Changes to rules regarding excess business holdings by private foundations
Published April 2, 2018
On February 09, 2018, President Trump signed into law the Philanthropic Enterprise Act of 2017 as a part of the Bipartisan Budget Act of 2018. The new law allows private foundations to own 100 percent of a business if certain conditions are met.
Prior to the new law, private foundations that acquired more than 20 percent of a for-profit company normally had a five-year deadline to sell the excess holdings before certain penalties were assessed.
Under Section 41109 of the Bipartisan Budget Act, IRC Section 4968(b)(1) has been amended to include an exception to the excess business holdings rules for private foundations. Under this exception, private foundations will be allowed to own 100 percent of the voting stock if the following rules are met:
- 100 percent of the voting stock is held by the private foundation at all times during the tax year,
- The private foundation cannot acquire the ownership interest through the purchase of the stock (shares must be donated),
- All of the profits from the business must be distributed to the private foundation, and
- The business must be operated independently from the foundation.
Note that this exception does not apply to certain kinds of entities that are deemed to be or are treated like private foundations. Specifically, the new Section 4943(g) exception does not apply to:
- Donor-advised funds
- Type III supporting organizations
- Charitable trusts and split-interest trusts subject to the private foundation rules
With regard to the distributions from the business to the private foundation, if the business is a corporation, distributions would be in the form of dividends and therefore excluded from unrelated business taxable income (UBTI). If, on the other hand, the business is a pass through entity, the income could be subject to UBTI under the tax code.
In accordance with the rules governing unrelated business activity, tax exempt organizations may realize UBTI to the extent that it has income derived from either:
- “Unrelated trade or business” carried on either directly by the organization or by any pass through in which it is a member,
- “Debt-financed” property owned by the organization or any pass through in which it is a member.
This means that if the pass through carries on a trade or business that would produce UBTI if carried on directly by an exempt organization, the exempt organization will realize UBTI equal to its share of ownership in the pass through entity’s gross income from that trade or business (whether or not distributed), less its share of deductions directly connected with that gross income.
It should also be mentioned that the 2017 Tax Cuts and Jobs Act, signed by President Trump last year, requires all sources of UBTI to be accounted for separately. This means that if the private foundation has several of these business holdings, the loss from one cannot be used to offset the income of another.
For more information, please contact author Bob Moreland, CPA via e-mail or phone (502.882.4658).