Federal Tax Treatment of Associations’ Associate Member Dues

Back in 1997, the Internal Revenue Service ("IRS") issued guidance on the tax treatment of the associate member dues income of 501(c)(6) associations (Revenue Procedure 97-12). IRS guidance in this area has not changed since then. This article discusses the history of this issue, explains the IRS rules in this area, and provides associations with practical tips on how to minimize the tax risk from associate member dues income.


The associate member dues issue first came onto the association community's radar screen by way of two 1993 IRS rulings (technical advice memoranda, or TAMs) - one issued to a 501(c)(6) professional society and the other to a 501(c)(5) farm organization - concluding that dues paid by the associate members of those organizations were really not tax-exempt dues, but rather were taxable unrelated business income ("UBI"). In the 501(c)(6) case, the IRS said the supplier member dues were essentially purchasing "advertising" (an unrelated activity), and not much more. In the 501(c)(5) case, the IRS held that the dues of non-farmer associate members were purchasing access to insurance programs (an unrelated activity), and not much more. In both cases, the IRS viewed the associate member dues as merely "access" charges to gain one or more unrelated benefits. Consequently, the dues were deemed to be taxable income to the organizations and subject to unrelated business income tax ("UBIT").

Numerous public speeches by IRS officials following the 1993 rulings confirmed that the rulings indeed represented a significant change from prior IRS enforcement in this area, and that the IRS would now be aggressively scrutinizing dues paid by "less than full members" to determine if they were not bona fide members, but rather joined the association primarily to receive one or more unrelated benefits (e.g., advertising/ marketing, access to insurance). If so, the IRS would tax such dues as UBI.

Revenue Procedure 95-21

On March 23, 1995, the IRS continued down this path by issuing its first "precedential" guidance in this area, in the form of Revenue Procedure 95-21. The Rev. Proc. established a principal purpose test for determining whether a class of dues income will be subject to UBIT. Specifically, it said that if an associate member category (defined as members who "are accorded less than full or no voting privileges in voting for the directors of the organization") has been formed or availed of for the principal purpose of producing unrelated business income, then dues from associate members will be taxed. The Rev. Proc. defined unrelated business income, for these purposes, as income from the sale of, or the provision of access to, goods or services produced by an activity which constitutes a trade or business, is regularly carried on, and is not substantially related to the organization's tax-exempt purposes.

On the other hand, if an associate member category has been formed or availed of for the principal purpose of furthering the organization's tax-exempt purposes, then, according to the Rev. Proc., such dues will not be taxable. Finally, the Rev. Proc. said that in applying this standard, the IRS will look to the purposes and activities of the organization rather than of its members (this is an important distinction in the supplier member context). Rev. Proc. 95-21 applied only to organizations tax-exempt under Section 501(c)(5).

Revenue Procedure 97-12

On January 9, 1997, the IRS issued a follow-up to the 1995 Revenue Procedure. The new guidance, Revenue Procedure 97-12, is essentially the same as its predecessor, with two additions: 1) the new Rev. Proc. contains a safe harbor from UBIT for dues of $100 or less paid to Section 501(c)(5) agricultural or horticultural organizations, as mandated by a new law enacted last year (the result of effective lobbying by the agricultural community); and 2) the new Rev. Proc. expands the application of the 1995 guidance to organizations (including trade and professional associations) tax-exempt under Section 501(c)(6).

Public Statements by IRS Officials

IRS officials have said in speeches and other public statements that the two Revenue Procedures were designed as a reiteration of the policy reflected in the 1993 IRS rulings. Further, they have said that while these pronouncements admittedly do not provide much specific guidance to associations, these broad policy statements will be followed up at some point in the future with Audit Guidelines (instructions to IRS field auditors) which will spell out specific factors IRS auditors should consider when determining whether a given class of members is truly a bona fide class, or whether their dues are merely (taxable) "access" charges to gain one or more unrelated benefits. Essentially, if there is (in the words of IRS officials) "real involvement by associate members in exempt function activities, in policymaking, in decision-making," then the principal purpose of having associate members will not be to generate UBI, and associate member dues will not be taxed. If, however, the IRS determines that the principal purpose for having supplier members, for instance, is merely to raise additional revenue - and there is not the requisite level of involvement in tax-exempt activities - then their dues will be taxable.

National League of Postmasters v. Commissioner

In May 1995, the U.S. Tax Court issued a decision in the case of National League of Postmasters v. Commissioner (a decision which was upheld by a federal appeals court in June 1996), in which the organization was levied UBIT on the dues paid by its associate members. In that case, the organization, after an initial assessment of tax by the IRS on its associate member dues income, proceeded to give its associate members some limited rights in and benefits from the organization (such as one representative seat on the Board of Directors). The IRS, upon subsequent audit, determined that these new rights and benefits were superficial and virtually meaningless, and that the associate member dues should still be treated as taxable income. The Tax Court and the Fourth Circuit Court of Appeals agreed. The Postmasters case should remind associations that merely giving associate members some limited rights and benefits - without any meaningful role and documented participation in furthering at least some of the organization's tax-exempt purposes - will not likely insulate those dues from tax. If associate members have truly become tied into the association's tax-exempt functions, rather than simply being a "cash cow," their dues will not likely be taxed. On the other hand, merely attending conventions, receiving a newsletter, and having a token seat or two on the board will not, without more, be sufficient in most cases.

Red Flags

While the IRS has not yet issued the long-promised Audit Guidelines on what specific factors IRS auditors should examine when applying the new Revenue Procedure, in light of the existing guidance, the Postmasters case, the two 1993 IRS rulings, and numerous public comments by IRS officials, it is clear that if an association has any of the following "red flags," its risk of being taxed on its associate member dues income may be increased. However, these "red flags" are by no means determinative; the presence of one or more of them by no means guarantees the taxation of associate member dues. But if an association's concern about such taxation outweighs the benefits that flow from having these "flags" in the first place, it may want to consider "toning down their brightness":

[Note: Phrases in quotations indicate language used by the IRS in court filings or by IRS officials in public comments]

  • Associate members are treated "materially different" than regular members.
  • The association provides "identifiable economic benefits" to associate members that do not relate to the association's tax-exempt purposes.
  • Associate members do not have "full participation" in the association or a right to participate in its "organizational direction," evidenced by the fact that they do not have "meaningful, substantial" voting rights and/or may not hold significant office(s) in the association's elected bodies.
  • Associate member solicitation materials predominantly tout access and exposure to potential clients/customers (i.e., the association's "regular" members) or valuable services such as an insurance program.
  • There exists a lack of "significant, documented" participation by associate members in the tax-exempt functions of the association (e.g., educational programs, conventions, etc.).
  • A high percentage of associate members choose to take advantage of unrelated (to tax-exempt purposes) benefits, or membership survey results exist which point to unrelated benefits as a major motivation for associate members in joining the association.
  • Associate member dues are proportionately tied to one or more unrelated benefits (e.g., dues tied to advertising space in association publications).
  • Unrelated benefits provided to associate members (e.g., insurance programs) are very competitively priced vis-à-vis the rest of the market for that product or service.
  • Associate members pay higher dues than regular members yet receive fewer rights in and benefits from the association.

Tips to Reduce Associations' Tax Risk

As noted above, none of these "red flags," in and of themselves, should sound the death knell for the tax-free treatment of associate member dues. However, associations wishing to minimize their potential tax liability in this area should consider taking steps - and documenting such steps - to demonstrate how the associate member category has been "formed or availed of for the principal purpose of furthering the organization's tax-exempt purposes."

Regarding specifically what types of factors would reflect the requisite level of associate member involvement in an association's tax-exempt activities, common examples would include: 1) involvement by associate members in the association's lobbying activities; 2) meaningful voting rights and board representation; 3) meaningful participation in the committee process or other governance and policymaking structures; and 4) consistent attendance at and participation in educational conferences, seminars and other activities that support the association's tax-exempt purposes. Again, contemporaneous documentation of such participation - a "paper trail" - will be essential to satisfying the IRS.

Associations wishing to minimize their potential tax liability in this area should also take two other important steps: 1) review and, if necessary, revise the solicitation materials used to attract associate members to ensure that they reflect a role for associate members in helping to further the organization's tax-exempt purposes, rather than simply touting associate members' access to unrelated benefits (e.g., access and exposure to the association's "regular" members, various "affinity" products such as credit cards, hotel and car rental discounts, and low-rate long-distance telephone service); and 2) examine and, if necessary, broaden the association's stated tax-exempt purposes - as reflected in articles of incorporation, bylaws and IRS filings - to ensure that they encompass a role for associate members in significantly furthering one or more of those purposes. Any IRS examination will scrutinize all of these documents.

The bottom line: The more associate members look like regular members - in terms of rights, benefits and obligations in the association - the more likely the IRS would find that the principal purpose of having associate members is to further the organization's tax-exempt purposes, thereby ensuring continued tax-free treatment of associate member dues income.

Don't Let the Tail Wag the Dog!

Finally, don't let the UBIT laws dictate what is best for your association. For example, if supplier member dues constitute an important percentage of your annual revenues, and if "toning down" supplier member solicitation materials and curtailing marketing benefits for supplier members would significantly reduce such revenues, then perhaps your association should simply treat supplier member dues as taxable advertising income and continue to aggressively recruit members into this category. Furthermore, any direct expenses incurred by your association to generate the supplier member dues and service such members can be used to offset and reduce taxes on this dues income. This can have a dramatic effect on the size of your association's tax bill.

In short, don't let the UBIT laws be the tail that wags your association. But by the same token, it is often possible, through informed and creative tax planning, to have your cake and eat it too.

For more information, contact the author at jtenenbaum@TenenbaumLegal.com.