Important guidance on parking expenses and UBTI
What private clubs need to know about the new tax guidance
INSIGHT ARTICLE |
The recent tax legislation (commonly referred to as the Tax Cuts and Jobs Act, or TCJA) passed in 2017 included multiple changes to club taxation; recently released IRS guidance on one particular change to parking expenses includes an important planning opportunity if implemented within the next few months which could affect your club. Read on to find out more about the enacted changes and what you can do to minimize your liability.
The TCJA added section 274(a)(4) to limit the deductibility of expenses for qualified transportation fringes (QTFs) for tax purposes. This limitation will potentially affect taxable clubs by decreasing deductions on the club’s income tax return. In addition to this change for taxable entities, code section 512(a)(7) was added which requires a tax-exempt organization to increase its unrelated business taxable income (UBTI) by the amount of expenses that would be nondeductible under section 274(a)(4).
While these new provisions apply to all qualified transportation benefits (beyond just parking) this article focuses on parking expenses. Throughout 2018, taxpayers and tax practitioners have struggled with how to calculate the amount of expenses incurred for providing parking that would be subject to these rules. The IRS recently released Notice 2018-99 which includes additional guidance to assist with this determination.
The first step for clubs will be to determine if they in fact provide qualified parking, which the IRS defines as parking provided to an employee on or near the business premises of the employer or on or near a location from which the employee commutes to work. If a club provides qualified parking to its employees, the next step is to determine the amount of expenses attributable to providing this parking. It is important to note that limitation of deduction or increase in UBTI relates to the expense of providing the parking, not its fair market value.
According to Notice 2018-99, determining the amount of parking expenses depends on whether the taxpayer pays a third party to provide parking for its employees or the taxpayer owns or leases the parking facility where its employees park. Calculating the expenses is simpler when a taxpayer pays a third party to provide its employees parking at the third party’s lot or garage; in this case, the expense is the taxpayer’s annual cost of employee parking paid to the third party. It is important to note that there is a monthly limitation ($260 as of 2018 or $265 for 2019) on the amount of qualified transportation benefits that can be excluded from taxable income of employees; amounts that are included in taxable income of employees are not subject to the new negative consequences to employers.
Conversely, determining the nondeductible expenses becomes a bit more complicated when the club itself owns or leases the parking facility. Notice 2018-99 defines a parking facility as “indoor and outdoor garages and other structures, as well as parking lots and other areas, where employees may park on or near the business premises.” Clubs are permitted to use any reasonable method to calculate the disallowance; however, it emphasizes that using the fair market value of employee parking to determine the expenses is not a reasonable method. One reasonable method described in the notice uses two major factors when calculating the disallowed deduction: the total parking expenses the club incurred and the percentage of spots allocated to employee parking in relation to total parking spots.
A club should start by identifying the expenses related to parking such as repairs, maintenance, utility costs, insurance, property taxes, interest, trash removal, security and attendants. Please note that this is not a comprehensive list of expenses, as each club is different. The next step requires the club to determine the total amount of these parking expenses that are allocated to employee use of the parking.
The notice covers four steps for calculating the number of employee parking spots.
Step 1 is to identify spots exclusively reserved for the taxpayer’s employees. Employee spots in the parking facility may be reserved using specific signage or a barrier, or at a separate facility altogether. The club will then determine the percentage of these reserved employee spots in relation to total parking spots; this percentage is then multiplied by the club’s total parking expenses. The product will be disallowed expenses or considered UBTI. Since reserved employee spots will always lead to application of the new rules, the following information stated in the notice is very important:
Until March 31, 2019, taxpayers that have reserved employee spots as defined in this notice may change their parking arrangements (changing signage, access, etc.) to decrease or eliminate their reserved employee parking spots and treat those parking spots as not reserved employee spots for purposes of this notice retroactively to Jan. 1, 2018.
This means taxpayers have until March 31, 2019 to reduce the amount of spots on the club’s property that are reserved for employee parking which is likely to lead to a better tax result.
Step 2 in identifying employee spots is the “primary use test.” The club will determine if the spots remaining after removing those specifically reserved for employees in Step 1 provide parking to employees or the general public (customers, clients, visitors and vendor deliveries). If the primary use of the remaining spots is to provide parking to the general public, then the remaining parking expenses are not subject to disallowance or UBTI. For these purposes, “primary use” means greater than 50 percent of actual or estimated usage of the parking spots during normal business hours.
Step 3 requires the club to identify the number of reserved nonemployee spots. If the primary use of the remaining spots is not to provide parking to the general public, the club can identify the number of spots exclusively reserved for nonemployees. If the club does not have any reserved nonemployee spots, it can move to Step 4. If it does have reserved nonemployee spots, it will determine the percentage in relation to total remaining parking spots and multiply by the total remaining parking expenses. The proportionate amount is not disallowed or UBTI.
Step 4: Upon completion of Steps 1–3, should the club still have any parking expenses not classified as employee or nonemployee, it will reasonably determine the employee use of the remaining spots on a typical business day (or during the normal hours of an exempt organization’s activities on a typical day) and the corresponding proportion of the related expenses will be subject to disallowance or UBTI.
These changes could affect your club regardless of your status as taxable or tax-exempt. If you have any questions, please reach out to your tax provider.