2018 Tax Alert - Tax-Exempt Organizations Section
The following is the Tax-Exempt Organizations section of the 2018 client advisory "Tax Alert: How the New Tax Laws Will Affect You Now and in the Future."
The full version of this client advisory is available here.
UBTI – Under the new law, a tax-exempt organization is required to calculate separately the net unrelated business taxable income ("UBTI") of each unrelated trade or business. Any loss derived from one unrelated trade or business may not be used to offset income from another unrelated trade or business, and NOL deductions are allowed only with respect to the trade or business from which the loss arose. This change does not apply to any NOLs arising in a tax year beginning before January 1, 2018, and such pre-2018 NOLs may be applied to reduce aggregate UBTI arising from all unrelated businesses. The Act also subjects exempt organizations to UBTI on the amount of certain fringe benefits for which a deduction is disallowed. These include qualified transportation fringe benefits, any parking facility used in connection with qualified parking, and on-premises athletic facilities. The provision does not apply to the extent that the amount is directly connected with a regularly carried-on unrelated trade or business.
New Excise Tax – The new law imposes a 1.4% excise tax on the net investment income of private colleges and universities with at least 500 students (more than 50% of which are located in the United States) and non-exempt use assets with a value at the close of the preceding year of at least $500,000 per full-time student. A university's assets include assets held by certain related organizations (including supporting organizations to the university and organizations controlled by the university), and a university's net income includes investment income derived from those assets. State colleges and universities are not subject to this new tax.
Athletic Seating – The Act eliminates the charitable contribution deduction for payments made for the benefit of a higher education institution that grant the donor the right to purchase seating at an athletic event in the athletic stadium of such institution. Prior to this provision, a deduction of 80% of the value of the payment was allowed.
Executive Compensation – The Act treats tax-exempt organizations on par with corporations with respect to certain compensation payments made to specific individuals. The new law imposes an excise tax (new IRC Section 4960) equal to corporate tax rate of 21% on compensation in excess of $1 million paid to an applicable tax-exempt organization's five highest-paid employees for a tax year (or any person who was such an employee in any tax year beginning after 2016). The excise tax also applies to parachute payments exceeding the portion of the base amount (defined as the average annual compensation of the employee for the five tax years before the employee's separation from employment) that is allocated to the payment. The tax on excess parachute payments applies only to payments made to employees who are highly compensated individuals as defined in the IRC.
Bond Provisions – The Act eliminates advance refunding bonds but retains the ability of a tax-exempt organization to issue tax-exempt private activity bonds through a state government conduit. Advance refunding is a means by which an issuer may refinance tax-exempt bonds issued more than 90 days previous by issuing more tax-exempt bonds at a lower interest rate and using the proceeds to repay the outstanding bonds. Private activity bonds cannot be refunded, but other bonds can be refunded one time. The Act eliminates this one time rule, with the result that issuers must use taxable bonds (with correspondingly higher interest rates) for advance refunding purposes. The Act repeals the rules relating to, and prospective authority to issue, tax credit and direct-pay bonds, after December 31, 2017. Tax credit bonds replace a portion of the interest on bonds with a tax credit, or, in the case of "direct-pay bonds," with a payment of interest from the federal government.
Local Lobbying Expenses – The Act amends IRC Section 162(e) to repeal the exception for amounts paid or incurred related to lobbying local councils or similar governing bodies, including Indian Tribal governments. The removal of this exception means that Section 501(c)(4), 501(c)(5), and 501(c)(6) organizations will need to account for these expenses in evaluating the proxy tax, the deductibility of membership dues, and nonprofit information reporting under IRC Section 6033.
Standard Deduction and Estate Tax – Although the Act retains the charitable contribution itemized deduction, as described above, the Act also approximately doubles the standard deduction for taxable years beginning after December 31, 2017 and before January 1, 2026, which is expected to reduce the number of taxpayers who itemize their deductions during those years. In addition, since the new law doubles the estate tax exemption for estates of decedents that die after December 31, 2017 and before January 1, 2026, the expansion of the standard deduction and estate tax exemption could have a significant impact on charitable giving.
The Act has made substantial changes to the tax laws. There are many "glitches" in the Act that will need to be addressed in technical correction legislation. Since technical correction legislation requires a 60% vote in the Senate (it cannot come under reconciliation rules), there will need to be bi-partisan cooperation to fix the problems that such fast paced passage of the Act produced. Second, technical corrections require unanimous consent by both the majority and minority staffs of the House Committee on Ways and Means and the Senate Finance Committee. If anyone disagrees about the legislative intent of a provision and whether the statute reflects that intent, then the provision is not a technical correction but, rather, a change in policy. Thus it may take quite a while for any technical correction legislation to be passed.
Effective tax planning including choice of entity structures will be made based on the new laws that are now in effect. Only time will tell how these changes will impact individuals, businesses, and the economy.
This communication is intended for general information purposes and as a service to clients and friends of Verrill Dana, LLP. This publication, which may be considered advertising under the ethical rules of certain jurisdictions, should not be construed as legal advice or a legal opinion on any specific facts or circumstances, nor does it create attorney-client privilege.