Tax Reform Effect on Non-Profits and Universities

5 Things to Know about the Tax Reform Effect on Non-Profits and Universities

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The recent federal tax law affects virtually every U.S. individual and business on a level not seen in decades. For charitable organizations, the tax reform effect on non-profits could be detrimental.

The law includes measures that will impact non-profits, significantly amplifying the need for such organizations to modernize operations.

Organizations must re-evaluate their strategic plans to overcome potential challenges, which could bring a high financial cost.

1. Itemization: To Be or Not to Be?

The new law increases the standard deduction to $24,000 for married individuals filing a joint return, $18,000 for head-of-household filers, and $12,000 for all other individuals. All increases are temporary, starting in 2018 and ending after Dec. 31, 2025.

The move could deal a financial blow to non-profits. The concern is that it will discourage people from giving, since the change dramatically reduces the odds taxpayers will benefit from itemizing deductions.

The full tax reform effect on non-profits has yet to be determined, but the concern rippling through the non-profit sector is undeniable, where most non-profits rely on charitable contributions.

The Council on Foundations says the change could bring a drop in charitable giving of up to $4 billion every year, “significantly decreasing the philanthropic sector’s ability to provide resources and services to people across the United States and abroad.”

It remains to be seen whether any of that will be offset due to the increase in the charitable contribution deduction limit from 50 percent to 60 percent of adjusted gross income, as high earners will now be able to give more to charities before hitting that new limit.

2. UBTI Changes

Unrelated business taxable income (UBTI) tax computation is also changing.

Even tax-exempt organizations might be liable for tax on its unrelated business income. It comes from a trade or business, such as sales of goods, that’s regularly carried on but not substantially related to the charitable, educational or another purpose that forms the basis of the organization’s exemption.

The new tax law requires organizations with more than one stream of unrelated business income to compute the taxability of each revenue stream separately. The $1,000 specific deduction then applies to the combined net income of the organization’s activities, not to each separate activity. This will prevent organizations from offsetting losses from one stream against revenues from other streams.

But tax-exempt organizations could use one year’s losses on an unrelated business to reduce taxes on another year’s operation of the same unrelated business.

In January, the National Council of Nonprofits said the change could result in increased taxes on non-profits, taking revenue away from mission-related programs and services.

Unrelated business income will also be taxed at the new flat 21 percent corporate tax rate. (Under prior law, the maximum corporate tax rate topped out at 35 percent.) So, non-profits will pay a lower tax rate on the unrelated business taxable income than under prior law.

3. Hiring Could Get Harder

The new law imposes a 21 percent excise tax on compensation of $1 million or more to any of a non-profit’s five highest-paid employees.

Organizations must consider this new excise tax in their overall tax planning and be aware that this extra payment may require budget cuts elsewhere.

4. University Sports Take a Hit

University sports programs will lose a key fundraising opportunity, a similar effect to tax reform effect on non-profits.

The new tax law takes away the deduction for donations made for seating rights at athletic events. Under prior law, donors could take a charitable contribution deduction of 80 percent.

In a December 2017 ESPN article, Joe Castiglione, athletic director at the University of Oklahoma, said the hit to schools will be “significant.” Some schools let boosters make multiple years of season-ticket donations under prior law.

5. University Endowments, Too

Private universities with 500 or more students could face an excise tax of 1.4 percent on the net investment income from their endowment.

If the aggregate of a university’s assets, excluding assets held for charitable purposes, is $500,000 or more per student, it’ll be subject to this new endowment excise tax. Related organizations can be included in the computations.

According to a December 2017 report in the Harvard Crimson, university president Drew G. Faust called the new endowment tax “unprecedented” and said it will constrain the university’s finances and limit its capacity to fund certain programs.
Administrators estimated such a tax would have cost the university $43 million if it had taken effect during the 2017 fiscal year.

Tax Reform Effect on Non-Profits: Summary

Non-profits need to be aware of these changes and start planning for the implications.

Consult with an advisor today to better understand the tax reform effect on non-profits and what you can do to lessen its impact.

Evaluate everything from your strategic plan to your marketing plans, social media policy, and financial and non-financial metrics.

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