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Tax Implications of Senate's Version of Tax Reform for Exempt Organizations

Due Diligence |Higher Education|Not-for-Profit|Tax|Tax Reform

By Debra Ries

Keith Donnelly also contributed to this article. 

On November 9, 2017, the Senate Finance Committee released policy highlights of their version of the “Tax Cuts and Jobs Act H.R.1” (“Act H.R. 1”).   Although the actual proposed legislation has not yet been released at the time of this writing, the Joint Committee on Taxation released, on the same day, “The Chairman’s Mark of the Tax Cuts and Jobs Act” (hereafter referred to as “the Chairman’s Mark version”) scheduled for review by the Senate Finance Committee on November 13, 2017.

Many provisions within the Chairman’s Mark version appear to be similar to Act H.R. 1 that the House Ways and Means Committee released on November 2, 2017.  However, the Senate’s version of tax reform has a number of key differences, some of which would directly impact tax-exempt organizations:

Charitable Contributions – Similar to the House’s proposed modifications to the charitable contribution deduction, the Chairman’s Mark version would increase the adjusted gross income percentage limitation for cash contributions made by an individual taxpayer to public charities and certain other organizations from 50% to 60% of adjusted gross income.   In addition, the Chairman’s Mark version would repeal the charitable deduction for a payment to an institution of higher education in exchange for which the donor receives the right to purchase tickets or seating at an athletic event.

Unrelated Business Income (UBI) – The Chairman’s Mark version contains provisions that would require an exempt organization to calculate UBI separately with respect to each of its trade or businesses, thus requiring the organization to identify separate trade or business.  In the proposed framework, net operating loss deductions would only be permitted to offset unrelated business taxable income from the trade or businesses from which the income was derived. Thus, the deduction (a loss) from one trade or business could not be used to offset income from another trade or business. 

Excise tax on private colleges and universities – Act H.R. 1 would impose a 1.4% excise tax on net investment income applicable to private colleges and universities with 500 or more students and assets valued at $250,000 per full-time student (originally $100,000 but subsequently amended).  State colleges and universities would not be subject to the tax.

Similarly, the Senate’s proposal would impose a 1.4% excise tax on the net investment income of private colleges and universities with a fair market value of aggregate assets (other than those assets used in directly carrying out the institution’s exempt purpose) of at least $250,000 per student.  Note that for purposes as to whether an institution meets the asset per student threshold, the Senate’s version also provides that the net investment income and assets would include amounts with respect to an organization that is related to the school.  

Changes to the Intermediate Sanctions Rules – The Chairman’s Mark version would eliminate the rebuttable presumption of reasonableness under the intermediate sanctions regulations that provide to an organization a presumption of reasonableness if certain procedures are followed (advance approval by an authorized body, reliance on comparable data, and adequate and concurrent documentation).  Instead, the proposed provision would establish that an organization that has satisfied these requirements has met a “minimal standard of due diligence” that does not necessarily result in a presumption of reasonableness.

The Chairman’s Mark version would also make changes to the excise tax imposed under the intermediate sanctions rules, modify the definition of “disqualified persons” to specifically include athletic coaches and investment advisors, and broaden the reach of intermediate sanctions to include organizations exempt under Sections 501(c)(5) and 501(c)(6) of the Internal Revenue Code.

Name and Logo Royalties – The Chairman’s Mark version would modify the application of the UBI rules with regard to the sale or licensing of an organization’s name or logo. Specifically, any income from the sale or licensing by an organization of any name or logo of the organization (including a trademark or copyright related to the name or logo) would be included in the organization’s UBI. 

Repeal of exemption for professional sports leagues – Historically, the IRS has provided tax exempt status to business leagues, including a specific exemption for “professional football leagues,” a phrase which has been broadly construed to apply to all sports leagues. The Chairman’s Mark version would eliminate a tax exemption for any professional sports league.

Excise tax on excess tax-exempt organization executive compensation – The Chairman’s Mark version retains the House’s imposition of an excise tax on certain payments to highly compensated employees. The provision provides for a 20% excise tax on compensation in excess of $1 million paid to a “covered person,” namely any of the organization’s top five highest paid employees.

Nonqualified deferred compensation – The Chairman’s Mark version would require any compensation deferred under a nonqualified deferred compensation plan to be includible in gross income of the service provider when there is no substantial risk of forfeiture of the service provider’s rights to such compensation.

Limitation on employer’s deduction for certain expenses - Similar to the Act H.R. 1, the Chairman’s Mark version would eliminate the 50% deduction for entertainment, amusement, or recreation expenses directly related to the conduct of a taxpayer’s trade or business. In addition, this version would disallow any deductions for transportation fringe benefits provided to employees. 

The description of the proposed changes in The Chairman’s Mark of the “Tax Cuts and Jobs Act” does not provide specific information as to how the respective sections of the Internal Revenue Code would change.  More to come once the proposed legislation is released.

Please return to the Our Thoughts On…Tax Reform blog at www.schneiderdowns.com/our-thoughts-on-tax-reform for more updates as they become available.

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