Under the 2017 Tax Cuts and Jobs Act (TCJA), Congress imposed an unrelated business income tax on certain fringe benefits a nonprofit employer might provide to its employees. Nonprofit employers that exclude certain fringe benefit amounts from taxable employee compensation will be required to report the amount as unrelated business taxable income (UBTI). The inclusion of these benefits as UBTI could lead to a required Form 990-T filing and tax liability for organizations that previously had no such filing requirement.
QUALIFIED TRANSPORTATION BENEFITS
An employer cannot deduct the expenses for providing qualified transportation benefits under the new tax law. These benefits include commuter transportation benefits, transit passes and any qualified bicycle commuting reimbursement. A nonprofit organization can avoid the addition of these items to UBTI if it provides the benefits as taxable compensation to the employees and includes the cost of the benefits on employees’ Forms W-2.
QUALFIED PARKING BENEFITS
Qualified parking benefit deductions are also disallowed under the new tax law. These benefits include parking provided to an employee on or near the business premises of the employer, or on or near a location from which the employee commutes to work by transportation. If a nonprofit organization treats the benefits as taxable wages, it is not required to include the benefits in UBTI and pay tax on them, but the organization will incur additional payroll taxes.
ON-PREMISES ATHLETIC FACILITY
While the new tax law states that UBTI should increase by employee use of on-premises athletic facilities, the expanded definition of UBTI under IRS code section 512(a)(7) does not include these types of benefits. Although such benefits are not yet UBTI, it is possible that future provisions of the law may make these benefits taxable. These benefits include expenses paid for use of athletic facilities located on property that the organization owns or leases.
Section 13304 of TCJA disallows the deduction of certain entertainment expenses that are not “directly related to” or “associated with” the tax-exempt organization’s trade or business. Entertainment expenses are considered to be “directly related to” the business when:
- the main purpose of the combined business and entertainment is the active conduct of business,
- the organization engages in business during the entertainment period,
- the organization has more than a general expectation of getting income or some other specific business benefit at some future time, and
- the entertainment takes place in a clear business setting.
Entertainment is considered to be “associated with” the organization’s trade or business if there is a clear business purpose for the expenditure, such as to get new business or to encourage the continuation of an existing business relationship.
GENERAL BUSINESS CREDITS
Unrelated business income tax is reduced by any applicable tax credits, including the general business credits. The new tax law created a general business credit equal to 12.5% of wages paid to qualifying employees who are on family or medical leave. To be eligible, the organization must have a written policy allowing full-time employees two weeks of annual leave (and part-time employees a pro-rata amount) with at least 50% of normal wages. For an employer claiming a credit for wages paid to an employee in 2018, the employee must not have earned more than $72,000 in 2017. In addition, the leave cannot be paid for by a state or local government.
The credit is increased by 0.25% for each percentage point by which the amount paid to a qualifying employee exceeds 50% of the employee’s wages, with a maximum of 25%. In certain cases, an additional limit may apply. The credit is for wages paid in 2018 and 2019.
A tax-exempt organization is to include as UBTI any disallowed deduction incurred by the organization after December 31, 2017. This rule does not apply to the extent the amount paid or incurred is directly connected with an unrelated trade or business which is regularly carried on by the organization. For an exempt organization organized as a corporation, UBTI would be taxed at a rate of 21% beginning with tax year 2018.
For help analyzing any potential tax liability for your organization and for more information, please see P.L. 115-97, IRS Publication 15-B, or you may contact Donita Joseph at email@example.com, Chérie Williams at firstname.lastname@example.org, or 844.4WINDES (844.494.6337).