How Tax Reform Could Impact Not-for-Profits– December 13, 2017

Posted by Sarah Miksit, CPA

On Saturday, December 2, 2017, the Senate passed its version of tax reform, just two weeks after the House bill was approved. Both bills include many changes expected to affect tax-exempt organizations as early as the tax year beginning January 1, 2018. While additional changes may still occur during the Conference Committee’s reconciliation process, there are enough similarities between the two bills that not-for-profits should begin familiarizing themselves with some of the key areas that could have an impact.

Deductions and Contributions

Both the House and the Senate have included in their respective bills changes affecting standard deductions, the deductibility of cash contributions and the charitable contribution deduction. Both bills:

  • Almost double the standard deduction, which may decrease the percentage of tax filers who itemize to approximately 5% of total tax returns and could have significant tax implications for charitable donations.  Currently about 30% of tax filers itemize their deductions.

  • Increase the deductibility of cash contributions to 60% of adjusted gross income (AGI) for those taxpayers who do still itemize.

  • Remove the limitation on total itemized deductions by repealing the Pease limitation.

For medical expenses, the Senate bill proposes lowering the medical-expense deduction threshold to 7.5% for the next two years, while the House bill repeals the deduction completely.

Unrelated Business Income Tax (UBIT)

Both the House and the Senate bills also include impactful changes to UBIT:

  • Under the Senate version, UBIT would need to be computed for each unrelated business activity, and losses from one trade or business would no longer be used to offset income from a separate trade or business.

  • Under the House version, the exception that applied to fundamental research organizations to exclude any income from UBIT derived from research performed for any person would be modified to only exclude income from research that was made freely available to the public. The House version also modifies UBIT to include the value of certain fringe benefits, such as qualified transportation benefits.

  • Both the House and Senate propose a reduction in the UBIT rate to 20%.  

Political Activities

One of the interesting changes proposed by the House bill would modify the Johnson Amendment, which currently prohibits section 501(c)(3) organizations from making political statements in the ordinary course of activities. This proposal would permit these organizations to participate in certain political activities, such as making political statements and endorsing candidates, and would apply beginning January 1, 2019, through December 31, 2023.

Executive-Level Compensation

One item that both bills have included relates to compensation paid to a covered employee, defined as the five highest-paid employees for the current year or any preceding tax year beginning after December 31, 2016. An excise tax of 20% would be applied to total compensation paid to an employee in excess of $1 million, which would include cash payments, cash value of noncash items including benefits and excess parachute payments.

Higher Education

Under both the House and the Senate proposals, any nonprofit college or university would be subject to an excise tax of 1.4% of their net investment income if their aggregate fair market value of assets exceeds a certain amount. The Senate bill marks that threshold at $500,000 per full-time student, while the House marks it at $250,000 per full-time student. The market value of assets used directly in the institution’s exempt purpose would be excluded when determining whether the excise tax will be applied, but would include all other organizations under common control. A concern for those in the nonprofit sector is the potential that this may lead to taxation of a wider variety of assets for all tax-exempt organizations.

Private Foundations

The House proposal changes the excise tax on investment income to 1.4% instead of 1% or 2%.   This simplifies the tax calculation for private foundations by eliminating the need to determine if the foundation qualifies for the reduced tax rate. It also raises the tax of foundations who regularly qualify for the reduced rate.
 
Not-for-profit boards and senior executives in these organizations should become familiar with these changes now, and, once final legislation is in place, collaborate with advisors on any potential impact to their bottom line.
 
Contact Sarah Miksit at smiksit@cohencpa.com or Marie Brilmyer at mbrilmyer@cohencpa.com for more information.
 
Cohen & Company is not rendering legal, accounting or other professional advice. Any action taken based on information in this blog should be taken only after a detailed review of the specific facts and circumstances.