By Jane M. Searing and Megan R. Ryan | Clark Nuber PS
On Thursday, November 2, the House Ways and Means Committee released H.R. 1, the Tax Cuts and Jobs Act. This is just the beginning of the sausage-making process. Most of the legislation is focused on individuals and businesses. However, there are some special treats for the tax-exempt sector and there is much to be commented on. The following is a first take on the highlights and lowlights, through the charitable sector lenses.
Individual Tax Provisions That May Affect Charitable Contributions
Itemized Deductions vs. Standard Deduction and the Personal Exemption
- Keeps the charitable contribution deduction intact for individual taxpayers as an itemized deduction and increases the limit on cash contributions from 50% to 60% of adjusted gross income (AGI).
- Indexes the standard charitable mileage rate for inflation at the same rate used for medical and moving mileage.
- Disallows the charitable contribution deduction associated with preferential seating at college sporting events, which is currently limited to 80% of the donation.
- Other itemized deductions left in place, although subject to new limits by category, include:
- State real and personal property taxes up to $10,000
- Home mortgage interest deduction up to $500,000 of indebtedness
- Elimination of the phase out limitation on itemized deductions (Pease Act). It is replaced with the specific limits on taxes, mortgage interest deductions and the percentage limits on charitable contributions.
- Another significant itemized deduction eliminated in the proposed legislation is the state income tax deduction. Shrinking the overall number of taxpayers who itemize may have a chilling effect in individual charitable giving.
- Eliminates the personal and dependency exemption but increases the standard deduction. This is a bit of a bait and switch. The standard deduction goes from $6,350 to $12,000 for individuals; and $12,700 to $24,000 for married couples. The $4,050 personal exemption is eliminated. Therefore, it is really a change from $10,400 to $12,000 for individuals and $20,800 to $24,000 for married couples. The benefit may be less, or lost altogether, if dependency exemptions are lost in the bargain. The new law provides for child and personal credits (subject to income limitations); however, with a $300 personal credit, if an individual is in the 25% tax bracket that is still only the equivalent of a $1,200 personal exemption. Still a net loss over the $4,050 personal exemption the individual had before the proposed reform.
Moving more individuals out of the group of taxpayers who itemize, and having them instead take the standard deduction, means there is less incentive to contribute. One item absent from the legislation is language from the Universal Charitable Giving Act, which would have provided individuals who do not itemize on their tax return an incentive to make charitable contributions. This is because it would provide a limited income tax deduction not subject to the debate over whether itemized deduction, versus standard deduction, better serves the average American taxpayer.
Death and Taxes
- Estate tax threshold doubles from $5M to $10M and phases out over six years. This may reduce the overall incentive to make charitable bequests.
- Remember, many states do not have their estate tax thresholds tied to the federal exclusion amount, so there is still reason to discuss charitable estate planning with donors if only to strategize around state level estate tax issues.
Provisions Directly Impacting Exempt Organizations
Exempt Organizations as Employers
- There is a new proposed tax on fringe benefits offered to employees of tax-exempt organizations. The tax is imposed as an unrelated business income tax on the employer. The tax is imposed on benefits such as parking, transportation, on-site gyms and other athletic facilities. It is confusing at first because the question, “where is the income?” arises. The tax is meant to put for-profit and non-profit employers on equal footing with respect to this proposed change, rather than punish non-profits. For-profits have had the deduction for parking, transportation, and on-site athletic facility fringe benefits under Section 274 and Section 132 eliminated. Because non-profit employers generally do not pay taxes, eliminating the income tax deduction would not be felt. Therefore, the only mechanism that makes sense is to IMPOSE an equal income tax on the disallowed deduction on the tax-exempt employer. Imposing an unrelated business income tax on the disallowed benefit is the mechanism.
- There is a new 20% excise tax imposed on tax-exempt organizations (exempt under Section 501(a), Section 521(b)(1) farmers’ cooperatives, Section 115(1) governmental entities, or Section 527(e)(1) PACs) paying executive compensation in excess of $1,000,000. Remuneration includes all compensation paid by all related organizations.
- Limitation on exclusion for employer provided housing capped at $50,000 (half that amount for married individuals filing separate returns) and limited to one home. The $50,000 cap is reduced for excess compensation under IRC 414(q)(1)(B)(i), but not below zero.
Donor Advised Funds (DAFs)
- Requires organizations sponsoring DAFs to annually disclose:
- Average amount of grants made from DAFs during the taxable year expressed as a percentage of the value of assets held in such funds at the beginning of such taxable year.
- Policies on donor advised funds and indicate whether the organization has policies regarding:
- Frequency of distributions from DAFs, and
- minimum level distributions from DAFs.
A copy of any such policy must be included with the DAF sponsor’s tax filing.
- Eliminates the confusing language in the code section 170(f)(8) suggesting charities can provide some other documentation or form other than the contemporaneous donor acknowledgment letter, which led to charities attempting to use the Form 990, as well as Treasury issuing proposed regulations, etc. for charitable gifts over $250.
Excise Taxes for Private Foundations and Endowments
- Simplifies net investment excise tax on private foundations at a rate of 1.4%
- Subjects the endowments of organizations exempt as a college or university (other than state schools) that have at least 500 students and an endowment valued at $100,000 per student at the close of the preceding tax year to an excise tax of 1.4% on net investment income. The number of students is based upon full-time equivalents.
- Excess Business Holding exception carve out for Private Foundations, if the private foundation:
- Owns 100% of the voting stock of a for-profit business;
- Acquired all its interest in the business means other than by purchase;
- The business distributes all its net operating income for any tax year to the private foundation within 120 days of the close of the tax year; and
- The business’s directors and executives are neither substantial contributors to the private foundation, nor make up a majority of the private foundation’s board of directors;
Then the holding in the business is not an excess business holding. Note this carve out specifically does not apply to DAFs, so DAFs are still subject to the full set of excess business holdings rules.
Qualification for Exempt Status
- Section 5102 of the Bill proposes amending IRC section 4942(j) pertaining to operating foundations to require an operating foundation functioning as an art museum to be open to the public for at least 1,000 hours during “normal business hours” every tax year to be recognized as a private operating foundation. This provision, highlighting art collectors, is a likely outcome of the Senate Finance Committee inquiry into private foundation operations of museums, conducted in 2015. The report issued in 2016 stated the results were not conclusive. However, this provision in the GOP tax bill is a sign Congress still “feels” the playing field needs leveling.
- Weakens the Johnson Amendment – Allowing for de minimis, incremental expenses to be incurred to engage in political speech in the ordinary course of a church’s activities. Includes publishing and distributing statements for any political campaign on behalf of, or in opposition to, any candidate for public office. Specifically calls out religious organizations as allowed to engage in this activity.
Unrelated Business Income
- Provides clarification of entities with dual exempt status, stating they are subject to unrelated business income tax.
- Narrows the exclusion of research income to include only research that is made publicly available. Adds more precise language striking “from research” and inserting “from such research” in section 512(b)(9).
Other Exempt Activities
- The Bill would repeal the New Markets Tax Credit
Please contact Jane Searing and Megan Ryan at firstname.lastname@example.org if you have questions, or would like additional information.
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