by Linda M. Czipo
The new tax law, the measure formerly known as the “Tax Cuts and Jobs Act,” represents the most comprehensive overhaul of the federal tax system in decades. Although the full impact of the law is still unfolding, most of the law’s provisions are effective as of January 1, 2018, so non-profits need to take steps now to understand and adapt to the changes. Following is a discussion of some of the key elements of the law affecting 501(c)(3) organizations, as well as some elements that did not make it into the final statute.
PART 1 – What’s in the Law
Standard deduction and incentives for charitable giving
The law makes several changes designed to reduce taxes for certain taxpayers. In addition to changing the tax rates, the new law increases the standard deduction for individuals (to $12,000), couples (to $24,000), and heads of households (to $18,000), Limits on cash donations will be increased from 50% of adjusted gross income (AGI) to 60% of AGI. The new law also repeals the “Pease limitation” that limited deductions for high-income individuals. However, while corporate tax cuts are made permanent under the new law, this entire section sunsets after 2025.
One of the biggest areas of concern is the impact of the new law on charitable giving. Although the charitable giving deduction itself technically remains unchanged, it is only available for households that itemize on their tax returns. People who take the standard deduction cannot deduct their charitable gifts, and because the standard deduction is doubled under the new law, only an estimated 5% of taxpayers will itemize, compared with 30% under the previous law. The new law effectively puts the charitable deduction out of reach for 95% of taxpayers. This change is projected to cost charities $13 billion or more each year in lost giving. The overall impact of these changes will be a devastating loss of contributions that charities desperately need to serve our communities.
While the loosening of the AGI limitations for charitable deductions, repealing limits on itemized deductions, and the elimination of the Pease limitation are helpful, their impact will be limited to the few taxpayers who will continue to take advantage of itemized deductions. Charities had pushed for a universal (“above the line”) charitable giving incentive that would be available to taxpayer who do not itemize, but this was not included in the final version.
State and local tax (SALT) deductions
The new law imposes a $10,000 aggregate cap on the deductions of state and local income taxes or property taxes. This provision is especially harmful to high cost of living states such as New Jersey, where a significant proportion of taxpayers’ expenses for state and local income, sales or property taxes exceeds the cap. As New Jersey Policy Perspective reports, this change will hurt thousands of New Jersey families across a wide range of income levels. The Center on Budget and Policy Priorities has identified a number of ways in which state and local governments nationwide, and disproportionately in states like New Jersey, would be negatively affected. Elected officials in some of the most highly affected states are exploring options such as litigation or statutory workarounds to lessen the impact, but the feasibility of these proposals is currently unclear.
Under the new law, the estate tax exemption has been doubled to about $11 million for individuals and about $22 million for couples. Doubling the exemption is projected to reduce federal revenues by nearly $100 billion over 10 years and lower charitable giving nationally by $4 billion per year. Even before this change, only the wealthiest 0.2% of estates were subject to the estate tax. With federal budget proposals already threatening to decimate funding for vital programs and services, this cut is especially costly on numerous levels. There is also deep concern that narrowing or repealing the estate tax will reduce the incentive to make planned legacy gifts to charities and will adversely affect charitable bequests.
Unrelated business income tax (UBIT)
For exempt organizations, unrelated business income tax (UBIT) is a tax imposed on a trade or business that is regularly carried on and which is not substantially related to an organization’s exempt purpose. The application of UBIT can be complex, and there are numerous exceptions and special provisions that can affect an organization’s tax liability. The new tax law treats each business activity of a non-profit separately for UBIT purposes – a change from the previous law in which revenues and expenses from multiple businesses could be aggregated. This could result in more UBIT liability for some non-profits because there would be less opportunity to offset income with related expenses.
Some larger non-profits may pay a lower UBIT tax rate, since the new tax law lowers the maximum corporate income tax rate from 35% to 21%; but for the smallest organizations, the tax rate rises from 15% to 21%.
It’s worth noting that only the first $1,000 of unrelated business income is exempt from taxation, so the changes would affect many organizations of varying sizes. Considering the magnitude of the funding cuts to many non-profit programs in the proposed federal budget blueprint, these changes to UBIT may result in increased taxes on non-profits, taking earned income revenue away from non-profits’ mission-related programs and services.
An earlier Senate proposal that would have subjected income from licensing and royalties to UBIT was not included in the final version – a favorable outcome. However, non-profits need to be aware that the new law makes certain benefits provided to employees (e.g., qualified parking, qualified transportation and others) taxable as UBIT.
Affordable Care Act individual mandate
The new law effectively repeals the mandate for individuals to purchase health insurance by reducing the noncompliance penalties to $0. This provision takes effect January 1, 2019.
The individual mandate repeal raises approx. $318 billion which is used to offset some of the cost of various tax cuts in the law. The nonpartisan Congressional Budget Office (CBO) has estimated that repealing the individual mandate will result in 13 million fewer people having insurance coverage by 2027 and that average premiums will be 10% higher in most years than they would be under current law.
Non-profit colleges and university endowments
The new law creates a new 1.4% excise tax on net investment income of non-profit colleges and universities with assets of at least $500,000 per full-time student and more than 500 full-time students. The tax applies only to institutions with more than 50% of students in the United States. Concerns have been expressed that this provision is an invasion of non-profit independence, allowing the political will of elected officials to supplant the fiduciary judgment of organizational trustees.
The law imposes a new 21% excise tax on non-profits that provide compensation of $1 million or more to any of their five highest-paid employees. The excise tax is in lieu of denying tax deductions for salaries, according to the Joint Committee on Taxation. The change is proposed to bring non-profit pay rules in line with the for-profit cap on compensation.
Donor acknowledgment requirements
The new law eliminates an unused provision in the previous tax code that exempted donors from needing a written acknowledgment from a non-profit if the non-profit provided the IRS with information about the contribution in its tax filings. The provision is a needed “cleanup” measure designed to block the IRS from requiring charities to submit donors’ Social Security numbers or other sensitive personal information to substantiate charitable contributions.
PART 2 – What’s NOT in the Law
Changes to the Johnson Amendment (non-profit nonpartisanship)
The final statute does not include House of Representatives language designed to gut the existing law (the Johnson Amendment) which has for 60+ years allowed charities and houses of worship to work in communities free from partisan pressures, divisions and interference.
The broad-based charitable, religious and foundation communities as well as charity regulators, faith leaders and the general public strongly oppose efforts to weaken the Johnson Amendment. However, only a parliamentary technicality prevented the House proposal from being included in the law, and repealing the Johnson Amendment remains a top priority for President Trump and some Congressional leaders. This means that similar attempts to weaken these protections will likely resurface in the near future during the appropriations process or by other means, and non-profits need to be prepared to raise their voices again.
Universal deduction for charitable contributions
Provisions to extend charitable giving incentives to non-itemizers were not included in the law. Despite urging from the charitable community, the House and Senate failed to include a universal charitable giving incentive which would expand the charitable deduction to all taxpayers and allow all to receive a tax benefit for giving. One such proposal is the Universal Charitable Giving Act (H.R. 3988/ S.2123), which would provide a partial giving incentive for non-itemizers.
Private activity bonds
The final law did not include House language that would have eliminated all tax-exempt private activity bonds, including 501(c)(3) bonds. A variety of non-profits, including schools, hospitals, museums, and affordable housing organizations, use these bonds to finance building and renovation projects. Eliminating these bonds would have removed an important financing option for many 501(c)(3) non-profits. The final statute leaves current law intact, thereby leaving this financing mechanism available.
Donor advised funds (DAFs)
The law does not include new payout requirements for DAFs, which was a concern of some non-profits and community foundations.
Private foundation excise tax modification
The statute does not include House language that would have created a single, streamlined foundation excise tax rate of 1.4% (between the two current rates of 2% and 1%). Although many foundations have long requested a simplification of the private foundation excise tax, there was concern that the House provision would result in higher tax levies against foundations, thus reducing overall private foundation assets and leading to fewer or smaller grants to charities.
Volunteer mileage rate increase
The House of Representatives had proposed language that would have prospectively adjusted the current rate of 14 cents/mile rate for inflation. Such a change could decrease the cost of volunteering at certain types of non-profits and would prevent the further erosion of the value of the incentive over time. It also sends the message that volunteers’ time and expenses are valued. The new law does not include any adjustment to the volunteer mileage reimbursement rate, which has been fixed at 14 cents/mile since 1997.
Part 3 – So what’s next?
While the full impact of the new law will take months, and even years, to unfold, non-profits can take a number of steps to adjust to – and shape – the new landscape:
Operationally, organizations need to take steps to comply with the law, recognizing that a number of key guidelines and regulations are still forthcoming from the government. The National Council of Nonprofits has developed an excellent compliance checklist that is updated regularly to reflect new information. Bookmark that address and check it often. Also regularly check the Center for Non-Profits’ website and events page for educational offerings and other resources to help organizations understand the law’s new requirements, and contact an attorney or accountant with exempt organization expertise to review your specific situation.
Engagement, Relationships and Communications
With or without the new tax law, strong engagement with our donors and other stakeholders should always be top priority. But given the reduced availability of charitable giving incentives, it’s even more imperative. Non-profits need to be able to present a strong case for support that will resonate in ways beyond the charitable giving incentive. Clear plans, evidence of success and impact, demonstrated need, true relationship-building and regular communications (not just when requesting a gift) will help to create thriving long-term partnerships for organizations and their supporters.
The tax reform measure may now be law, but there are plenty of critical issues at play in Congress and at the state and local levels. In the current climate, the importance of regular, sustained public policy advocacy cannot be overstated. All 501(c)(3)s may engage in unlimited issue advocacy, and public charities may engage in a limited amount of lobbying – and those limits are more generous than many realize. Policy makers need the expertise and unique perspectives that non-profits provide, and there’s too much at stake for non-profits to stay on the sidelines.
Stay connected with umbrella organizations like the Center for Non-Profits, subsector associations and other critical networks to stay abreast of the latest information, share new strategies and strengthen key connections. Communication, collaboration and solidarity will be vital to forging a clear path through these tumultuous times.
Linda M. Czipo is President & CEO of the Center for Non-Profits, New Jersey’s statewide umbrella organization for the charitable community. Through advocacy, public education, technical assistance and cost-saving member services, the Center works to build the power of New Jersey’s non-profit community to improve the quality of life for the people of our state.
Portions of this document adapted with permission from analyses prepared by the North Carolina Center for Nonprofits and the National Council of Nonprofits.
A variation of this article appears in the forthcoming Sobel & Co., LLC, Nonprofit Desk Reference Guide.