The Tax Cuts and Jobs Act (TCJA) included several provisions of interest to nonprofits, including one that dramatically altered the treatment of so-called “qualified transportation fringes” (QTFs). With the new rules now in place for a full tax year and IRS guidance issued, some organizations may need to learn how the latest revisions are likely to affect their bottom lines.
Pre-TCJA, for-profit and nonprofit employers could offer employees tax-free QTFs such as certain parking arrangements, van pools and transit passes. For-profit employers could deduct the benefits provided. The amount excluded from an employee’s taxable income was subject to an inflation-adjusted limit, with excess amounts taxable.
QTFs remain tax-free for employees under the TCJA. (The limit for 2019 is $265 per month.) However, nonprofits generally must treat the associated expenses as unrelated business taxable income (UBTI), taxed at the corporate rate of 21%. Your organization also might incur state income tax liability if you provide the benefits. (The TCJA suspends the exclusion of qualified bicycle commuting reimbursements from employee income until 2026, too.)
Calculation of UBTI increase
In late 2018, the IRS released interim guidance to help nonprofits determine how much they must increase their UBTI if they offer qualified parking benefits. “Qualified parking” refers to parking provided near the business premises or at a location from which the employee commutes to work (other than home). You can provide it on property you own or lease.
The guidance indicates that, until the IRS issues proposed regulations (not published as of this writing), nonprofits that own or lease facilities where their workers park may use any “reasonable method” to determine the additional UBTI. It provides a four-step “safe harbor” method the IRS will automatically deem reasonable.
The IRS also warns against some prohibited activities. For example, using the value of employee parking rather than actual costs to determine expenses allocable to employee parking in an owned or leased facility isn’t considered a reasonable method. Also, for tax years starting on or after January 1, 2019, a method that doesn’t allocate any expenses to parking spaces reserved for employees isn’t considered reasonable.
If you pay a third party to provide parking in a lot or garage for your employees, the increase in UBTI generally equals your total annual cost. But, remember that, if the per-spot fee exceeds the per-employee monthly limit on income exclusion, the excess is taxable compensation for the employee and doesn’t increase your UBTI.
Importantly, the guidance makes clear that an increase to UBTI due to QTFs doesn’t constitute an unrelated trade or business. As a result, if your organization has only one unrelated trade or business, and it has more deductions than gross income, you can offset the increase in UBTI from QTFs with those excess deductions.
The guidance also clarifies the effect of UBTI increases on the requirement to file Form 990-T, “Exempt Organization Business Income Tax Return.” It explains that amounts that increase UBTI should be included when determining whether you exceed the $1,000 gross income threshold that mandates filing.
A January 2019 study commissioned by Independent Sector found that the new tax on QTFs will divert an average of $12,000 per year from a nonprofit’s budget. About 10% of the more than 700 nonprofits surveyed were considering dropping the benefits. QTFs can provide a valuable competitive edge in a tough job market, though, and some state and local laws require such benefits. Consult with your CPA about how best to proceed.