With the recent passing of the Tax Cuts and Jobs Act (TCJA) by Congress, many non-profit organizations are all wondering the same thing – how will they be affected? Though the final tax bill is still subject to slight implementation changes as the Internal Revenue Services (IRS) moves to update its platforms to mirror the new laws, it is imperative to understand how to appropriately prepare for the impact it will have on non-profits in the future. One of the key changes impacting non-profits is the standard deduction provision. For 2017, the standard deduction was $6,350 for singles and $12,700 for married individuals filing jointly. The 2018 standard deduction nearly doubles to $12,000 for singles and $24,000 for married couples. Ultimately, a taxpayer would opt for an itemized return when his/her personal deductions (i.e. charitable contributions, mortgage interest, property tax, medical expenses) exceed the standard deduction amount. As a result of nearly doubling the standard deduction and either repealing or scaling back most itemized deductions, the number of taxpayers who elect to itemize may substantially shrink. This directly impacts non-profits as taxpayers who change to use the standard deduction may lose the tax benefits of making charitable contributions. This is especially true in New York State, where the $10,000 limitation on state and local tax (SALT) deductions will be felt hardest. Many charities fear that this may alter the manner in which they currently pursue donations from the public, forcing them to focus more efforts on wealthier taxpayers who will continue to itemize their deductions.
Steve Taylor, Vice President for Public Policy at United Way Worldwide, worries the tax bill will force his organization to change who it targets for fundraising. Currently, United Way’s average annual gift is $379, which mainly comes from individuals having $5-$10 dollars a week deducted from their paychecks. Though the company also receives larger donations from fewer wealthy individuals, Taylor describes the middle-class donors as the charity’s “bread and butter.” Although the bill also increased the limit for charitable contributions from 50% to 60% of a donor’s income to incentivize giving, the increased standard deduction and/or elimination of other itemized deductions virtually negates this benefit. Overall, the Tax Policy Center estimates these new provisions will significantly reduce charitable donations “between $12-20 billion or 4 and 6.5 percent per year” going forward into 2018.
A second key provision impacting non-profit organizations is Code Section 4960, “Tax on Excess Tax-Exempt Organizations’ Executive Compensation.” The new provision results in a tax-exempt employer being liable for an excise tax of 21% for compensation in excess of $1 million dollars for the top five highest paid employees and on certain “parachute payments” (certain large severance payments). Unlike Code Section 162(m), which limits the definition of a covered employee to corporate officers, the 4960 Tax will apply to any employee and not solely officers. The intention of this tax rule change is to align tax-exempt organizations more closely with for-profit entities, which are not allowed to deduct salaries over $1 million. As a result, tax-exempt organizations will no longer have a strong tax advantage to attract highly-compensated employees that otherwise may be hired for a publicly-traded company. Compensation paid under a pre-existing contractual agreement will not be exempt from this legislative change.
Other relevant provisions stemming from the TCJA include the estate tax exemption and unrelated business income tax. For 2018 the estate tax exemption doubles, as estates will be exempt up to $11 million per person and $22 million per married couple (expiring after 2025), which may lessen the amount of charitable bequests given by wealthy individuals. The estate tax is an important source of revenue for non-profits and by doubling the exemption it is estimated charitable giving will lower by $4 billion per year. Lastly, the unrelated business income tax (UBIT) provision will require UBIT to be calculated on each individual trade or business and not aggregated. Essentially, this means the TCJA will no longer allow tax-exempt non-profits that operate multiple unrelated businesses and generating unrelated business income (UBI) to deduct the losses from one business to offset the profits from another. This will most likely result in more nonprofits having to pay UBIT.
Duke Haddad, Executive Director of Development for The Salvation Army, feels top strategies to increase fundraising for 2018 include “to encourage nonprofit practitioners to promote mobile fundraising, collaborate with others in a variety of ways, use technology to tell stories of impact with your donors, and use organizational social media networks to cultivate relationships and promote brand awareness.” Although the TCJA may not appear very helpful for non-profit organizations, it does not mean 2018 cannot be a growth year for fundraising. Non-profit leaders that desire to successfully lead their organizations into 2018 must understand the importance of recognizing change and how to adapt.