On February 26, 2014, the House Ways and Means Committee Chairman Dave Camp (R-Mich.) released draft legislation called the “Tax Reform Act of 2014” (“Draft Legislation”). Certain aspects of this legislation are currently being debated in Washington. It is important that tax-exempt organizations follow the process and understand the possible ramifications of the Draft Legislation’s many provisions.
Some of the most significant highlights of the Draft Legislation include:
• Imposing a 2 percent Adjusted Gross Income (AGI) floor on deductible charitable contributions
• Tightening the rules on the unrelated trade or business income tax (UBIT)
• New and increased penalties related to return preparation
• Eliminating future tax-exempt private activity bonds
• Requiring donor advised funds to distribute contributions within five years of receipt.
The Draft Legislation proposes several significant changes to the charitable contribution deduction for individuals. A few of the more important changes are:
• The current 50, 30, and 20 percent limitations for various types of donated property would be compressed into two limits: 40 percent for cash and capital gain property donated to public charities and certain private foundations, and 25 percent for all other donations.
• An individual’s charitable contributions could be deducted only to the extent they exceed 2 percent of the individual’s AGI.
• Individual taxpayers would be allowed to deduct charitable contributions made through April 15 of the following year.
• The amount of any charitable contribution would be generally limited to the adjusted basis of the contributed property, instead of fair value. Publicly traded stocks would be one of only a handful of exceptions to this rule, and would still be valued at market value on the date of the donation.
UNRELATED BUSINESS INCOME
Under the Draft Legislation, unrelated business taxable income of each activity would be computed separately and the loss from one unrelated business activity could not be used to offset the income from another unrelated trade or business activity. Additionally, the current specific deduction of $1,000 against gross income subject to UBIT would be increased to $10,000. Any net operating loss would be subject to the general rules for net operating losses – i.e., such losses may be carried back two years and carried forward 20 years.
Other UBIT provisions in the Draft Legislation include:
• Current law exempts royalty income from the use of the organization’s name or logo from UBIT. The proposed changes will make the sale or licensing of the name or logo, including any related trademark or copyright, subject to UBIT. Organizations that have affinity credit cards or license their name for apparel could be impacted.
• A change in the rules for qualified sponsorship payments whereby mention of a sponsor’s product lines would turn a mere acknowledgement that is not taxed into advertising income that would be taxed. Additionally, for events with over $25,000 in qualified sponsorship payments, the acknowledgement of a sponsor’s name or logo may only appear with, and in substantially the same manner as, the names of a significant portion of the other donors.
• The draft legislation includes a limit on the exclusion for fundamental research unless results are freely available to the general public.
COLLEGES AND UNIVERSITIES
In addition to the above-mentioned UBI changes, several other provisions will have a major impact on colleges and universities. They include:
• Repealing the rule that provides a charitable deduction of 80 percent of the amount paid for the right to purchase tickets for college athletic events.
• Imposing an excise tax based on investment income of private colleges and universities. This would be similar to a rule that taxes the investment income of private foundations. Under the provision, private colleges and universities would be subject to a 1 percent excise tax on net investment income. The provision would only apply to schools with investment assets valued at the close of the preceding tax year of at least $100,000 per full-time student.
Under the current law, an organization that supports a public charity may be classified as a public charity even though it may not meet the public support test. Supporting organizations are divided into three types:
I – Organizations operated, supervised, or controlled by a publicly supported organization.
II – Organizations supervised in connection with a publicly supported organization.
III – Organizations operated in connection with a publicly supported organization.
The Draft Legislation proposes the elimination of Type II and Type III supporting organizations. The organizations currently classified as a Type II or III would need to qualify as Type I or would be reclassified as private foundations.
For private foundations, including those previously designated as Type II or Type III supporting organizations, the excise tax rate on net investment income would be reduced from the current 2 percent down to 1 percent. Additionally, the excise tax exemption for private operating foundations would be eliminated.
There are many other proposed changes included in The Tax Reform Act of 2014. Currently, the House and the Senate are considering certain pieces of the legislation but it is too early to determine what will actually become law. However, it is important that all tax-exempt organizations are aware of the provisions and what the impacts may be.
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