Tax reform, also known as the Tax Cuts and Jobs Act of 2017, contains changes to fringe benefits that may impact not-for-profit organizations significantly, resulting in unexpected tax liabilities.
One of the most impactful changes is that certain employer-provided fringe benefits are now considered unrelated business income (UBI), which is subject to income tax at the organizational level.
Fringe Benefits Classified as UBI
As of January 1, 2018, the following fringe benefits are classified as UBI:
- Qualified transportation benefits. These include commuter vehicle and van pooling as well as transit passes and vouchers for mass transit, such as buses and trains.
- Qualified parking facility. This includes parking provided by an employer and parking reimbursements provided under a bona-fide reimbursement arrangement.
- On-premises athletic facility. These are facilities predominately used by employees and their families.
Although organizations will now have to pay UBI taxes for these benefits, the benefits will continue to be tax free for employees—but subject to monthly limits.
A compensation-reduction agreement is a way to provide employees with qualified transportation benefits on a pretax basis. Many tax-exempt entities believe this is a safe arrangement that isn’t subject to UBI, but this may not be the case.
The IRS’s Publication 15-B (2018), Employer’s Tax Guide to Fringe Benefits, provides guidance on the treatment of qualified transportation benefits. Transportation benefits are no longer deductible for for-profit entities beginning in 2018—even when a compensation-reduction agreement is in place. However, the publication doesn’t specify that a compensation-reduction agreement used by a tax-exempt entity will create UBI.
In March 2018, during a recent Washington Non-Profit Legal and Tax Conference, IRS deputy associate chief counsel Janine Cook stated that because a pretax transportation benefit is no longer deductible for for-profit entities, it qualifies as UBI for tax-exempt organizations under the new Internal Revenue Code Section 512(a)(7).
This statement demonstrates that although tax law doesn’t specify that a pretax arrangement escapes UBI, IRS guidance and comments indicate UBI may be created under similar arrangements.
Some organizations may be located in jurisdictions that require employers to provide transportation benefits. It’s uncertain if any relief would be provided in these cases.
Taxable Benefits to Employees
Organizations that treat employee fringe benefits as taxable W-2 wages—by paying Federal Insurance Contributions Act and Medicare taxes, for example—won’t be affected by this change. Benefits in those instances aren’t subject to UBI taxes.
We’re Here to Help
If you have questions about how these changes could affect you or your organization, contact your Moss Adams professional or visit our dedicated tax reform page.