The Tax Cuts and Jobs Act that was passed by President Trump late last year affects all types of businesses, and taxpayers are still trying to wrap their heads around these changes. Unintended or not, this new legislation can be especially difficult for the nonprofit sector. The Tax Policy Center projects that charitable giving will be reduced by up to $20 billion this year thanks in part to the law change that raised the standard deduction: fewer individuals will be itemizing their deductions, which means fewer taxpayers will see a tax benefit from donating to charity. While this is a worrisome dilemma, nonprofits have even more to concern themselves with. There are three changes in particular brought forth by the tax reform that are confounding many nonprofit executives, including the deductibility of certain fringe benefits, changes to how Unrelated Business Income Tax is calculated and an additional excise tax for certain organizations.
Qualified Transportation Fringe Benefits
Employer-sponsored qualified transportation fringe benefit programs are plans that reimburse employees for certain transportation costs, including parking, public transportation, or biking-related expenses. Historically, the costs of running these programs have been deductible business expenses for the nonprofits, and the benefits would be excluded from the employees’ income. Under the Tax Cuts and Jobs Act (TCJA), employees are still able to receive this benefit tax-free, but employers are unable to take a deduction for the benefit, and they must also classify the employer-provided amount as “unrelated business income.” This change will essentially impose a new filing requirement and a new tax on nonprofits as unrelated business income is taxable to the organization if it exceeds a certain amount.
Separating UBIT Losses from Income
Another change under the TCJA is the provision that prevents nonprofits from aggregating their unrelated business activity income and expenses to determine their final Unrelated Business Income Tax (UBIT). Aggregating taxable business activities has been allowed for years, which simplified compliance for many nonprofits. However, the new tax law reverses this rule. Nonprofits must now calculate their UBIT for each unrelated business activity separately. This ultimately prevents the organization from offsetting income from one business activity with loss from another. The one concession to this rule is that net operating losses that were generated in previous years can continue to offset positive unrelated business income (from any activity) until the net operating loss is depleted.
New Excise Tax
For tax years beginning after December 31, 2017, the TCJA assesses a 1.4% annual excise tax on the net investment income of certain nonprofit colleges and universities. The institutions subject to the tax are those with at least 500 full-time students and investment assets of at least $500,000 per full-time student, although state institutions are exempt. Investment assets are just that: assets that are held primarily for investment purposes. Assets that are used directly for the nonprofit’s exempt purpose are not included in this calculation, and fortunately, this typically includes the university’s buildings and land. Paying the additional tax may not be the biggest headache for nonprofits; rather, calculating the tax is where many institutions will feel stymied. Calculating this tax can be tricky. For example, the act makes clear that the investment income and investment assets of related organizations must be included in the calculation, which, for many universities, could include a much larger affiliated medical institution.
While there may be workarounds for some of these issues, the nonprofit sector, simply put, has many new challenges to address with the TCJA. There are other changes in the tax law that can significantly alter a nonprofit’s tax strategy for now and years into the future that extend beyond the scope of this post. Luckily, our GBQ Advisors can help you understand and address these new tax laws. If you’d like to learn more about what we do, or if you have additional questions about how the new tax reform will impact your business, contact us directly. We look forward to speaking with you soon.