d) was expanded34 to allow REITs to provide some services directly to tenants (i.e., not through an independent contractor) to the extent an exempt organization could do so under section 512(b)(3), there was renewed pressure on properly determining what services could be provided under section 512(b)(3). Of the services described in Treas. Reg. § 1.856-4(b) above, all of which a REIT may provide though an independent contractor, certainly providing heat and light is contemplated under section 512(b)(3). However, it is unlikely that telephone answering services are so contemplated. The legislative history of the law expanding the section 512(b)(3) exception to REITs is important because, to the extent it purports to delineate the acceptable parking services that may be rendered under the exception of section 512(b)(3), it should also apply to exempt organizations. Note the following comments from the Report of the Conference Committee on the Tax Reform Act of 1986:

The conferees wish to make certain clarifications regarding those services that a REIT may provide under the conference agreement without using an independent contractor [i.e., those that would fall within the exception of section 512(b)(3)], which services would not cause the rents derived from the property in connection with which the services were rendered to fail to qualify as rents from real property (within the meaning of section 856(d)). The conferees intend, for example, that a REIT may provide customary services in connection with the operation of parking facilities for the convenience of tenants of an office or apartment building, or shopping center, provided that the parking facilities are made available on an unreserved basis without charge to the tenants and their guests or customers. On the other hand, the conferees intend that income derived from the rental of parking spaces on a reserved basis to tenants, or income derived from the rental of parking spaces to the general public, would not be considered to be rents from real property unless all services are performed by an independent contractor [i.e., this exception is available only to a REIT using the independent contractor exception and not to exempt organizations]. Nevertheless, the conferees intend that the income from the rental of parking facilities properly would be considered to be rents from real property (and not merely income from services) in such circumstances if services are performed by an independent contractor.35,

Thus, apparently complimentary unreserved parking for tenants is acceptable under section 512(b)(3), but fees for reserved parking or fees for general public parking (presumably even if unreserved), are not acceptable.36 Note that under this test the income derived by the exempt organizations in Technical Advice Memoranda 199901002 and Technical Advice Memoranda 985001 would not qualify under section 512(b)(3) because the parking (storage) was for the general public. However, this legislative history still does not clearly answer the question of reserved parking in apartments and office buildings where no additional rent is charged.

Notwithstanding the foregoing legislative history, the Service has issued private letter rulings to REITs that had not been using independent contractors in providing parking services in the following situations which appear in certain cases to expand the exception described in the legislative history.

No fee reserved parking. In PLR 951003037, PLR 924003238 and PLR 921600739 the Service concluded that reserved parking where no additional fee was charged did not cause the rental income to be disqualified rents.

Reserved parking with a "small fee" In April 1994, the Service issued PLR 942803340 that expanded the definition of rents from real property by allowing a REIT to provide tenants of residential apartment complexes with reserved parking spaces for a small fee. The REIT provided lighting, security and general lot maintenance with respect to the parking facilities, but the REIT did not provide parking attendants. Without referencing the conference committee report, the Service held that the revenue generated by the properties, including the revenue generated from reserved parking spaces, was considered rent from real property, based on the rationale that the services provided by the REIT were "ordinarily rendered in connection with the rental of rooms or space for occupancy only and would not be considered as services rendered to the occupant primarily for his convenience."41 The Service reiterated this position in a later private letter ruling in which a REIT was permitted to charge tenants a fee for reserved parking spaces.42 Similar to the prior ruling, in this instance, the REIT provided lighting, security and general lot maintenance with respect to the parking facilities, but the REIT did not provide parking attendants or other significant services. In PLR 964602743 an apartment REIT offered free unreserved parking at some locations, reserved carport or garage parking for a small fee at others and only reserved parking at still others located in urban areas. The REIT provided no services in regards to parking, other than maintenance, lighting, security and in the case of garages, restrictions on access. Because no mention of the use of independent contractors was made at these properties (at another apartment complex the REIT used independent contractors for valet parking), apparently the Service found this type of parking within the purview of section 512(b)(3).

Restricted parking with separate monthly charge. In PLR 962701744 a REIT owned an office complex in which "parking is available only to tenants and their employees who pay for parking on a monthly basis. Those persons are given electronically coded cards that permit unrestricted entrance to and exit from the facility, and can park their own vehicles in any appropriate parking space. There are no reserved spaces, other than a certain amount of parking spaces required by federal, state, or local law to be reserved for the exclusive use of handicapped motorists. The billing for parking in Building B's parking facility is handled as part of the general collection of rents from Building B." The REIT used no independent contractor. In its analysis of the law, the Service cited section 512(b)(3) and the related regulation and concluded that the operation of the parking facility at Building B did not cause the REIT's income derived as parking fees from the parking facility at Building B to be treated as something other than rents from real property.

In PLR 9850009,45 a REIT operated commercial buildings, shopping centers and apartments and provided reserved and unreserved parking to tenants for a monthly fee through an access card. The REIT provided maintenance such as cleaning, arranging for repairs, lighting and security. Although not specifically stated, the Service apparently found this activity within the acceptable bounds of section 512(b)(3). Other parking facilities with hourly and daily parking were operated using the independent contractor exception.

(i) Designated spaces, (ii) reserved, no-charge parking, and (iii) reserved parking for a fee.

In PLR 953402246 in addition to no-charge, unreserved parking the REIT provided: (i) designated spaces for certain major tenants and their customers, (ii) no-charge, but reserved, parking for executive use at commercial properties, and (iii) limited reserved parking to tenants at some multi-family residential properties for a fee. No additional services were rendered for reserved parking spaces other than space designation. Without clearly setting forth the reasoning, the Service determined that the rents qualified for REIT purposes.

In PLR 943602547 a REIT provided reserved parking or allowed parking in covered areas or garages, in each case, for annual or monthly fees. The Service held that the payments for the parking spaces were "rents from real property" for REIT purposes.

Conclusion

Arriving at a conclusion in this area is extremely difficult because the amount of true authority48 is so limited. Nevertheless, tax practitioners advising exempt organizations in the area of taxation of real estate investments must tackle the issue of the effect of parking services and revenue upon the unrelated business income aspects of the rental income. We should be able to define those services or revenues that clearly are acceptable or clearly unacceptable. We will also provide our thoughts on the other "gray" areas.

First, one should not lose sight of the original purposes that Congress had for taxing UBTI. As we have seen, Congress sought to tax the "active conduct of business" by exempt organizations. However, as noted above in the area of real estate rentals, the labels of "active" and "passive" are not always helpful. Nevertheless, one thing Congress seemed to desire to tax was the operation of a parking lot. Thus, if an exempt organization operates a parking lot or garage, either through employees or independent contractors, such that it contracts on an hourly, daily or monthly basis with individuals for space in the parking lot, the exempt organization has the type of entrepreneurial risk and activity that creates the type of trade or business income that Congress desires to tax. On the other hand, if the entire lot or garage is leased to a third party, even if the rent is based on a percentage of gross profits, the third party is the entrepreneur and the exempt organization's income is not UBTI. How is this entrepreneurial risk or the operations to be distinguished from the leasing of a large apartment complex or offices building' As noted above, the difference is not clear and might not even exist, except that Congress has made it the law.

Another point to consider is that Congress apparently does not consider that the individual rental of a space to park a car as a sole activity will generate rental income exempt from the UBTI rules. However, if parking facilities are provided on an unreserved basis, 'without charge,' in connection with rental of an office, apartment building or shopping center the related rentals are exempt from the UBTI rules. This is true notwithstanding that under a true technical economic analysis one should allocate some 'rent' to the 'free' parking.

Third, a necessary but not sufficient condition for income allocable to parking to be rentals from real estate exempt from UBTI treatment is that the income be derived under a real property lease and not be merely a bailment of personal property. Thus, hourly parking would almost always create UBTI. Finally, one must struggle with the "services" issues. The better argument seems to be that the degree that "services" are rendered is important to distinguish a fee for parking that is UBTI from a fee for parking "in connection with a rental" that is not UBTI. Thus, one should reject the reasoning in (but not necessarily the conclusion of) General Counsel Memoranda 3982549 and Technical Advice Memoranda 19990100250 that parking lot revenue never constitutes rent. The proper way to parse Treas. Reg. § 1.512(b)-1(c)(5) is that made by the taxpayer, not the Service in Technical Advice Memoranda 199901002. Once you conclude that it requires services to be rendered to the occupant to cause payments for the use or occupancy of space in parking lots to convert the revenue from rent to income that is not rent, however, you apparently must apply a very strict standard and very low threshold to the level of services required.

Application of these principles may not always be simple, but at least they appear to present a logical foundation to analyze the issue.51 Using this foundation, one can see that providing a parking space for a fee one space at a time probably fails the real property "lease" requirement, and also often can be considered a service. Similarly, valet services are by definition a service and also not likely a lease. In each case interaction with a customer is required. Applied to the facts in Technical Advice Memoranda 199901002, it becomes clearer that the exempt organization was performing a parking service, not renting space.

Now let us attempt to apply these concepts to particular fact situations.

1. Entire parking lot or garage.

   Beginning with the simplest situation, the leasing, for a fixed periodic amount or a percentage of the gross revenue, of an entire parking lot or garage will produce rental income for purposes of section 512(b)(3).

2. Operation of a stand alone parking lot or garage.

   An exempt organization's operation of a stand alone parking lot or garage will produce UBTI regardless of how few services are provided to customers. This will, in nearly all instances, be the case, even if the arrangement is denominated a "lease."

3. Parking lot or garage in conjunction with the leasing office buildings, apartments or shopping centers.

   This situation must be analyzed based upon what services are provided to the building's tenants, customers and visitors.

   1. Unreserved no-charge parking. The provision of unreserved, no-charge parking in a lot or garage should not cause the related rentals to be UBTI. There is no authority requiring or even suggesting that a portion of a tenant's rent must be allocated to the parking privilege so as to render such portion taxable as UBTI. Essentially, the conclusion derives from the fact that no service is being rendered and the income is derived under the real property lease.
   2. Unreserved parking with a separate fee collected from the tenant under the lease . This situation, while theoretically possible, is probably not encountered often. Unless something more, such as an attendant or a card entry system is used, how would either the tenant or landlord have any control over the parking privileges. Without control, why would a tenant agree to make the payment and how would the landlord know who had paid? Nevertheless, the fee should be considered a part of the rent and a well advised exempt organization would avoid the issue by merging the fee into the base rent.
   3. "Designated" parking, without charge. The mere designation of a parking lot or a portion of a parking lot by the placing of signs such as "Parking for Tenants Only" or "Parking for Customers of XYZ Store Only" should not be considered the addition of sufficient services to cause rentals to be UBTI. A landlord should be allowed to restrict the use of its property to those who are tenants or their customers or visitors. The tenants are paying for its use under a real property lease.
   4. Reserved Parking Without a Separate Fee. This contemplates that individual parking stalls are identified as being available for a particular person. For example, a tenant of an apartment may have one parking space, perhaps even covered, near his or her apartment identified for his or her sole use for no additional charge. Other vehicles may be parked in unreserved areas. As another example, an office building landlord may assign a reserved parking stall for the leasing of a specified number of square feet in the building. The stalls would be identified for use solely of that tenant and the tenant would assign the parking privileges to certain of its employees. While some additional "service" may be considered to be performed in this case and the fearful words "reserved parking" have been introduced, this situation should have the same result as the "designated" parking above. Here the landlord is only dealing with a tenant as a tenant and not separately as a customer of a parking lot or garage.
   5. Reserved Parking With a Separate Monthly Fee. While some private letter rulings have been issued to REITs concluding that these fees constitute "rents from real property" the well advised exempt organization would avoid this situation unless it was prepared to pay income tax on these fees as UBTI. Certainly many arguments could be made that the fees are not UBTI. For example, one could assert that this situation is really the same as the one described above in (d) except that the fee is separately stated. However, the fact that the fee is separately stated is probably significant because it implies that the parking privilege has been bifurcated from the leasing of primarily rental premises and that it is somehow optional. It also implies that the landlord is dealing with individual parking customers, although where a business tenant pays for several separate reserved stalls and makes its own allocation this argument suffers. Nevertheless, if the desire is to reduce the risk of incurring UBTI an exempt organization would be wise to merge the parking fees into the rent or lease the garage in whole to a third party. The fact that either of these two alternatives may result in different utilization of the parking premises or different economics itself casts doubt on the argument that no UBTI would otherwise accrue. Exempt organizations wishing to provide this service and be assured that no UBTI accrues should consider requesting a private letter ruling from the Service.
   6. Use of a gate/card entry system without a separate fee. This arrangement is functionally similar to that described in (c) and (d) above and should not cause rentals to be UBTI. As a practical matter in certain congested areas this may be one of the few methods a landlord can use to prevent unauthorized entry upon its leased premises.
   7. Use of a gate/entry system with a separate fee. This is functionally similar to reserved parking with a separate fee, as described in (e) above. The same conclusions should derive.
   8. Parking with the presence of attendants who collect parking fees. It is difficult to support any argument this is not the operation of a parking lot subject to UBTI.
   9. Valet parking for a fee. With one exception, this should produce UBTI. In the case where valet parking is provided free of charge on the landlord's own premises because of safety concerns given the nature of the parking facility (e.g. the existence of a vehicle elevator or very narrow passage ways), it is at least arguable that no UBTI arises. Certainly in that case the landlord should document its concerns and use independent valet parking services. In other cases, even when no separate charge is made the use of valet services seems to be the provision of services to the tenants at such a great level that there may be a risk that all rentals are deemed UBTI, such as in the operation of a hotel.
4. Storage Units.

As a final item to ponder, and as further evidence of the difficulties involved in this area, consider how income from the rental of storage units may be taxed. The Service has issued private letter rulings to apartment and office building REITs that the separate leasing of a storage unit, where no services are supplied, creates rents from real property.52 Query if the storage unit is of such size and location that the tenant can park a vehicle in it? Is the income only UBTI if a vehicle is actually parked in the storage unit? What if the storage unit is large enough for a small vehicle, but in fact the tenant has a large vehicle? Should the exempt organization protect itself by prohibiting the parking of vehicles in the storage unit altogether?53

1 Unless otherwise noted, all section references are to the Internal Revenue Code of 1986.

2 These colleges and universities are described in section 511(a)(2)(B).

3 Notwithstanding that corporations that are instrumentalities of the United States described in section 501(c)(1) are exempt from income taxation under section 501(a), such corporations are exempt from the unrelated business income tax.

4 Operation of a parking lot may further an organization's exempt purpose. For example, a hospital's operation of a parking lot for the use of patients and visitors, in an area without adequate parking, contributes to the accomplishment of charitable purpose and is therefore not "an unrelated trade or business". Rev. Rul. 69-269, 1969-1 C.B. 160. See also, Rev. Rul. 79-31, 1979-1 C.B. 206; Rev. Rul. 76-33, 1976-1 C.B. 169; Rev. Rul. 69-463, 1969-2 C.B. 131; Gen. Couns. Mem. 39715 (Mar. 29, 1988); PLR 9208033 (Nov. 29, 1991).

5 Assuming that the revenues constitute "rent" under section 512(b)(3), such rent may nevertheless be taxable as rent received from a "controlled organization" under section 512(b)(13), or as unrelated debt-financed income under sections 512(b)(4) and 514. This article will address only the modification for "rent" in section 512(b)(3).

6 Treas. Reg. § 1.512(b)-1(c)(5) remains substantially unchanged from its initial promulgation as Treas. Reg. 111 § 29.422-1 in T.D. 5928, 1952-2 C.B. 181 at 192 (as amended by T.D. 6301, 1958-2 C.B. 197 at 226 and T.D. 7177, 1972-1 C.B. 159 at 161). Treas. Reg. 111 § 29.422-1(b)(3) stated that "[p]ayments . . . for the use or occupancy of space in parking lots . . . do not constitute rentals from real estate." 1952-2 C.B. 181 at 192.

7 Revenue Revisions of 1950: Hearings on H. 8920 Before the Committee on Ways and Means, 81st Cong., 2d Sess. 7-8 (1950) (statement of the Secretary of the Treasury John W. Snyder); Id. 165-167 (statement of Vance N. Kirby, Tax Legislative Counsel); Hearings on H. 8920 Before the Senate Committee on Finance, 81st Cong., 2d Sess. 6-7 (1950) (statement of Secretary Snyder).

8 H.R. Rep. No. 81-2319, at 108, 1950-2 C.B. 255 at 458; S. Rep. No. 181-2375, at 107, 1950-2 C.B. 255 at 559.

9 H.R. Rep. No. 81-2319, at 36, 1950-2 C.B. 255 at 409. S. Rep. No. 81-2375, at 30, 1950-2 C.B. 255 at 506, reiterates almost verbatim, the language in the House Report. See also, Joint Committee on Taxation Staff, Summary of the Revenue Act of 1950, 81st Cong., 2d Sess. 23-25 (1950) and Senate debate, 96 CONG. REC. 13,274-13,275 (1950). Concerning the history of exempt organizations' tax-favored real estate activities, see, Gen. Couns. Mem. 33604 (Aug. 28, 1967) and Gen. Couns. Mem. 33932 (Sept. 24, 1968).

10 H.R. Rep. No. 81-2319, at 110, 1950-2 C.B. 255 at 409 and S. Rep. No. 81-2375, at 108, 1950-2 C.B. 255 at 560.

11 U.S. Treasury Department, Tax Reform Studies and Proposals 26-27 (1969).

12 JOINT COMMITTEE REPORT ON TAXATION STAFF, TAX-EXEMPT ORGANIZATIONS 20-21 (Comm. Print 1969).

13 H.R. Rep. No. 91-413, at 47, 1969-3 C.B. 200 at 230; S. Rep. No. 91-552, at 67-68, 1969-3 C.B. 423 at 467; Joint Committee on Taxation Staff, General Explanation of the Tax Reform Act of 1969, 91st Cong., 2d Sess. 66-67 (1970). JOINT COMMITTEE ON TAXATION STAFF, TAX EXEMPT ORGANIZATIONS, 20-21 (Comm. Print 1969). The Senate Report lists many of the same unrelated trades and businesses, including parking lots.

14 The discussion during the 1950 Senate hearings highlights conceptual problems that inevitably arise in any active/passive analysis: Is there a true distinction between managing a large office building with 200 tenants and operating a hotel? See, Gen. Couns. Mem. 30873 (Sept. 17, 1958). The 1950 committee reports' reference to rents as traditional and proper passive income presumably uses quotation marks around the word "passive," to clarify that "passive income" describes a traditional activity, not an active/passive test.

15 Whether or not rental of real property is a trade or business, if the revenues are in fact "rent," as defined in section 512(b)(3) they are not income from an unrelated trade or business.

16 Gen. Couns. Mem. 35301 (Apr. 12, 1973) and authorities cited therein at 21; Gen. Couns. Mem. 34034 (Feb. 3, 1969).

17 Gen. Couns. Mem. 39825 (Aug. 17, 1990) at 12 states "[a]lthough the legislative history is conclusive on this question, we also note that patronage of a parking lot is a bailment of personal property and not a lease of real property." See generally, Note, Bailor Beware: Limitations and Exclusions of Liability in Commercial Bailments, 74 Vand. Law Rev. 129 (1988).

18 IRC § 6110(k)(3).

19 (Aug. 17, 1990).

20 (Oct. 24, 1988).

21 (July 11, 1984).

22 (Sept. 13, 1978).

23 (Feb. 20, 1987).

24 Gen. Couns. Mem. 39825 (Aug. 17, 1990) at 13. Compare Rev. Rul. 69-178, 1969-1 C.B. 158 (rental of hall) and Rev. Rul. 80-297, Situation 2 1980-2 C.B. 196 (rental of tennis facilities) with Rev. Rul. 80- 297, Situation 1 (operation of tennis school); Compare Rev. Rul. 80-298, 1980-2 C.B. 197 (stadium leased with substantial services to the lessee) with Rev. Rul. 69-69, 1969-1 C.B. 159 (apartments leased with switchboard and maid service provided).

25 Tech. Adv. Mem. 9853001 (Sept. 11, 1998) in which the entity was a section 501(c)(5) entity and Tech. Adv. Mem. 199901002 (Sept. 2, 1998) in which the entity was a section 501(c)(3) entity.

26 Tech. Adv. Mem. 199901002 (Sept. 2, 1998).

27 Tech. Adv. Mem. 8445005 (July 11, 1984).

28 In PLR 9835001 (Apr. 27, 1998) the Service confirmed that the leasing of a parking lot in whole to third parties does not generate UBTI, even if leased for only one day. See also PLR 9301024 (Oct. 15, 1992).

29 Treas. Reg. § 1.512(b)-1(c)(5) specifically acknowledges that "[p]ayments for the use or occupancy of entire private residences or living quarters in duplex or multiple housing units, of offices in any office building, etc., are generally rent from rent property." While certain urban residences and urban office buildings may not provide space for parking, most single family residences, suburban office buildings and suburban apartments provide some type of space for parking and it is inconceivable that all of these properties were intended to be excluded from this quoted provision through the use of the qualifier "generally."

30 IRC § 856(d) defines "rents from real property" for REITs.

31 IRC § 856(g)(3).

32 See generally IRC § 856(d). IRC § 856(d) technically allows rents to qualify if only a de minimis of "impermissible tenant income" is received in connection with such rent, See IRC § 856(d)(2)(C) and § 856(d)(7), added by the Taxpayer Relief Act of 1997, Pub. L. No. 105-34, §§ 1252(a) and (b), 111 Stat 788, 1031 (1997).

33 (Nov. 27, 1998). Accord PLR 9846019 (Aug. 14, 1998); PLR 9825033 (Mar. 24, 1998); PLR 9751036 (Sept. 23, 1997); PLR 9719018 (Feb. 4, 1997); PLR 9635032 (May 31, 1996); PLR 9507007 (Nov. 10, 1994); PLR 9502037 (Oct. 19, 1994); PLR 9316024 (Jan. 23, 1993); PLR 9307032 (Nov. 25, 1992).

34 Tax Reform Act of 1986, Pub. L. No. 99-514, § 663(a), 100 Stat 2085, 2302 (1986). This provision has since been modified by provisions in the Taxpayer Relief Act of 1997, Pub. L. No. 105-34, §§ 1252(a) and (b), 111 Stat 788, 1031 (1997).

35 THE REPORT OF THE CONFERENCE COMMITTEE ON THE TAX REFORM ACT OF 1986, H.R. Rep. No. 99-841, 99th Cong. 2d Sess. 1 (1986), 1986-3 (Vol. 4) C.B. 1, 220.

36 In PLR 9701028 (Oct. 1, 1996) a REIT provided unreserved parking to its tenants at no additional charge. The Service concluded the rents qualified under IRC § 856(d), apparently under the IRC § 512(b)(3) exception. See also, PLR 9012032 (Dec. 21, 1989) (REIT provided unreserved, no-charge parking at apartments and office buildings); PLR 9552046 (Sept. 29, 1995) (The REIT operated manufacturers' outlet shopping centers. Parking lots were provided for tenants and their employees and customers. Parking was on an unreserved, complimentary basis. The REIT provided maintenance, repairs, cleaning, snow removal and lighting, but no attendants or reserved parking. The Service conclude the rents were from real property); Accord PLR 9536013 (June 8, 1995); PLR 9431005 (Apr. 22, 1994); PLR 9431052 (May 12, 1994); PLR 9403012 (Oct. 21, 1993). The Service came to the same conclusion without any specified reasoning in PLR 9502037 (Oct. 19, 1994); PLR 9313010 (Dec. 18, 1992); PLR 9216007 (Jan. 16, 1992); PLR 9028070 (Apr. 13, 1990); PLR 9012032 (Dec. 12, 1989); PLR 8914048 (Jan. 9, 1989).

37 (Dec. 9, 1994).

38 (July 7, 1992).

39 (Jan. 16, 1992).

40 (Apr. 20, 1994).

41 Id.

42 PLR 9440026 (July 11, 1994).

43 (Aug. 20, 1996).

44 (Apr. 5, 1996).

45 (Sept. 9, 1998).

46 (May 31, 1995).

47 (June 8, 1994). Accord PLR 9340056 (July 13, 1993).

48 Given that private letter rulings, technical advice memoranda and general counsel memoranda cannot be relied upon or otherwise cited as precedent by taxpayers. IRC § 6110(k)(3).

49 (Aug. 17, 1990).

50 (Sept. 2, 1998).

51 It certainly is not simple to distinguish the provision of maid service in an apartment from the provision of janitorial services in an office building, but the former clearly causes the apartment rents to be UBTI and the latter is usually considered not to so adversely affect rents. Why is the former service considered rendered to the occupant and the latter not? It is probably only tradition. Traditionally a landlord would not arrange to clean the interior of an apartment whereas few office building tenants expected or were expected to bring their own vacuums and mops to the office and carry out their own trash.

52 PLR 9340056 (July 13, 1993).

53 This may be wise for environmental damage risk in any event.