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UBTI Changes to the Tax Cuts and Jobs Act Impacting Tax-Exempt Organizations

September 14, 2018
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On December 22, 2017 the Tax Cuts and Jobs Act of 2017 (TCJA) was signed into law.  While much of the attention from tax practitioners and the press has related to the significant changes made by the TCJA to the individual and for-profit business tax code sections, the passage of the TCJA will have long lasting implications on tax-exempt organizations as well.  In particular, a number of revisions were made to the unrelated business taxable income (UBTI) rules, which must be appropriately contemplated and planned for by tax-exempt organizations when structuring business activities and preparing to file Forms 990 and 990-T.  

UBTI - Separately computed for each “separate” trade or business activity

Effective for tax years beginning after December 31, 2017, organizations that carry on more than one unrelated trade or business will now be required to separately calculate UBTI for each “separate” trade or business, thereby prohibiting the use of losses stemming from one trade or business to offset income from another trade or business.  While easily stated, this rule appears much harder to apply in practice.  For instance, it is unclear from the language in the TCJA as to what will be considered a separate trade or business activity.  This raises a number of questions for tax-exempt organizations.  For example:

  • Will the gains or losses from each alternative investment structured as a partnership be considered gains or losses from separate trades or businesses? What about different types of gains or losses (e.g., rental income vs mining income) incurred by one such partnership? 
  • Can all rental activities be aggregated together when determined gains or losses or will each rental activity be considered a separate trade or business?

Certain fringe benefits to employees will now be treated as UBTI

Effective for amounts paid or incurred after December 31, 2017, another significant change in the TCJA is that certain employee transportation fringe benefits paid for by tax-exempt organizations will now trigger UBTI.  In particular, as part of the TCJA, for-profit employers will no longer be able to deduct the value of certain employee transportation fringe benefits from taxable income, including employer provided parking, parking passes, transit passes, bus or rail passes, van pools, and similar payments or reimbursements to cover an employee’s normal commuting expenses.  As a result, if a tax-exempt organization incurs the cost of any such employee transportation fringe benefit and the employee is not taxed for the receipt of such benefit then, pursuant to the TCJA, the amount of the benefit to the employee will be includible as UBTI to the tax-exempt organization. 

This provision was put into place to create parity between tax-exempt organizations and taxable organizations with respect to the benefits that can be offered to employees.  Consistent with this principle, if a tax-exempt organization taxes its employees on employee transportation costs paid for by the organization, then UBTI will be avoided. 

Form 990-T and Estimated Tax Payments

The tax rate on UBTI will correspond to the tax rates as imposed under the TCJA (e.g., 21% for tax-exempt organizations organized as corporations).  Throughout the year, tax-exempt organizations should analyze their potential UBTI and related expenses to determine if the organization needs to make estimated tax payments.  Although the IRS has not provided specific guidance on these provisions, tax-exempt organizations should follow the general rule that quarterly estimated tax payments are required when an organization’s expected annual tax liability will be $500 or more.

Tax-Exempt Community’s Response to the TCJA UBTI Provisions

To say the two UBTI provisions discussed above were not well received by the tax-exempt community would be an understatement.  Since the TCJA was signed into law, tax-exempt organizations and their advisors have requested that the IRS provide clarification on the new provisions and delay its implementation until proper guidance has been provided.  There are indications that the IRS is considering the postponement of the two UBTI provisions.  Recently, a bill, H.R. 6037, was introduced in the United States House of Representatives to repeal the UBTI provision of the TCJA regarding certain fringe benefits to employees, retroactive to the beginning of 2018.  

States Decoupling from Federal UBTI Rules

In response to these new UBTI rules, the North Carolina Legislature recently passed a bill, Appropriations Act of 2018, which decouples North Carolina from the federal UBTI provision on employee parking from the TCJA.  This bill ensures that tax-exempt organizations will not be required to pay state unrelated business income tax or file state tax unrelated business income tax forms with respect to their employees’ parking expenses.  North Carolina’s governor had previously vetoed a budget bill that included the decoupling, but the Legislature overruled the veto, making the provision effective retroactively to the start of 2018. 

Furthermore, the New York State Senate and Assembly recently approved a bill, Senate Bill S8831, to decouple New York state law from the new federal UBTI provision on tax-exempt organization’s employee expenses for transportation benefits.  The bill has not yet been delivered to New York’s governor to sign or veto.

Based upon the negative reaction to these UBTI rules impacting tax-exempt organizations, it’s likely that more states will consider enacting similar decoupling legislation.

Impact of UBTI Provisions in 2018 and Moving Forward

As discussed above, the inclusion of these two new UBTI provisions in the TCJA will impact many tax-exempt organizations.  There are currently many unanswered questions regarding the application of these provisions.  As additional guidance is provided by the IRS, we will keep you updated on the potential impact to your organization.