With all of the press surrounding the latest round of budget talks on Capitol Hill, a bill was drafted, passed and signed by the President on Feb. 9, 2018, that not only keeps our government funded and operational, but provides some tax provisions as well.
Certain tax extenders were made a part of the budget act, along with some disaster relief law updates, as well as two surprising provisions that affect tax-exempt organizations. This alert highlights the two provisions that affect the tax-exempt organization community and seem to be holdovers from the recently enacted and comprehensive Tax Cuts and Jobs Act (TCJA).
Clarification: Excise tax based on investment income of private colleges and universities
The TCJA recently added new section 4968, for tax years beginning after Dec. 31, 2017. This new section imposes an excise tax equal to 1.4 percent on the net investment income of certain private colleges and universities. The tax applies only to private colleges and universities with at least 500 students, more than 50 percent of the students of which are located in the U.S., and with assets (other than those used directly in carrying out the institution's exempt purpose) of at least $500,000 per student. The number of students is based on the daily average number of full-time equivalent students (full-time students and part-time students on an equivalent basis). Net investment income is gross investment income minus expenses to produce the investment (but disallowing the use of accelerated depreciation methods or percentage depletion).
Under the Bipartisan Budget Act of 2018 changes, the Act provides that the “at least 500” and “more than 50 percent” of students tests above both refer to tuition-paying students. This provision is effective for tax years beginning after Dec. 31, 2017, as if it were a part of the original enactment of section 4968 in the TCJA.
Exception from excess business holding tax for independently-operated philanthropic business holdings
Under current law, section 4943 provides that a private foundation that has any excess business holdings is generally subject to an initial tax equal to 10 percent of those excess holdings. As such, certain high percentage owned businesses would be required to be sold or disposed of by the private foundation in order to avoid paying the penalty tax.
Under the Bipartisan Budget Act of 2018, the Act adds a new subsection (g) to section 4943, providing an exception from this tax for certain holdings of a private foundation in any business enterprise which meets the following requirements for the tax year:
- The foundation owns all of the business enterprise's voting stock at all times during the tax year,
- The foundation acquired all of its interests in the for-profit business other than by purchasing it,
- The business enterprise distributes all of its net operating income for any given tax year to the private foundation within 120 days of the close of that tax year, and
- The directors, executives, etc. of the business enterprise are not substantial contributors to the private foundation, and at least a majority of the board of directors of the private foundation are persons who are not directors or officers of the business enterprise or family members of a substantial contributor to the private foundation.
Certain deemed private foundations are excluded. This exception goes into effect for tax years beginning after Dec. 31, 2017.
This new subsection as added by the Act was initially a part of H.R. 1 issued by the House in Nov. 2017 as a part of the TCJA tax reform package, but did not survive in conference committee and was stricken in the TCJA final version that was signed by President Trump on Dec. 22, 2017.