You may have seen recent press stories on the “hidden” tax from the tax reform bill (TCJA) that will hit parking and mass transit fringe benefits, provided by nonprofits including churches, colleges, and hospitals. This wasn’t necessarily a hidden tax, and the higher education community was aware of it. In fact, NACUBO submitted recommendations on behalf of the community to both Treasury and the IRS in April. I think very small nonprofits including many churches who are unfamiliar with UBIT and the tax-treatment of fringe benefits might be getting a clearer picture of this headache recently - which prompted the press articles.
Since I’ve heard from several of you about this, I wanted to put out a note to everyone. Under the TCJA, tax-exempt entities will be taxed on the value of providing their employees with transportation fringe benefits by treating the funds used to pay for such benefits as UBIT, thus subjecting the value of those employee benefits to be taxed at the 21 percent corporate tax rate.
While the NACUBO comments cited a lack of guidance and requested a one-year delay in implementation, as did submissions from ASAE and others throughout the tax-exempt community, there are a few ways employers and employees can think about this in the interim.
Option #1: 100% Employer-Paid Benefits. If the employer pays for the benefit and takes a deduction for the value of the benefit, the employer and the employee will both pay payroll tax on the value of the benefit, and the employee will pay income tax on the value of the benefit.
In this funding option, the employer receives a federal tax deduction for both the benefit and payroll taxes they have paid. The employee still receives the benefit, they now receive the benefit as an after-tax benefit.
For tax-exempt employers, the employer avoids paying unrelated business income tax (UBIT) on the value of the benefit if the employer treats the benefit as a taxable benefit to the employee.
Also, for tax-exempt employers who do not treat the benefit as taxable income to the employee, the employer must pay unrelated business income tax on the value of the benefit.
Option #2: 100% Employee-Paid Benefits. If the employer is not paying for the benefit, they can make the IRC section 132(f) benefits available to the employees by allowing employees under IRC section 3401(a)(19) to pay for benefits with pre-tax dollars. This IRC section states employees may use pre-tax dollars to pay for benefits if they have a reasonable belief the benefit would be a non-taxable fringe benefit.
Because the employer is not paying for the benefits, there is no evidence to suggest the employer would not have treated the benefit as a non-taxable fringe benefit. So it seems reasonable to allow employees to continue paying for transit passes and parking benefits offered under 132(f), with pre-tax payroll withholding.
Option #3 – Employee and Employer Co-Paid Benefits When the employee and employer split the cost of the benefit, it is not clear IRC section 3401(a)(19) will allow for payment of the employee portion with pre-tax dollars.
With a plain-face reading of Code section 3401(a)(19), it would seem there’s only one way an employee could have a reasonable belief the employee’s half of the benefit was a non-taxable fringe benefit. This would only occur if the employer opted to forego the federal tax deduction, or paid unrelated business income tax on the value of the benefit, for the employer paid portion. Otherwise, the employee has no reason to believe the employee’s portion is a non-taxable fringe benefit under 132(f).
However, because the employer is not paying the employee’s portion, there is a substantial argument that the employee’s portion should be exempt. It is a transportation benefit covered under 132(f) paid for by the employee and the employer has no deduction available nor unrelated business income tax obligation on that portion. Therefore, the employee should be allowed to use pre-tax dollars.
Treasury can solve this ambiguity by issuing guidance stating employees may pay for their portion of any bifurcated benefits with pre-tax dollars, which would be otherwise covered under 132(f)—regardless of the employer’s decision to treat as a non-taxable fringe benefit. But until guidance is issued, option 3 is murky.
There’s still a possibility of Treasury or the IRS issuing guidance and/or a delay, and Ways and Means Chairman Brady said today that he’s willing to have a conversation with churches about the burdens of this tax, perhaps other nonprofits as well. He did go on to say that ultimately nonprofits will be better for the provisions in the TCJA overall, so it’s unclear how much he’s willing to backstep on the tax.
Hope this information is helpful.
Karin Johns (Westminster PA ’90)
Director of Tax Policy
National Association of Independent Colleges and Universities
1025 Connecticut Ave., NW, Suite 700
Washington, DC 20036