Nonprofit Groups Reach for Profits on the Side

By STEPHANIE STROM

March 17, 2002, The New York Times

In its last fiscal year, the Metropolitan Museum of Art's shops, restaurants, parking garages and other commercial endeavors produced $96.6 million in revenues, or almost three times as much as its next largest source of income, admissions and membership fees.

The Girl Scouts of the U.S.A. derives a quarter of its annual operating revenue from the sale of uniforms, its second-largest source of income after membership dues, which cover 41 percent of its budget.

Tickle Me Elmo, a popular toy from a few Christmases back, still generates a handsome licensing fee for the Children's Television Workshop, while Harvard University earned almost $4 billion from the sale of stocks in the fiscal year that ended June 30, 2000.

Like many other nonprofit groups, these four organizations make a lot of money from commercial activities that look just like the businesses of profit-making enterprises.

The Met's parking garage, for instance, is just like any other parking garage in the neighborhood, but with one big difference: the museum pays no taxes on its income from the garage because having a garage is considered important to its mission. So the parking money is tax-exempt, like the rest of the Met's income.

Few would condemn this entrepreneurial spirit. But even fewer understand how big - and how fast-growing - a source of income commercial activities have become in the nonprofit world.

By one estimate, such activities make more than $60 billion a year for the nation's nonprofit institutions. Because nonprofit organizations pay no taxes on most of this income, taxpayers subsidize those activities.

"The question about all this is whether society is really getting back more in terms of the social mission it receives from a charity than the subsidies it is providing in the form of tax exemptions," said Burton A. Weisbrod, an economics professor at Northwestern University and editor of a book on the commercialization of the nonprofit sector, "To Profit or Not to Profit."

"The answer to that question is a tough one because it is so hard to measure the achievements of nonprofits," Professor Weisbrod said. Determining how much income nonprofit groups receive from activities outside fund-raising, donations and admissions and other user fees is difficult, but experts and regulators agree that the amount is increasing.

A study of almost 14,000 nonprofit organizations by the Chronicle of Philanthropy last fall offered the first comprehensive look at how important these ancillary activities have become for nonprofit institutions.

The charities in the study generated at least $61 billion of tax- exempt revenue from business activities in 1998. Universities leverage tax-free research grants into lucrative licensing and royalty streams and stock- ownership positions in start-up companies.

Public television stations broadcast advertising, and public radio stations build merchandising operations and sometimes acquire other radio stations or manage them for a fee. Nonprofit hospitals operate profit-making pharmacies and fitness centers.

As long ago as 1950, Congress moved to tax such activities when businesses complained about competition from nonprofit organizations, but the law was weakened by exemptions added to the tax code.

Challenges to the rules mounted in the 1980's, again from businesses, but the courts ruled in favor of nonprofit groups. The rule of thumb is that as long as a charity's commercial activities help promote or enhance its mission, they are tax-exempt. While it is hard to argue that admission fees or tickets to a special exhibit fall outside a nonprofit organization's mission, other activities sheltered from taxes seem less connected.

Try, for instance, to link gambling to the mission of the North Dakota Association for the Disabled, a nonprofit group that helps physically, mentally or otherwise disabled people with services and centers. After deducting expenses, the association realized tax-free revenue of $1.25 million, or almost 60 percent of its budget in 2000, from gambling.

The Tax Reform Act of 1986 exempted all revenue from games of chance conducted by North Dakota nonprofit groups. The revenues from the Met's parking garage, its most profitable venture, are tax-free because the museum has successfully argued that it operates for the convenience of patrons, even though they could use private parking lots.

"It may well be important for me as a patron to have someplace to eat, but I could go next door, couldn't I?" Professor Weisbrod asked. "You can ask the same question about parking. Commercial activities get nonprofit organizations involved in a variety of problems, one of which is obscuring the borders between their missions and their money-raising activities."

Nonprofit groups are not alone in trying to shield income from taxes. "For-profits are famous for using overseas subsidiaries to protect income from taxes, and there are rules that allow them to do that," said Norman I. Silber, a law professor at Hofstra University who specializes in nonprofit issues. "Taxpayers are also subsidizing them."

Nonprofit groups contend, and many experts agree, that they have had little choice but to take on more commercial activities to make money. "The major reason this has happened is because the government withdrew its funding for a wide variety of nonprofit organizations," said Dwight F. Burlingame, a professor of philanthropic studies at Indiana University's Center on Philanthropy.

"Private giving has stayed pretty consistently at about 2 percent of people's income, so they clearly closed the gap by increasing commercial revenues." Nonprofit groups do pay taxes on commercial activities that are not linked to their missions, although very few. The 10,000 charities in an Internal Revenue Service study in 1997 paid a total of $103 million in unrelated business taxes.

Last year the Met paid roughly $1.5 million in taxes, in large part from its sales of coffee mugs bearing its "M" logo. Mugs are deemed a purely commercial venture, unlike scarves or jewelry, which are linked to the museum's mission as long as they are accompanied by a slip of paper explaining their connection to the collection.

Often, business operations of nonprofit organizations mean the difference between operating consistently in the red and posting only occasional losses. The bulk of the American Red Cross's operating revenue comes not from contributions but from its blood processing and tissue distribution operations, for which the charity charges hospitals and other users.

The Red Cross does not make much money on its blood and tissue business, which basically generates just enough to cover expenses. But in the fiscal year ending June 30, 2000, that business made the difference between operating in the red and covering all of the charity's costs.

Nonprofit Groups Reach for Profits on the Side

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