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IRS Releases Final Report on College and University Compliance Project

April 30, 2013

The Internal Revenue Service's comprehensive College and University Compliance Project final report is chiefly based on information from 34 follow-up audits of institutions. The colleges and universities were selected by IRS for examination based on responses given to a 2008 questionnaire.

Among the final report's key findings is under-reporting of unrelated business income (UBI) by the institutions examined. The report details the primary reasons for under-reporting of UBI and indicates that the compliance reviews resulted in more than 180 changes in reported UBI. The majority of the adjustments related to UBI resulted from the following institutional activities: fitness and recreation centers and sports camps; advertising; facility rentals; arenas; and golf courses.

The IRS disallowed claimed loss deductions in 75 percent of the audits, resulting in reductions of over $170 million in the audited institutions' net operating losses (NOLs). These NOL adjustments, the IRS said, could result in more than $60 million in additional taxes in future years.

According to the report, the institution's lack of a profit motive accounted for 70 percent of the loss deduction disallowances. In these cases, the IRS said that the "no profit motive" determination was based on the fact that the college or university had incurred losses from the activity for several consecutive years. Other reasons for the disallowance of claimed loss deductions were misallocation of expenses, errors in computing or substantiating the NOL, and misclassification of unrelated activities as related activities.

The other key finding of the report is failure to adequately comply with the intermediate sanction rules concerning compensation of officers, directors, trustees, and key employees (ODTKEs). These rules, set forth in §4958 of the Internal Revenue Code, only apply to private colleges and universities. The report states that institutions largely attempted to comply with the intermediate sanction rule safe harbors, but about 20 percent of the private institutions examined* failed to do so because either they did not select truly similarly-situated institutions for purposes of compensation comparison, did not identify the selection criteria for the comparable institutions, or the surveys conducted did not specify whether amounts reported included just salary or other types of compensation as well. The report includes data on average and median compensation amounts of ODTKE's and selected non-ODTKEs.

The audits also identified a number of situations where the institution did not correctly determine an employee's compensation and, therefore, failed to withhold the proper amount of tax and file correct Forms W-2. The wage-related adjustments made by the IRS totaled about $7 million, and the primary errors found by the IRS were:

  • Failure to include in income the value of the personal use of automobiles, housing, social club memberships, and travel
  • Misclassification of employees as independent contractors
  • Failure to withhold taxes for wages paid to nonresident aliens
  • Failure to include in income the value of certain graduate tuition waivers and reimbursements.

The IRS also found problems in the deferred compensation and retirement plan areas, although it only reviewed these areas in eight of the audits.

The report notes that the IRS plans now to look at UBI reporting more broadly, and also to ensure through education and examinations that institutions are aware of the importance of using appropriate comparability data when setting compensation.

The Oversight Subcommittee of the House Ways and Means Committee is holding a hearing on the report at 2:00pm on Wednesday, May 8. IRS Exempt Organizations Director Lois G. Lerner is scheduled to be the sole witness.

*According the report, about half of the 34 institutions selected for audit were private colleges or universities; therefore 20 percent of private schools audited would be approximately three or four institutions.

Contact

Mary Bachinger
Director, Tax Policy
202.861.2581
E-mail