New Guidance on Calculating UBTI for Separate Trades or Businesses Under Tax Reform

Transcription

1 New Guidance on Calculating UBTI for Separate Trades or Businesses Under Tax Reform FOR LIVE PROGRAM ONLY THURSDAY, NOVEMBER 29, 2018, 1:00-2:50 pm Eastern IMPORTANT INFORMATION FOR THE LIVE PROGRAM This program is approved for 2 CPE credit hours. To earn credit you must: Participate in the program on your own computer connection (no sharing) if you need to register additional people, please call customer service at ext.1 (or ext. 1). Strafford accepts American Express, Visa, MasterCard, Discover. Listen on-line via your computer speakers. Respond to five prompts during the program plus a single verification code. To earn full credit, you must remain connected for the entire program. WHO TO CONTACT DURING THE LIVE EVENT For Additional Registrations: -Call Strafford Customer Service x1 (or x1) For Assistance During the Live Program: -On the web, use the chat box at the bottom left of the screen If you get disconnected during the program, you can simply log in using your original instructions and PIN.

2 Tips for Optimal Quality FOR LIVE PROGRAM ONLY Sound Quality When listening via your computer speakers, please note that the quality of your sound will vary depending on the speed and quality of your internet connection. If the sound quality is not satisfactory, please immediately so we can address the problem.

3 New Guidance on Calculating UBTI for Separate Trades or Businesses Under Tax Reform THURSDAY, NOVEMBER 29, 2018 William M. Funk, Attorney Law Office of William M. Funk, New York Elizabeth M. Mills, Shareholder Elizabeth M. Mills, Woodstock, Ill.

4 Notice ANY TAX ADVICE IN THIS COMMUNICATION IS NOT INTENDED OR WRITTEN BY THE SPEAKERS FIRMS TO BE USED, AND CANNOT BE USED, BY A CLIENT OR ANY OTHER PERSON OR ENTITY FOR THE PURPOSE OF (i) AVOIDING PENALTIES THAT MAY BE IMPOSED ON ANY TAXPAYER OR (ii) PROMOTING, MARKETING OR RECOMMENDING TO ANOTHER PARTY ANY MATTERS ADDRESSED HEREIN. You (and your employees, representatives, or agents) may disclose to any and all persons, without limitation, the tax treatment or tax structure, or both, of any transaction described in the associated materials we provide to you, including, but not limited to, any tax opinions, memoranda, or other tax analyses contained in those materials. The information contained herein is of a general nature and based on authorities that are subject to change. Applicability of the information to specific situations should be determined through consultation with your tax adviser.

5 NEW GUIDANCE ON CALCULATING UBTI FOR SEPARATE TRADES OR BUSINESSES UNDER TAX REFORM Strafford Continuing Education Webinars William M. Funk, Esq. (212)

6 ABOUT THE SPEAKER William M. Funk started his tax law practice in He has delivered highly-rated tax presentations to accountants for Continuing Professional Education credit, to attorneys for Continuing Legal Education credit, and to business professionals. He also has written numerous articles on tax issues. His current practice includes representing hedge funds, real estate businesses, individuals and nonprofits with cross-border operations. Representative transactions include structuring hedge funds, real estate joint ventures with tax-exempt organizations, U.S. investments by foreign persons and executive compensation. He received his LL.M. in Taxation from New York University Law School, his J.D. from Vanderbilt Law School and his A.B. from University of Chicago. For additional information, please visit Law Office of William M. Funk 6

7 TOPICS COVERED Code Section 512(a)(6) New Guidance on Identifying Separate lines of Business Siloing Permissible Aggregation Transitional Safe Harbors Application to the World of Real Estate and Fund Investing Law Office of William M. Funk 7

8 TOPICS COVERED Examples Recap of Request for Comments Law Office of William M. Funk 8

9 NEW SECTION 512(A)(6) Tax Cuts and Jobs Act of 2017 enacted Code Section 512(a)(6), which as a result: unrelated business taxable income [ UBTI ], including for purposes of determining any net operating loss deduction, shall be computed separately with respect to each such trade or business and without regard to subsection (b)(12) [the specifically allowed $1,000 deduction] UBTI of an organization is the sum of UBTI of all of its unrelated trades or businesses, less the specific deduction under (b)(12); and UBTI of any trade or business may not be less than zero. Law Office of William M. Funk 9

10 NEW SECTION 512(A)(6) Context: Entities Subject to Unrelated Business Income Tax ( UBIT ) Organizations generally exempt under Section 501(a) Charitable organizations etc. Special organizations such as social clubs have special twists on UBIT. Organizations generally exempt under Section 401(a) or 408 Individual Retirement Accounts Qualified pension plans. Law Office of William M. Funk 10

11 NEW GUIDANCE ON IDENTIFYING SEPARATE LINES OF BUSINESS Notice , issued August 21, 2018 Announced intention to issue Proposed Regulations. Pending issuance of Prop. Regs., may rely on a reasonable, good-faith interpretation of when there is more than one trade or business. A reasonable, good-faith interpretation includes using the North American Industry Classification 6-digit codes. Law Office of William M. Funk 11

12 NEW GUIDANCE ON IDENTIFYING SEPARATE LINES OF BUSINESS Fragmentation principle may also apply. Code Section 513(c), Treas. Reg (b): Activities of producing or distributing goods or performing services from which a particular amount of gross income is derived do not lose identity as trade or business merely because they are carried on within a larger aggregate of similar activities or within a larger complex of other endeavors which may, or may not, be related to the exempt purposes of the organization. Law Office of William M. Funk 12

13 SILOING: KEEPING DEDUCTIONS/LOSSES ASSOCIATED WITH RELATED INCOME Code Section 512(a)(1) calculates UBTI as gross income, less directly connected deductions. Proximate and primary under Treas. Reg (a). Reasonable basis for allocation between exempt and unrelated. IRS and Treasury considering modifying standard and requesting comments. Law Office of William M. Funk 13

14

15 NEW GUIDANCE ON CALCULATING UBTI FOR SEPARATE TRADES OR BUSINESSES UNDER TAX REFORM STRAFFORD CONTINUING EDUCATION WEBINARS NOVEMBER 29, 2018 ELIZABETH M. MILLS

16 IDENTIFYING SEPARATE TRADES OR BUSINESSES FOR NON-INVESTMENT ACTIVITIES Again, the problem losses from one UTorB may not be used to reduce taxable income from another UTorB Treasury and IRS are requesting comments on methods of identifying separate UTorB Facts and circumstances disfavored Ask for comments on use of other Code sections in identifying separate trades or businesses e.g., 132, 162, 183, 414, 469 but are not hopeful Ask for comments on use of NAICS codes 11/29/2018 ELIZABETH M. MILLS P.C. 16

17 WHAT S NAICS AGAIN? North American Industry Classification System Office of Management and Budget, along with Canada and Mexico Revised every 5 years Contains 1,057 6-digit industry codes Developed to provide a consistent framework for industrial statistics for government, academia, business community Principle of aggregation: producing units that use similar production processes should be grouped together, so that information on inputs and outputs can be generated 11/29/2018 ELIZABETH M. MILLS P.C. 17

18 WHAT S NAICS AGAIN? Divides the economy into 20 sectors (2-digit level) For example, Information is a sector containing industries that create and disseminate products subject to copyright; Professional, Scientific, and Technical Services is a sector containing industries where human capital is the major input Within each sector, industries are grouped into subsectors (3-digit) according to their production method For example, the Information sector includes publishing, motion picture, broadcasting, telecommunications, and data processing subsectors The fourth through sixth digits define the specific industry The Form 990 and 990-T instructions contain an abbreviated list of six-digit NAICS codes and ask reporting organizations to classify their major activities with codes 11/29/2018 ELIZABETH M. MILLS P.C. 18

19 REQUEST FOR COMMENTS The Notice asks for comments regarding whether using NAICS codes with fewer than 6 digits, or combining NAICS codes with other criteria, would appropriately identify separate TorB 11/29/2018 ELIZABETH M. MILLS P.C. 19

20 WHY SIX-DIGIT NAICS CODES DON T WORK The codes are intended to describe the primary activity of establishments, not specific activities An establishment is generally a single physical location where operations are conducted (e.g., store, factory) 11/29/2018 ELIZABETH M. MILLS P.C. 20

21 WHY SIX-DIGIT NAICS CODES DON T WORK Example: food service offered by cultural institution to the public, including a snack bar, cafeteria, and sit-down dining, all from the same kitchen with the same staff 2-digit code: 72, Accommodation and Food Services this works 6-digit codes break down this activity into: , Full-Service Restaurants Cafeterias, Grill Buffets, and Buffets Snack Bars Maybe , Limited-Service Restaurants, as well An establishment would choose the primary code describing it; for UTorB purposes, four silos are created 11/29/2018 ELIZABETH M. MILLS P.C. 21

22 WHY SIX-DIGIT NAICS CODES DON T WORK Example: university scientific research 2-digit code: Professional, Scientific, and Technical Services 6-digit codes break this down into: , Research and Development in Nanotechnology , Research and Development in Biotechnology (except Nanotechnology) , Research and Development in the Physical, Engineering, and Life Sciences (except Nanotechnology and Biotechnology) 11/29/2018 ELIZABETH M. MILLS P.C. 22

23 NOLS Old rule: net operating losses generated from any UTorB may be used to offset aggregate UBTI; NOLs could be carried 2 years back and 20 years forward Example: Hospital with loss from non-patient laboratory business in year 1 could carry NOL forward to reduce income from nonpatient pharmacy business in year 3 11/29/2018 ELIZABETH M. MILLS P.C. 23

24 NOLS New rule: NOLs stay in their silos; for purposes of determining an NOL deduction, UBTI is calculated separately for each UTorB for 2018 and future years (Post-2017 NOLs) Does not apply to NOLs arising before 1/1/18 and carried forward to later years (Pre-2018 NOLs) TCJA changes for Post-2017 NOLs in general, not just EOs: no carryback and unlimited carryforward; and only 80% of taxable income can be reduced by NOLs 11/29/2018 ELIZABETH M. MILLS P.C. 24

25 NOLS Notice requests comments on ordering of use of post NOLs and pre-2018 NOLs Impact Pre-2018 NOLs are more valuable because they can be used against UBTI from any silo and are not limited to 80% offset Should taxpayers be able to choose to use post-2017 NOLs, in the appropriate silo, first? Is that inconsistent with the usual first in first out treatment? What happens to post-2017 NOLs for a particular silo when that UTorB is discontinued? 11/29/2018 ELIZABETH M. MILLS P.C. 25

26 NOLS Entering silo status Year 1: only one UTorB, which loses money; no silo Year 3: add another UTorB Are the Year 1-2 NOLs available for the new UTorB? 11/29/2018 ELIZABETH M. MILLS P.C. 26

27 OTHER ITEMS Section 512(a)(7), added by TCJA, taxes exempt organizations provision of certain qualified fringes as UBI The Notice concludes that this income is not UTorB income and is not subject to Section 512(a)(6) Does that mean that the Section 512(a)(7) income (it will always be income) can or can t be reduced by silo losses? 11/29/2018 ELIZABETH M. MILLS P.C. 27

28 OTHER ITEMS Comment deadline on Notice: December 3, Examples of what works and doesn t work are particularly requested Will EOs get relief for underpayment of 2018 estimated tax? No word yet Draft 2018 Form 990-T and new Schedule M (for each UTorB) have been released; little guidance 11/29/2018 ELIZABETH M. MILLS P.C. 28

29

30 PERMISSIBLE AGGREGATION Unrelated-debt financed income ( UDFI ) is UBTI. UDFI raises special issues. Siloing to keep separate activities with different debt/basis ratios. Aggregation for administrative ease. Treasury and IRS will request comments. (Notice , Section 4) Law Office of William M. Funk 30

31 PERMISSIBLE AGGREGATION The IRS and Treasury announced they intend to propose regulations aggregating activities in the nature of an investment as one trade or business. This position requires an analytic leap over bodies of case law taking the position that investing on one s own account is not a trade or business, but is required by Code Section 512(b)(4). The IRS and Treasury will also request comments. (Notice , Section 5.02) Law Office of William M. Funk 31

32 TRANSITIONAL SAFE HARBORS In cases of partnership investments, use reasonable, good-faith method of identifying separate trades or business until proposed regulations are issued. May aggregate UBTI from interest in a single partnership with multiple trades or businesses, including, those conducted by lower tier partnerships, as long as the partnership meets the de minimis (<2%) capital or profits interests test OR the control test. Law Office of William M. Funk 32

33 TRANSITIONAL SAFE HARBORS Control test: Directly holds no more than 20 percent capital interest; and Does not have control or influence or control over the partnership (facts and circumstances test). Law Office of William M. Funk 33

34 TRANSITIONAL SAFE HARBORS For partnership interests acquired before August 21, 2018, an exempt organization may treat as a single trade or business regardless of how many trades or businesses are conducted by lower-tier partnerships. UDFI may be aggregated under the partnership de minimis or control tests. Law Office of William M. Funk 34

35 EXAMPLES Dynacorp Pension Fund., a qualified pension plan under 401(a) already owns real-estate related investments and is considering investing in others: 1. An already-owned 50-percent interest in a partnership that owns: a: an interest in a LLC that owns a 50-percent interest in a hotel, 100-percent financed with debt. Law Office of William M. Funk 35

36 EXAMPLES b: an interest in a LLC that owns a 25-percent interest in an office building, 50-percent debt-financed. c: an interest in an LLC that owns a 20-percent interest in a solar-power generation facility, debt-free. Law Office of William M. Funk 36

37 EXAMPLES 2. A prospective 15-percent interest in a partnership with several lower-tier partnerships, with right to withhold consent to major decisions. The American Portrait and Landscape Museum, a 501(c)(3) organization is likewise considering investments: 1. A one (1) percent interest in a hedge fund that uses leverage to take risky positions. Law Office of William M. Funk 37

38 EXAMPLES 2. A three (3) percent interest in a hedge fund that purchases and sells property tax liens. Law Office of William M. Funk 38

39 RECAP OF REQUESTS FOR COMMENTS December 3, 2018 Deadline -- Hurry! Interim rule for distinguishing trades or businesses. Other Code Sections and Regulations as possible models for a standard. NAICS as a standard. Rules for allocating deductions among trades or businesses. Treatment of UDFI. Law Office of William M. Funk 39

40 RECAP OF REQUESTS FOR COMMENTS December 3, 2018 Deadline -- Hurry! Activities to be included within scope of investment activities. Treatment of income derived through partnerships. Application to special tax-exempt organizations. Issues related to net operating losses. Law Office of William M. Funk 40

41 CONTACT INFORMATION William M. Funk, Esq. Law Office of William M. Funk 275 Madison Avenue, 14th Floor New York, NY Phone: (212) Fax: (917) Law Office of William M. Funk 41