Tax Bill’s Impact on Nonprofits and Higher Ed: More Questions than Answers
By Steve Center and Karen Heifferon
The tax overhaul bill signed into law by President Trump at the end of last year could have significant long-term effects on endowments and foundations—particularly nonprofit organizations dependent on charitable donations and certain private colleges and universities.
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Changes in tax policy will often alter economic and investment behavior, and Callan anticipates this revision will be no different. How affected nonprofits and higher education organizations will react remains to be seen, but they will be wise to pay close attention to the details of the new tax law as they are analyzed.
The key provisions for nonprofit organizations and higher education institutions:
STANDARD DEDUCTION: The law doubles the standard deduction—the amount of income that those filing taxes are allowed to automatically shield from taxes. This change is expected to decrease the percentage of taxpayers who itemize their deductions from approximately 30 percent to just 5 percent. Effectively, this means millions of Americans currently claiming charitable deductions as part of their itemized deductions will instead claim the standard deduction.
Donors support organizations for many reasons, and the change in the standard deduction does not necessarily mean donors will stop or reduce the amount they give. But studies have shown tax deductions affect charitable giving, and while it is too early to tell what impact the increase in the standard deduction will have, nonprofits that rely on donations should consider the implications of this change on their programs and outreach efforts.
PRIVATE EDUCATIONAL ENDOWMENT TAX: The law also imposes a 1.4% tax on net investment income at private colleges and universities with at least 500 students and assets valued at $500,000 per full-time student. Lawmakers estimate this will affect approximately 35 institutions—some of the wealthiest schools with large endowments and some colleges with robust endowments and relatively small student bodies—and raise about $1.8 billion in revenue over 10 years.
The language is ambiguous and will require the Treasury Department to define specific terms, including “assets which are used directly in carrying out the institution’s exempt purpose” and “net investment income.”
While the bill affects a relatively small number of institutions, the tax represents a paradigm shift; the federal government is now taxing certain college and university endowments. Endowment funds are a collection of tax-exempt donations and investments used to fund scholarships and research, endow professorships, and support operations and other expenses. The tax transfers money from higher education institutions to the federal government and thereby dilutes the ability of the endowment to fulfill its mission. Tax liability will ultimately have to be incorporated into the spending policies of the private colleges and universities affected by the new law.
Bottom Line: The tax bill has the potential over the long term to reduce the amount individuals contribute to charitable organizations, thereby affecting nonprofits that depend on donations. And private colleges and universities will need to engage in a new level of tax planning.
Callan will continue to analyze and review the details of the law and will work closely with the higher education community to determine what asset allocation changes, if any, are warranted once the final tax regulations are revealed. It is helpful to note that private foundations are already subject to an excise tax on investment income, and this structure has resulted in little difference when it comes to asset allocation relative to private educational endowments.