                        T.C. Memo. 2001-38



                      UNITED STATES TAX COURT



     ARKANSAS STATE POLICE ASSOCIATION, INC., Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 13425-98.             Filed February 20, 2001.



     Gregory B. Graham, for petitioner.

     William I. Miller, for respondent.



                        MEMORANDUM OPINION


     SWIFT, Judge:   Respondent determined deficiencies in

petitioner's Federal income taxes and additions to tax as

follows:

                                             Addition to Tax
     Year             Deficiency               Sec. 6651(a)
     1993              $60,004                   $15,001
     1994               63,730                    15,933
     1995               71,158                      –-
     1996               80,289                    20,072
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     Unless otherwise indicated, all section references are to

the Internal Revenue Code in effect for the years in issue, and

all Rule references are to the Tax Court Rules of Practice and

Procedure.

     After settlement of some issues, the issue for decision

involves whether payments petitioner received in connection with

advertising in a law-enforcement trade publication should be

treated under section 512(b)(2) as royalty payments and excluded

from petitioner's unrelated business taxable income.


                           Background

     This case was submitted fully stipulated under Rule 122, and

the facts are not in dispute.

     Petitioner constitutes a not-for-profit corporation,

organized under the laws of Arkansas and recognized under section

501(c)(5) as generally exempt from Federal income tax.

     Petitioner was formed for the purpose of, among other

things, promoting impartial enforcement of law and order,

increasing efficiency in the police profession, and cultivating a

spirit of fraternity and mutual helpfulness among and between the

Arkansas law enforcement community and the people of Arkansas.

     During the years 1993 through 1996, under an agreement

entitled “Royalties and Licensing Agreement” (the Agreement)

between petitioner and Brent-Wyatt West (BWW), an Arizona
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publishing company, three editions of The Arkansas Trooper (TAT),

petitioner's official magazine, were produced each year.     In

preparation for publication of each edition of TAT, articles,

photographs, letters, and publicity regarding Arkansas law

enforcement activities were collected through an officer of

petitioner, reviewed by the officer of petitioner, and submitted

by the officer of petitioner to BWW.

     Each edition of TAT also contained numerous advertisements

from a wide variety of Arkansas businesses, all directed at

petitioner’s members.   The advertisements were solicited from

Arkansas businesses over the telephone by employees of BWW.       The

advertisements generally promoted Arkansas businesses and/or

commended Arkansas law enforcement activities.   BWW employees

developed the presentations to be used in soliciting the

advertisements, but the advertising presentations and the

advertising copy were subject to review and approval by

petitioner.

     BWW designed the layout of each edition of TAT, printed

copies of TAT, and distributed the copies free of charge to each

member of petitioner, to advertisers who purchased advertisements

in TAT at a cost of at least $100, and to each Arkansas State

Legislator.

     Each edition of TAT expressly stated that all “editorial

contributions” (namely, articles, photographs, letters, and
                              - 4 -

publicity) from petitioner's members, from readers of TAT, and

from others should be submitted to petitioner for review and

submission to BWW, that no part of TAT could be reproduced

without written permission from petitioner and from BWW, and that

any problems with regard to the solicitation of advertisements

should be directed to petitioner.

     Under the Agreement, BWW was authorized to use petitioner's

name and logo in connection with the publication of TAT and the

solicitation of advertisements in TAT.    The substantial proceeds

received during the years in issue relating to the paid

advertisements appearing in each edition of TAT were divided

between petitioner and BWW as follows:


                                      Percentage
               Petitioner                 27
               BWW                        73


In addition, under the Agreement between petitioner and BWW, BWW

was required to pay petitioner an annual fee of $25,200.

     Each edition of TAT generally contained a message from

petitioner's president, articles regarding law enforcement

activities and conferences, and anecdotal stories involving

individual law enforcement officers.    The text of a typical

letter published in the Fall-1995 edition of TAT is set forth

below:
                                - 5 -

       Dear Association Members: Thank you for the
       contribution to the Pine Bluff Youth Council (PBYC)
       Awards Program. The $400 check will enable us to
       acknowledge area high school students who would not
       ordinarily receive recognition.


       The text of one of the many brief advertisements appearing

in the Fall-1995 edition of TAT is set forth below:


       Standing behind the ASPA from... Pine Bluff Radiologists


       Under the Agreement, BWW, as publisher, bore all costs

associated with production of each edition of TAT.    Checks in

payment of advertising in TAT were made to the order of

petitioner and were deposited into a bank account controlled by

BWW.    BWW was required to allow petitioner to review the records

relating to the bank account into which the advertising proceeds

were deposited.

       As indicated, the written materials relating to TAT were

subject to the approval of petitioner.    Prior to publication, an

officer of petitioner reviewed draft copies of each edition of

TAT.

       An officer of petitioner also reviewed the language of

promotional and advertising sales materials relating to

petitioner.    Petitioner's officer, however, did not otherwise

monitor BWW's employees in the solicitation of advertisements for

TAT.
                               - 6 -

     Petitioner maintained a membership list and made it

available to BWW in connection with the distribution of TAT.

     Under the Agreement, BWW was identified as an independent

contractor, not as an employee of petitioner.    If petitioner

believed that either BWW or its employees “damaged, infringed,

tarnished, or otherwise degraded” petitioner's name, petitioner

could, at its discretion, terminate the Agreement and its

relationship with BWW.

     BWW was required to and did publish at least 2,250 copies of

each edition of TAT.   For the 4 years in issue, in connection

with the publication of TAT, petitioner received from BWW a total

of $876,697, consisting of the 4 annual $25,200 payments due from

BWW and petitioner's share of the advertising proceeds relating

to TAT.

     For 1993 through 1996, petitioner timely filed Form 990,

Return of Organization Exempt From Income Tax.    Petitioner

treated the above $876,697 as royalty income and excluded it from

its unrelated business taxable income.   For 1993, 1994, and 1996,

petitioner did not file Form 990-T, Exempt Organization Business

Income Tax Return.


                            Discussion

     Section 511(a) provides for the imposition of tax on a tax-

exempt organization's unrelated business income.    Section

512(b)(2), however, provides that “royalties” received from an
                               - 7 -

unrelated business are to be excluded from unrelated business

taxable income.   The text of section 512(b)(2) provides as

follows:


     There shall be excluded [from unrelated business taxable
     income] all royalties (including overriding royalties)
     whether measured by production or by gross or taxable income
     from the property, and all deductions directly connected
     with such income.


     Royalties reflect payment for the use of valuable intangible

property rights, such as trademarks, trade names, and copyrights.

See, e.g., Fraternal Order of Police v. Commissioner, 833 F.2d

717, 723 (7th Cir. 1987), affg. 87 T.C. 747 (1986); Rev. Rul. 81-

178, 1981-2 C.B. 135, 136.

     Royalties, however, do not include payment for personal

services.   See Sierra Club, Inc. v. Commissioner, 86 F.3d 1526,

1532 (9th Cir. 1996), affg. T.C. Memo. 1993-199, and revg. in

part on other grounds and remanding 103 T.C. 307 (1994); see also

Mississippi State Univ. Alumni, Inc. v. Commissioner, T.C. Memo.

1997-397; Rev. Rul. 81-178, 1981-2 C.B. 135, 136.

     De minimis personal participation in an unrelated business

will not necessarily disqualify royalty treatment for payments

received by a tax-exempt organization.   See Oregon State Univ.

Alumni Association, Inc. v. Commissioner, T.C. Memo. 1996-34,

affd. 193 F.3d 1098 (9th Cir. 1999).
                               - 8 -

     The parties herein agree that the publication of TAT was not

substantially related to petitioner's tax-exempt purpose, and

(absent qualification of the payments petitioner received as

royalties) petitioner concedes that the $876,697 received from

BWW during the years in issue is to be treated as unrelated

business taxable income.

     Whether payments are to be treated as royalties is to be

determined from all of the facts and circumstances of each case.

See sec. 1.512(b)-1, Income Tax Regs.

     In Fraternal Order of Police v. Commissioner, supra, a

fraternal police organization contracted with a publishing

company to publish its official magazine.   The police

organization could prepare editorials and articles for the

magazine, and the police organization could control and had final

authority over the editorial content, the sale of advertising,

the reprinting of the magazine, and the bank account into which

advertising sales proceeds were deposited, a percentage of which

the organization received.   The police organization also could

appoint the magazine's executive editor.

     This Court and the Court of Appeals for the Seventh Circuit

concluded that the organization took an active role in the

publication of the magazine and that the payments received from

the publishing company did not qualify as excludable royalties

under section 512(b)(2).
                               - 9 -

     In State Police Association of Massachusetts v.

Commissioner, 125 F.3d 1 (1st Cir. 1997), affg. T.C. Memo. 1996-

407, a police organization contracted with various publishing

companies for publication of a magazine in return for a share of

advertising proceeds from the magazine.     Largely because of the

police organization’s close supervision over and involvement in

the content of the magazine and in the sale of advertising for

the magazine, this Court and the Court of Appeals for the First

Circuit concluded that the publishing companies acted as agent

for the police organization and that the payments the police

organization received from the publishing companies constituted

unrelated business taxable income.     See id. at 7.

     Petitioner relies on Rev. Rul. 81-178, 1981-2 C.B. 135, in

which a tax-exempt organization licensed other businesses to use

the organization's trademarks, trade names, and other intangible

property in the promotion and sale of the other businesses'

products and services.   The tax-exempt organization retained the

right to approve the quality or style of the products or services

sold by the businesses using its name.     In the ruling, respondent

concluded that the payments the tax-exempt organization received

from the businesses would constitute royalty payments and that

“the mere retention of quality control rights by a licensor in a

licensing agreement situation does not cause payments to the

licensor under the agreements to lose their characterization as
                               - 10 -

royalties.”   Id. at 136.   In the ruling, however, respondent also

stated that if members of a tax-exempt organization provide

personal services in connection with the endorsement of the other

businesses' products, the payments received by the tax-exempt

organization would no longer qualify as royalties.    See id.

     Like the tax-exempt organizations in Fraternal Order of

Police v. Commissioner, supra, and State Police Association of

Massachusetts v. Commissioner, supra, petitioner herein

significantly participated in and maintained control over

significant aspects of the publication of TAT.    Petitioner

possessed authority over the editorial content of TAT, and

petitioner received and reviewed the articles, photographs,

letters, and publicity for each edition of TAT.

     This case is dissimilar from the so-called affinity credit

card cases and mailing list cases in which tax-exempt

organizations license their names to be used in the sale or

promotion of another business' unrelated products (e.g., a credit

card company's credit) and in which it has been held that the

fees received by the tax-exempt organization qualified as exempt

royalty income.   See Sierra Club, Inc. v. Commissioner, supra;

Common Cause v. Commissioner, 112 T.C. 332 (1999); Mississippi

State Univ. Alumni, Inc. v. Commissioner, supra; Oregon State

Univ. Alumni Association, Inc. v. Commissioner, supra.
                                - 11 -

        Petitioner's participation in the publication of its own

official magazine was not passive or de minimis.     TAT represented

not the magazine of BWW but the magazine of petitioner through

which petitioner promoted and actively sought not just to

capitalize on the value of its name but to carry out its

organizational purposes and objectives, which were stated in the

Fall-1995 edition of TAT as follows:


        to more effectively communicate between members of this
        department so as to encourage collective input and
        participation in short-term and long range goals of the
        Arkansas State Police.


        The $876,697 petitioner received from BWW as petitioner's

share of TAT advertising proceeds does not reflect royalty

income.     The payments are to be treated as unrelated business

taxable income.

        When tax-exempt organizations such as petitioner receive

income from an unrelated trade or business of $1,000 or more,

they are required to file Form 990-T, Exempt Organization

Business Income Tax Return.     See sec. 1.6012-2(e), Income Tax

Regs.

     Section 6651(a)(1) provides for an addition to tax unless

the failure to file required tax returns is due to reasonable

cause and not due to willful neglect.     The present case involves

close questions of fact and law that have been extensively

litigated.      We do not sustain respondent's additions to tax.
                        - 12 -

To reflect the foregoing,

                                  Decision will be entered

                             for respondent as to the

                             deficiency amounts and for

                             petitioner as to the additions

                             to tax.
