How the New Excise Tax on Investment Income Could Impact Private Colleges and Universities
This is the final in a series of blog posts contributed by John Graham, vice president and regional director of compliance research at Sibson Consulting.
Since the new tax bill was passed, we’ve received a number of questions as to how the legislation affects higher education and its employees. To help answer these questions, we’ve partnered with CUPA-HR Mary Ann Wersch Premier Partner Sibson Consulting to publish a series of blog posts. These posts are based on the information we currently have and will be updated as any guidance is issued. The content is for general information purposes only and should not be considered tax or legal advice.
This post will answer some of the questions surrounding the new excise tax on investment income of private tax-exempt colleges and universities.
Effective for taxable years beginning after December 31, 2017, the new tax law creates a 1.4 percent excise tax on the net investment income of certain “applicable” private tax-exempt colleges and universities. Congress chose the 1.4 percent rate because it approximates the taxes paid by private foundations on their net investment income.
For purposes of the new tax, an “applicable” college or university generally is an institution that:
- had at least 500 tuition-paying students during the preceding tax year;
- has more than 50 percent of its tuition-paying students located in the United States;
- is not a public college or university; and
- had an aggregate fair market value of assets (other than assets used directly in carrying out the school’s exempt purpose) at the end of the preceding taxable year of at least $500,000 per student.
For example, an institution with 2,000 students will not be subject to the tax unless the assets equal or exceed $1 billion (2,000 X $500,000). Once the assets meet the threshold, all the net investment income will be subject to the tax, not just the income on the assets above the threshold. The size of the threshold should be high enough to make most institutions exempt from the tax.
The number of students is based on the daily average of full-time student equivalencies (e.g., two students attending the institution on a half-time basis would be treated as one full-time student). The new law does not make a distinction between undergraduate and graduate students.
In addition to the assets and net investment income of the institution itself, the assets and net investment income of “related organizations” must be taken into account as well for purposes of determining the tax and the asset threshold. An organization is considered related if it:
- controls or is controlled by the institution;
- is controlled by one of more persons that control the institution; or
- is a supported or a supporting organization during the year with respect to the institution.
The assets and net investment income of the related organization cannot be allocated to more than one institution. And unless the related organization is controlled by (or a supporting organization of) the institution, assets and net investment income that are not intended or available for the use or benefit of the institution are not taken into account for purposes of the threshold or the tax. There are a number of items that still need to be clarified by the IRS:
- For purposes of determining what is not an asset of the institution for purposes of the tax, what are “assets used directly in carrying out the school’s exempt purpose?”
- What are assets and net investment income “that are not intended to be available for the use or benefit of the institution” for purposes of aggregation with related organizations?
- Are there special rules for determining net investment income?
- Which institutions needs to be aggregated? How would a separate medical school be aggregated with the university?
- When is a student considered located in the United States?
CUPA-HR will provide an update when guidance is issued.
Let us know what challenges you’re facing due to these tax changes, or share examples as to how you’ve addressed these changes. Email firstname.lastname@example.org.
Visit our tax reform web page for more on the new tax law.