The debate over federal tax reform officially began Nov. 2, 2017, when House Ways and Means Committee Chair Kevin Brady (R-Texas) introduced H.R.1, the Tax Cuts and Jobs Act. Several provisions of the legislation affect tax-exempt organizations and their donors directly, while other, seemingly unrelated provisions may have significant adverse consequences for the exempt sector.
Some adjustments to the legislation occurred over the weekend, and the House Ways and Means Committee currently is reviewing its terms. The Senate expects to unveil its own tax reform proposal later this week, and the two houses must approve their respective bills and then agree on a compromise version to submit to President Trump.
Charitable Contribution Deduction
The act would allow taxpayers to claim itemized deductions of up to 60 percent of income — up from the current limit of 50 percent — for aggregate annual contributions to public charities and certain private foundations. Contributions exceeding that annual limit could be carried forward for up to five years.
Like the current charitable contribution deduction, this expanded deduction would be available only to taxpayers who itemize rather than claim the standard deduction. The act would nearly double the standard deduction — from $6,350 to $12,000 for single individuals and from $12,700 to $24,000 for married couples. It also would repeal or limit several other deductions, including those for medical expenses, state and local income taxes, and tax preparation costs. Studies have estimated that these changes would reduce the number of taxpayers who itemize deductions — and thus could claim a charitable contribution — from almost 30 percent to only 5 to 6 percent of all filers. Fewer taxpayers taking the itemized charitable deduction likely would lead to fewer and smaller charitable gifts.
To address this concern, Rep. Mark Walker (R-N.C.) had introduced H.R.3988, the Universal Charitable Giving Act, to provide non-itemizers with an additional deduction for charitable contributions equal to one-third of the standard deduction, or $4,000 for single individuals and $8,000 for married couples. This proposal, however, was not included in Brady’s bill.
The act would eliminate the statutory cap of 14 cents per mile on deductions for charitable use of a personal vehicle and instead would allow the rate to be adjusted for inflation.
The act would eliminate the statutory provision that excuses a charitable donor from providing a contemporaneous written acknowledgement of a gift if the donee organization files a return with the required information.
Estate and Generation-Skipping Transfer Taxes
The act would immediately double the federal estate and generation-skipping transfer tax exemption, from $5.6 million to $11.2 million per individual, allowing a married couple to shelter up to $22.4 million from transfer taxes. It also would repeal both taxes in 2024, but beneficiaries would remain entitled to a stepped-up basis in estate assets. The legislation also would lower the gift tax rate, from 40 percent to 35 percent.
Unrelated Business Income Tax (UBIT)
The act would confirm that all organizations exempt from tax under Internal Revenue Code §501(a) are subject to the tax on unrelated business income, including entities that are also exempt under other sections of the law, such as §115, relating to entities affiliated with state and local governments. The legislation also would declare that income from research is subject to UBIT unless results of the research are made available to the public without charge.
Colleges and Universities
The act would disallow any charitable contribution deduction for amounts paid for the right to purchase tickets to college athletic events. Current law allows a deduction for 80 percent of such payments.
The legislation also would impose a 1.4 percent excise tax on the net investment income from the endowment of any private college or university that has at least 500 students and has investment assets valued at $250,000 or more per full-time students. State colleges and universities would not be liable for the tax.
Exempt Organizations as Employers
The value of housing provided to an employee for the employer’s convenience would be excludable from the employee’s income only to up to $50,000 per year, limited to one house, and phased out for highly compensated employees. Similar rules would apply to other housing provided to employees of educational institutions.
A tax-exempt employer would incur a 20 percent excise tax on compensation of more than $1 million paid to any of its five highest-paid employees. Compensation includes cash, the value of all benefits except contributions to tax-qualified retirement plans and amounts excludable from gross income, and parachute payments that exceed three times the employee’s base salary.
Tax-exempt employers also would pay unrelated business income tax on the value of transportation fringe benefits and on-premises gyms and other athletic facilities that employees can exclude from their taxable income.
The act subjects the net income of all private foundations to a uniform excise tax rate of 1.4 percent, eliminating the current 2 percent excise tax, which can be reduced to 1 percent if the private foundation meets certain distribution requirements.
The legislation also contains two special rules for private foundations. A foundation that operates an art museum would need to be open to the public for at least 1,000 hours each year. A foundation could own a for-profit business without violating the excess business holdings rule if (i) the foundation holds all the voting stock, (ii) it acquired its interest by gift or bequest, (iii) all net operating income is distributed annually to the foundation, and (iv) the directors and executives of the business are not substantial contributors to the foundation and do not control its board.
Financing for Exempt Organizations
No additional new market tax credits would be available after 2017 for investments in qualified community development entities that serve low-income communities and low-income individuals. Private activity bonds issued after 2017 by state and local governments to finance private projects, including projects for exempt organizations such as hospitals and educational institutions, would no longer be exempt from income tax. Interest on advance refunding bonds issued after 2017 also would be taxable. Governments and other entities would no longer be able to issue tax credit bonds, which generate federal tax credits fully or partially in lieu of interest payments.
Sponsors of donor-advised funds would have to disclose annually their policies on inactive funds and the average amount of grants made from their funds.
Political Campaign Intervention
Churches and their conventions, associations and integrated auxiliaries would not lose their tax-exempt status solely because a sermon or presentation during a religious service or gathering took a position on behalf of, or in opposition to, a political candidate, so long as the speech was in the ordinary course of the organization’s business and its expenses were de minimis. Other §501(c)(3) organizations would remain subject to the absolute statutory prohibition on campaign intervention. For a full discussion of efforts to remove the political campaigning prohibition from section 501(c)(3), see McGuireWoods’ March 2017 legal alert “GOP Proposes Allowing Charities to Take Political Sides.”