The Tax Cuts and Jobs Act (TCJA) passed in December 2017 added new provisions related to Unrelated Business Taxable Income (UBTI) which may have significant tax impacts for Nonprofit entities that provide transportation benefits to their employees. Recent IRS publications and comments have provided additional information as to how these changes will be administered for benefits provided after January 1, 2018.
Nonprofit organizations that provide qualified transportation fringe benefits will now be required to increase their UBTI by the amount of the fringe benefit. Under a new section (512(a)(7)), UBTI will be increased by amount which is no longer deductible under another new provision of the TCJA, Section 274(a), which disallows the deduction for any qualified transportation fringe benefits. Since business taxpayers would no longer be allowed to deduct this, the IRS, in an attempt to create parity, made this amount includable as UBIT for nonprofit organizations.
The original interpretation of this section was that employers that offer their employees these benefits, typically in the form of transit passes or qualified parking, in addition to the employee’s compensation, would be subject to this change. As an example, under prior law if an employer offered their employee $260 per month to use for a transit pass (such as a Metrocard or train ticket), this amount would be excludable from the gross income of the employee and allowed as either a deduction for a business or as a program cost for a nonprofit entity, thereby having no effect on the nonprofit entity. The interpretation was that for these benefits offered after January 1, 2018 there would now be an addition to UBTI for the amount of this benefit.
In April 2018, the IRS released an updated Publication 15-B, Employer’s Guide to Fringe Benefits. Within this guide was a different interpretation of the TCJA changes to fringe benefits. In this publication the IRS indicated their position is to not only include benefits that were provided as the above, BUT ALSO FOR BENEFITS PAID VIA A COMPENSATION REDUCTION ARRANGEMENT! Under prior IRS Law, employers were able to set up qualified plans that allowed employees to use pre-tax dollars for qualified transportation benefits. These programs had no impact to the organizations that provided them, in fact, they provided a benefit in the form of payroll tax savings. These programs prove very popular with employees and are even required to be provided in certain jurisdictions (such as New York City).
Starting with programs that provide benefits after 2018 (even if the organization has a fiscal year end), these compensation reduction arrangements are also subject to UBTI. Organizations will have to pay Unrelated Business Income Tax on these benefits at the new 21% corporate tax rate.
As a result of the above, tax compliance for many nonprofit organizations has become much more complex. Organizations that may not have had unrelated businesses that required filing UBTI returns (Form 990-T) will now be required to file these forms. Additionally, the requirement to file Form 990-T may force organizations that were eligible for reduced compliance filing (990EZ or 990-N) to file more robust and complex returns. Organizations also may be required to file quarterly estimated tax payments if they anticipate their UBIT liability to be more than $500 for the year.
Interaction with State and Local Regulations
Starting in 2016, New York City required employers with more than 20 employees to mandatorily offer pre-tax transit benefits to their employees. The NYC law requires organizations to offer the opportunity to use pre-tax earnings to purchase qualified transportation fringe benefits in accordance with federal law. The statute uses Section 132 to define these required benefits, which is NOT one of the sections affected by the TCJA changes. The increase to UBTI is administered under different sections; this is important to note because the TCJA changes do NOT relieve employers of the obligation to offer these benefits. So, as of right now, nonprofit organizations subject to these regulations are required to offer these benefits and will ALSO have to pay UBIT on them as well!
Several nonprofit advocacy groups (along with groups for businesses) have brought up this inequity to the IRS as part of their lobbying. There is hope that when the IRS regulations are finally released, there may be some exception for benefits required under state and local law. However, as of today, organizations will need to plan as if these benefits are indeed UBI and subject to tax.
The TCJA was passed late in the year with changes taking place almost immediately, and without clear guidance or regulations to help guide organizations. It is very difficult to be compliant without clear guidance. Organizations must use all information at their disposal at this time to determine what, if any, additional steps are required for their tax compliance obligations.
Should you have any questions, please do not hesitate to contact us for clarification.