The 2017 Tax Act (P.L. 115-97) significantly impacted unrelated business income taxes (UBIT) for tax-exempt organizations. This article highlights some key points you’ll want to be aware of.
Internal Revenue Code Section 512(a)(6), created by the 2017 Tax Act, mandates in the case of any organization with more than one unrelated trade or business:
A) Unrelated business taxable income, including for purposes of determining any net operating loss deduction, shall be computed separately with respect to each such trade or business and without regard to subsection (b)(12),
B) The unrelated business taxable income of such organization shall be the sum of unrelated business taxable income so computed with respect to each such trade or business, less a specific deduction under subsection (b)(12), and
C) For purposes of subparagraph (B), unrelated business taxable income with respect to any such trade or business shall not be less than zero.
Section 512(a)(6) is effective for taxable years beginning after December 31, 2017.
Tax-exempt organizations should be prepared to:
- allocate related direct and indirect expenses among their unrelated business lines using reasonable, consistent, documented methods;
- determine if estimated tax payments made to date have been adequate as the UBIT tax bill is likely higher;
- complete a new Form 990-T and determine if their state is modifying the state unrelated business income tax form in light of the federal changes;
- inquire of their tax preparer as to any other areas of concern to comply with Section 512(a)(6).
The IRS has published a draft 2018 Form 990-T and draft 2018 Form 990-T Instructions that amend the Form for IRC Section 512(a)(6). The proposed revision would require filing organizations to complete a Schedule M (released separately), if they have more than one trade or business, before they complete a new Part III: Total UBTI. The IRS is accepting comments on both the draft form and draft instructions.
In August 2018, the IRS issued Notice 2018-67 (the Notice), requesting comments on the calculation of unrelated business taxable income (UBTI) under Section 512(a)(6) and provided some interim and transition rules for that section. Comments were due on December 3, 2018.
Section 6 of the Notice provides interim and transitional rules for partnership investments, allowing for aggregation of income items from qualifying partnership interests into a single trade or business under de minimis and control tests for interests acquired prior to August 21, 2018. A partnership meets the requirements of the de minimis test when an exempt organization owns 2% or less of the capital and profits, based on an average throughout the year. A partnership meets the requirements of the control test when the exempt organization owns 20% or less of the capital and does not control the partnership. Note, however, there are rules for related parties, etc. where these aggregation rules won’t apply.
The Notice indicates in Section 8 that any amount included in unrelated business taxable income under IRC section 512(a)(7) regarding qualified transportation benefits and parking taxable to the organization is not an unrelated trade or business and is not subject to IRC Section 512(a)(6). Within the draft 2018 Form 990-T, the amounts paid for disallowed fringes are to be reported in the new Part III, line 34; after the deductions and after the total of unrelated business taxable income computed from all unrelated trades or businesses.
The Draft 2018 Form 990-T instructions released as of October 22, 2018 note the following:
Increase in UBTI by disallowed fringe benefits. For organizations that have employee income, UBTI is increased under new Internal Revenue Code section 512(a)(7)…by any amount for which a deduction is not allowable because of section 274 and which is paid or incurred by the organization after 2017 for any qualified transportation fringe (as defined in section 132(f)), or any parking facility used in connection with qualified parking (as defined in section 132(f)(5)(C)). This rule does not apply to the extent the amount paid or incurred is directly connected with an unrelated trade or business which is regularly carried on by the organization.
Exempt organizations now have to pay tax on disallowed transportation fringe benefits (e.g., bus passes or other commuting costs, parking, or the ability to pay for these costs pre-tax). Therefore, it is likely that many more exempt organizations will now have to file a Form 990-T now than in the past. There may also be state income tax implications if states modify their laws to match the federal law.
Section 10 of the Notice states that global intangible low-taxed income (GILTI) will be treated as a dividend, which is generally excluded from UBTI under IRC Section 512(b)(1) and, therefore, would not be reported on Form 990-T.
Additional UBIT resources are available in the Not-for-Profit Tax Compliance Resource Library.