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TAX ISSUES IN HIGHER EDUCATION #Fin 2238

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1 TAX ISSUES IN HIGHER EDUCATION #Fin 2238
College Business Management Institute University of Kentucky, Lexington, KY August 1, 2008 Isabel Smidy, CPA, MST Assistant Controller for Tax Compliance Middlebury College, Middlebury, VT 05753 Tel Fax

2 WELCOME

3 KEY ELEMENTS Preserving tax exempt status
loss of contributions, federal aid Minimizing tax liability: Institution Employees Donors/donor relationships

4 Topics for Discussion Payroll and Employment Tax Issues
Nonresident Aliens Employee vs Independent Consultant Fringe Benefits Accountable Plans Unrelated Business Income Tax (UBIT) Intermediate Sanctions

5 Topics for Discussion Tax Exempt Bonds Charitable Contributions
Lobbying and Political Activity Other Resources IRS Priorities for Nonprofit Review & Other Legislative Agenda Risk Management Issues

6 Payroll and Employment Tax Issues
Employment Tax Responsibilities Reference: IRS Pub 15 Circular E an employer-employee relationship (not independent contractor) the payment of wages (settlements, N.Dakota case) the payment must be made with respect to employment

7 Payroll and Employment Tax Issues
Payment and Reporting Obligations Electronically remit payments withheld “If you accumulate $100,000 or more of taxes on any day during a deposit period, you must deposit the tax by the next banking day, whether you are a monthly or semiweekly schedule depositor” Report covered wages paid on Form 941 Employers Quarterly Federal Tax Return – does not include wages of non resident aliens which are treaty exempt.

8 Payroll and Employment Tax Issues
IRS Penalties Filing late or incorrect information returns If no $ is due have an additional 10 days Filing late or incorrect payee statements $50 per statement Depositing tax withholding after the deadline 1-5 days = 2% Greater 15 days 15% Not filing or depositing at all Max penalty is 25% of taxes due ER STILL RESPONSIBLE IF USING PAYROLL SERVICE. ESTABLISH “REASONABLE CAUSE” INTEREST & PENALTIES.

9 Payroll and Employment Tax Issues
Income Tax Withholding On wages, salaries, and bonuses, unless a specific exemption exists – not on treaty wages of non resident aliens, or foreign earned income exclusion Fringe benefits not excluded by the IRC, such as season tickets and personal use of automobiles, spousal travel, and club dues Employers Tax Guide to Fringe Benefits Pub 15B

10 Payroll and Employment Tax Issues
Graduate Student Stipends As payment for services rendered As a grant, scholarship or fellowship Need to allocate between the service component and the scholarship component. How much does your institution pay for similar services to regular staff?

11 Payroll and Employment Tax Issues
Settlement Payments – Prior to Aug 1996 most settlements were tax free Non-Reportable Payment based on tort or tort-type rights (injury or wrongful act) Personal physical injuries or physical sickness - IRC 104 (a) (2) Reportable Emotional distress Attorneys’ fees Prior to Comm. vs Bonds, 543 U.S. 426 the courts were divided, the Supreme Court settled the issue, attorneys fee payment represents taxable income to the plaintiff thereby imposing the withholding requirement. Twist: Newhouse vs McCormick, 157 F 3rd 582 (8th Cir 1998) Ind. brought an age discrimination case against a Prospective Employer, “rejected for the position.” The court held that since the ind. was a job applicant and not an employee, was not subject to taxes.

12 Payroll and Employment Tax Issues
FICA Exclusions Certain nonresident aliens individuals in the US on F-1, J-1, M-1, or Q-1 visas qualify under section 3121(b)(19) of the IRC - Services performed for certain churches or church-controlled organizations Student FICA exception While regularly attending classes

13 Payroll and Employment Tax Issues
Student FICA Exception Primary Function of Institution School, College, or University § (b)(10)-2 (2005) formal instruction, regular faculty & curriculum, regularly enrolled student body Career Employees/Professional Employees - not eligible Work >=40 hours per week regularly Participate in Retirement Required to be Licensed Work requires advanced knowledge Work requires discretion and judgment Work is intellectual and varied

14 Payroll and Employment Tax Issues
Student FICA Exception Medical Residents

15 Payroll and Employment Tax Issues
Worker Classification Originally IRS relied on the twenty common law factors (Rev. Rul ) Behavioral Control Instructions Training Financial Control Significant Investment Expenses Opportunity for Profit or Loss

16 Payroll and Employment Tax Issues (cont.)
Worker Classification (cont.) Relationship of the Parties Employee Benefits Written Contracts Services are a key aspect (Faculty, Coaches) Permanency of the position Penalties for misclassification, including payment of taxes that should have been withheld Relief under Section 530 of the Revenue Act of Reasonableness, Case law. Audit alert: The IRS is once again investing resources in this area. The tax gap has been a driving force. Examiners will review for persons receiving both a W2 and The good news is that the IRM will be updated with the details.

17 Nonresident Aliens Laws date back to the early 1960’s. Tax Reform Act of 1986 made the most significant changes in terms of redefining the “sourcing” rules of scholarships. Who are Nonresident Aliens Students, faculty, performers, lecturers Tax residency status IRC 7701(b) Green card test (Permanent Res. Treat Like a US person) Substantial presence test (determines if you are an NRA or a RA) current yr at least 31 days, previous 1/3 days, second preceding 1/6 if sum is equal to or greater than 183=RA

18 Nonresident Aliens When is Tax Withholding Not Required
Foreign-sourced income IRC NRA students who are abroad on scholarships, Web and course design outside of the US, work performed outside the US, scholarships from outside US. Internal revenue code exemption Mostly qualified scholarships under IRC 117. Exempt under an income tax treaty Currently there are about 60 tax treaties.

19 Nonresident Aliens Systems that Process Payments Taxable to NRAs
Student Accounts - Scholarships Accounts Payable – Honorariums, Prizes, Performers, Lecturers (Never on a Form 1099) Payroll – Students and faculty Gathering data: FNIF Audit activity: focused exams – open door program. VCP.

20 Fringe Benefits § 132 Enacted 1984 (DEFRA ’84) “Deficit Reduction Act” included the term “fringe benefit” Any property or service (or cash under certain circumstances) that an employee receives from an employer, in lieu of or in addition to regular taxable wages, is a fringe benefit that may be subject to taxation. A statutory exclusion must exist in order for the benefit to not be taxable..

21 Fringe Benefits Employee benefits handbook Reporting requirements
Penalties Recordkeeping requirements – no records-taxable income IRS audit activity Employee benefits handbook Union Agreements Employment contracts (especially those of executives) Corporate minutes Chart of accounts Written policies and procedures regarding fringe benefits A/P Journal, G/L Accts that include ee benefits Payroll Journal Examiners will look at expense categories that are less obvious but may include fringe benefits such as misc expenses, auto expense, ins & travel reimbursements. IRM 4,23, 5,11.5 ( )

22 Fringe Benefits Examples of benefits that may be entirely or partially excluded from the taxable income of an employee: qualified undergraduate tuition reduction for dependents §117 certain insurance, up to a certain level health and disability insurance; IRC 105 group-term or other life insurance ($50,000 limit) IRC 79 personal liability insurance

23 Fringe Benefits Dependent care assistance (IRC § 129)
Use of athletic facilities, subject to certain conditions Automobile allowances or use of an employer’s automobile for business purposes Travel benefits, including recruiting, fundraising, attending conferences Awards for length of service and safety achievement The length of service and safety achievement awards must be awarded as part of a “meaningful presentation”, Regs (3) Less than $1,600 (cannot be cash) if written plan – no management or executives

24 Fringe Benefits Employer-paid transportation($115) or parking($220)
Free or discounted admission to university sponsored events Cafeteria plan benefits §125 Flexible spending accts medical/dental/vision expenses group term life insurance §79 greater $50k taxable dependent care assistance adoption assistance Moving and relocation expenses §217 IRS Pub 521 Form 3903 (meals, real estate, house hunting & temp living expenses are taxable)

25 Fringe Benefits Qualified Employee Discounts §132 ( c )
No Additional Cost Services §132(b) Working Condition Fringe Benefits §132(d) May be provided on a discriminatory basis. Employee can deduct on return. Related to the employee’s work. Di minimis Fringe Benefits §132(e) Bookkeeping is a burden. The free turkey. Certificate is taxable, turkey not taxable. Qualified Moving Expense Reimbursements §132(g) Qualified transportation fringe benefit §132(f) Gifts (less than $15), Free Stuff (expensive door prizes),

26 Fringe Benefits Employer-Provided Cars (listed property)
Employer-Provided Cell Phones (listed property). Current IRS position, absent detailed substantiation, it will be 100% taxable to the ee. If legs passes they will be treated like all other fringe benefits including the desk phone. For latest developments check H.R.5450 Lodging & Meals Provided for the Convenience of the Employer § 119 Educational Assistance §127 Max $5,250 Employee Business Expense Reimbursements (Accountable Plans) IRC 274(d) -must be a business expense -verify and substantiate -return any unused portion

27 Accountable Plans Business Connection IRC 162
The amount must be paid for business expenses paid or incurred by the ee in connection with the performance of services on behalf of the er. Substantiation Amount Time and place of the travel, entertainment, amusement, recreation, or use of the facility or property, or the date and description of the gift,

28 Accountable Plans Substantiation
Business purpose of the expense or other item the business relationship to the taxpayer of persons entertained, using the facility or property, or receiving the gift Expense advance must be reasonably calculated to cover expenses Employee must substantiate within 60 days Must return unspent allowance within 120 days

29 Unrelated Business Income Tax
A little history… Prior to 1950 tax exempt organizations could engage in unrelated business activities. Then along came NYU School of Law with it’s subsidiary the Mueller Macaroni Company. Mueller Co. v. Commissioner, 190 F.2d 120 (1951). Income is from a trade or business “production of income” The trade or business is regularly carried on by the organization (frequency, continuity, and how it is carried on) The trade or business is not substantially related to the institution’s tax-exempt functions “mission”

30 Unrelated Business Income Tax
Exceptions Convenience businesses (laundry operated for students) Research (for the public interest-inc tech transfer to private sector for testing) Corporate Sponsorships (no substantial return benefit other than the use or acknowledgment of the name or logo – cannot say that coke is better than pepsi) Certain types of income (received in a passive manner)

31 Unrelated Business Income Tax (cont.)
Income Exceptions Investment income IRC § 512(b)(1) (interest, dividends and annuity income) Rent IRC § 512 (b) (2) (no not provide cleaning services) Royalty income (trademark, copyright) Capital gains IRC § 512 (b)(5) (excludes all gains or losses from the sale, exchange, or other disposition of property)

32 Unrelated Business Income Tax
Unrelated Debt Finance Income property held to produce income to which there is acquisition indebtedness

33 Unrelated Business Income Tax
Corporate Sponsorships Qualified Sponsorship Payments (money, transfer of property, performance of service) Substantial Return Benefit (exclusive provider arrangement, goods, facilities, services, rights to intangible assets) Use or Acknowledgement (value neutral descriptions)

34 Unrelated Business Income Tax
Corporate Sponsorships Advertising not per se a return benefit Messages containing qualitative or comparative language Price information or other indications of savings or value An endorsement or an inducement to purchase, sell, or use the products or services

35 Unrelated Business Income Tax
Corporate Sponsorships Exclusive Arrangements Exclusive sponsorship Exclusive provider of goods and services Internet Sponsorships (hyperlink with no other information) Periodicals (student run newspapers)

36 Unrelated Business Income Tax
Travel Tours – (if structured as an -educational activity no UBIT (Rev Rul ) Rental of Facilities (if provide meals and maintenance will be UBIT) Fitness Facilities (who is being served & how much is being charged)

37 Unrelated Business Income Tax
Reporting Form 990-T New public disclosure requirements IRS Notice Quarterly payments IRS Publication 598 UBIT

38 Intermediate Sanctions
An excess benefit transaction is any transaction in which an economic benefit is provided by an applicable tax-exempt organization, directly or indirectly, to or for the use of any “disqualified person,” if the value of that economic benefit exceeds the value of the services provided by the disqualified person.

39 Intermediate Sanctions
Applicable tax exempt organization 501(c)(3) or 501(c)(4) tax exempt public charity Includes higher education Does not apply to for profits

40 Intermediate Sanctions
Disqualified persons Substantial influence Family members Entities in which any of the above own more than a 35% interest Facts and circumstances test

41 Intermediate Sanctions
Organization Managers trustee, director, or officer, has similar powers to trustees Rebuttable Presumption of Reasonableness IRS notice arrangement approved by an independent body - board board obtained & relied on appropriate comparable data Basis for determination was adequately documented Tax Penalties to insiders and possible loss of tax exemption IRS Publication 557 Tax Exempt Status

42 Tax Exempt Bonds Arbitrage – the act of making money w/ money. Borrow at a low rate at the taxpayer’s expense. With a few exceptions money must be rebated to the gov. Private Use Issues 501(c)(3) threshold - §145, 5% of net proceeds for unrelated use including issuance costs Governmental entity threshold -10% unrelated use Issuance costs – capped at 2% counts twds private use

43 Tax Exempt Bonds Private Use Issues (cont.)
Research agreements – original investigation for the enhancement of scientific knowledge – no commercial objective Rental income Naming rights Record retention requirements – for as the long as the bonds are o/s & three yrs after the final redemption Audit alert: TEB division of the IRS has increased staff by 20%. Cliff Gannett the Director states this will increase significantly, the number of audits. The twenty page FY2008 TEB work plan can be found at IRS.gov. Some of the areas under scrutiny include: yield burning, tax and revenue anticipation loans, 501 ( c) 3 charities.

44 Charitable Contributions
Qualifying donations Qualifying donees § 170 ( c )-must be a US entity state & local, religious, charitable, educatioal, veterans org, non profit cemetery companies Determining the amount and limitations on deductions -based on donor A.G.I. & Donee, & type of property Recordkeeping and substantiation requirements.

45 Charitable Contributions
Elements of a Charitable Donation Charitable intent detached, disinterested generosity (Comm vs. Duberstein 363 US 278 (1960)) No substantial benefit to the donor, complete, voluntary and unconditional Delivery org must have full control Acceptance by the donee Quid pro quo gifts part gift and part consideration for good or service

46 Charitable Contributions
Types of Contributions Cash – check, credit card, prom note, IRA’s, mailed though not recd on 12/31 is deductible § 1.170A-1b Stocks and bonds – fmv at date of gift Real estate – Conservation easements – a lot more scrutiny Tangible personal property – anything you can touch other than lands or bldgs.; full fmv if inst does not dispose in yr given – does not apply to vehicles Intangible personal property - i.e. life ins contracts, oil and gas interest (very complex subject to UBIT)

47 Charitable Contributions
Types of Contributions (cont.) Services and out-of-pocket expenses – no deduction for the value of the service Prizes and awards as gifts Recipient does not take into income if certain conditions apply: r’cd because of charitable purpose or civic engagement (Nobel prize), no action performed, does not have to perform service and gives the prize to a charity IRS Publication 526, Charitable Contributions IRS Publication 561, Determining the Value of Donated Property

48 Lobbying and Political Activity
Restrictions on Lobbying Activities Definitions of lobbying-retained for financial or other compensation; makes at least two lobbying contacts; 20% of time in a three month period engaged in lobbying Lobbying election- pros & cons Lobbying Disclosure Act- 1995 applies 1.) one ee that is a lobbyist 2.) spends at least $10k per calendar quarter Lobbying expenditures Reporting requirements –electing & non electing must rpt on Form 990 Sch. A as well as to maintain records that will enable them to calculate and report expenditures

49 Lobbying and Political Activity
Definition of Candidate §1.501 ( c ) (3)-1( c )(3)(iii) “an individual who offers himself, or is proposed by others, as a contestant for an for an elective public office, whether such office be national, state, or local” Public Office no IRS definition Intervention in a Political Campaign Rev. Rul Lists 21 Examples of what is allowed and not allowed

50 Political Activity Permissible Political Activities
Candidate debates and forums equal opportunity, no fundraising, explicit statement indicating that the inst does not endorse a candidate Student newspaper endorsements may publish editorials Rev. Rul Use of institutional facilities – no problem needs to state that inst does not endorse and no fundraising

51 Permissible Political Activities
Voter registration on campus higher ed amendment 1998 required to make forms widely available to students Other voter education voter guides must not be biased in favor of a candidate Course credit for participation in political campaigns Rev. Rul cannot indicate for which party - must be an elective course

52 Resources Tax Department Internal Audit External Auditors
Payroll, Human Resources & Other Dpts.

53 Resources NACUBO’s Taxlist mary.bachinger@nacubo.org ALIEN’s listserv
53 53

54 Resources (cont.) http://www.windstar.com/ NRA assistance
NRA tax preparation EO Tax Updates Send a blank to

55 Resources (cont.) Mr. Lowell G. Hancock Internal Revenue Service
LMSB International Foreign Payments International Information Reporting SE:LM:IN:C:FP Tel Fax: Internal Revenue Service Federal Bldg / U.S. Courthouse 2 South Main Street., Room 395 Akron, OH

56 Resources (cont.) Guide to Federal Tax Issues for Colleges and Universities Loose-Leaf Binder CD-Rom Updated Quarterly Federal Tax News for Colleges and Universities Click on Subscription Services in the left hand column The Tax Law of Colleges and Universities, 2nd Ed. Bertrand M. Harding, Jr. Employee Benefit Plans: Audit and Accounting Guide Publisher: AICPA NACUBO Guide to IRS Audits Laura Kalick, Peter K. Scott

57 RESOURCES Taxation of Charities and Other Exempt Organizations (West Publishing Co, 2003 Moran, Brennen, Jones and Willis). A Federal Income tax Guide for College and University Presidents American Council on Education (free download)

58 Resources (cont.) Income Tax Treaties (A-Z) Revenue Rulings Online
Publication 901, U.S. Tax Treaties Publication 515, Withholding of Tax on Nonresident Aliens and Foreign Entities Publication 519 , U.S. Tax Guide for Aliens Revenue Rulings Online

59 Resources (cont.) Internal Revenue Code Revenue Rulings Online
Revenue Rulings Online IRS Website for Students

60 Resources (cont.) NACUBO Tax Forum October 6 -7, 2008 Chicago, IL
Tax Workshops and Presentations Tax Institute for Colleges and Universities (TIFCU) May 17-19, 2009 Indianapolis, IN NACUBO Tax Forum October 6 -7, 2008 Chicago, IL

61 IRS Priorities for Nonprofit Review & Other Legislative Agendas
A. IRS Sets Priorities for Nonprofit Review in 2008 Interview with Lois Lerner – Director IRS Exempt- organization Division (12/20/07) B. United States Senate Committee on Finance (Baucus, Grassley) Write to 136 Colleges, Seek Details of Endowment Pay-outs, Student Aid (1/24/08) C. Tax-Exempt Bond Financings Compliance Check Questionnaire Form 13907 (TEB Work plan FY 2008) D. Exempt Organization Executive Compensation Compliance Initiative E. CEP and other examinations in higher education F. Governance Concerns G. Form 990 Redesign H. Form 990T Public Disclosure Requirements

62 Risk Management Issues
Strategic Risk – Not supporting institutional goals Financial Risk – Penalties, interest & fees Compliance Risk - Operations Risk – Not effective & efficient Public Relations Risk- Reputation

63 WITH APPRECIATION Associate Vice Chancellor of Finance
Susan Brooks Associate Vice Chancellor of Finance UNC Charlotte 414 Reese Financial Services Charlotte, NC Beverly I. Moran Professor of Law and Sociology Vanderbilt University Law School st Avenue South Nashville, TN 37203 College Business Management Institute & The University of Kentucky

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