AHLA's Speaking of Health Law

Best Practices for IRC 4960

November 05, 2019 AHLA Podcasts
AHLA's Speaking of Health Law
Best Practices for IRC 4960
Show Notes Transcript

Ruth Madrigal, leader of KPMG’s Washington National Tax Exempt Organizations group, interviews Preston Quesenberry, a Managing Director in the same Exempt Organizations group, about his presentation at AHLA’s Tax Issues for Health Care Organizations conference in Arlington, VA, on the new excise tax on certain compensation paid to tax-exempt executives. Sponsored by KPMG LLP.

To learn more about AHLA and the educational resources available to the health law community, visit americanhealthlaw.org.

Speaker 1:

Support for A H L A And the following message comes from KPMG's Healthcare and Life Sciences practice helping clients comply with regulatory change, adopt effective tax strategies, improve outcomes through data analytics and advanced technologies, and more. For more information, visit kpmg.us.

Speaker 2:

Hi, I am Ruth Madrigal from K P M G, a sponsor of the A H L A Tax Issues for Healthcare Organizations program here in sunny Virginia. I'm here with Preston Quesenberry from kpmg, who is the speaker at this program this morning. Preston, what did you talk about this morning?

Speaker 3:

Well, this morning we talked about two new provisions in, uh, that were part of tax reform, the Tax Cuts and Jobs Act. The, uh, the first one was the new executive, uh, or the new tax on executive compensation under, uh, section 49 60. Uh, and the other one we talked about was the tax on qualified transportation fringe benefits under five 12, A seven.

Speaker 2:

So I was in your section this morning and, uh, there was a lot of time spent on the calculation of 49 60. I think a lot of organizations, um, were grappling with the parking tax. As you mentioned, you got, uh, uh, hundreds of calls of situations that were presented to you, uh, earlier in the year, but, uh, more recently folks have been looking at 49 60 with additional interest. Is that right?

Speaker 3:

Yeah, I think that think that's right. I think, um, the parking tax as it's become known was, um, given its effective date, that was sort of the first wave for a lot of, uh, tax exempt organizations struggling with these, these new rules, and they had to kind of get their position straight. So we sort of dealt with that first, and now I, I think the focus has really shifted to, to 49 60 and how that tax is gonna be reported, paid, and reported on the, on the form 47 20.

Speaker 2:

And let's just procedurally, there haven't been proposed rigs on either of these taxes, correct?

Speaker 3:

That's right. All we have, we have two notices right now, um, that were both released in December of 2018, and taxpayers can rely on those notices if they want to. But, uh, but there, there aren't stated rules and, and these proceed even proposed regulations, much, much less final regulations. Um, with respect to the, uh, the notice under, uh, section 49 60, the IRS said in the meantime, before final regulations are issued, you can use any good faith reasonable interpretation of the statute. Uh, similarly in the notice on qualified transportation fringes, the IRS said you can use any, uh, reasonable method to determine, um, what amounts have to be included in U B T I.

Speaker 2:

Great. So let's focus a little bit on, um, on the 49 60, uh, compensation excise tax. Uh, you talked a bit about bit this morning about difficulties in calculation for, uh, for exempt organizations. So for the hospital systems out there that are tax exempt, what, what are you finding or difficulties in calculating? What are some tips you have for them?

Speaker 3:

Uh, yeah, I think the main difficulty is that the amount that is, that you're going to use to determine, um, remuneration, which is the term under 49 60, uh, 49 60 60 specifically taxes, your remuneration over$1 million paid to covered employees. And this definition of remuneration that's paid is different than any amounts that the hospital's necessarily gonna report on the W2 than any amounts that they're necessarily gonna report, uh, on their tax return or information return in the case of a tax exempt. So it it, you really have to scrutinize it with a new lens and come out with, come up with sort of a third category of, you know, this is what my remuneration is for 49 60 purposes because of the different rules. So I think, you know, working through that thinking process has, has been probably the, the most difficult or one of the more difficult aspects is having to do that, that calculation.

Speaker 2:

So what are some of the differences?

Speaker 3:

Well, um, it, it, a lot of it boils down to the fact that, uh, 49 60 and the, and the notice reiterates that they say, as far as the, the timing of, uh, when remuneration is considered paid, it's based on when, when there is no longer a substantial risk of forfeiture for purposes of 4 57 F and they say the notice of particular points to the proposed regulations under 4 57 F but that's a particular concept of vesting that doesn't always match up when you're gonna report that income in box one of your W two or box five of your W two. Uh, and so I think it's mostly that, that timing mismatch, that's gonna create the difficulty. Um, you know, otherwise remuneration is defined, um, by cross reference to 34 0 1, which are wages for federal income tax withholding purposes. So that does give you one defined base, but it's the timing that's gonna be different. And two examples that my co-panelists, uh, went into, uh, as to where you might see that differential one, is, uh, what are called short-term deferrals. And just to give you an example, if you were, um, a taxable employer, uh, say an, an employee gets a right to let, let's assume that you're on a calendar, you're, and you're, you're an employer, um, if the EM employee gets a right to a certain amount of income in December of year one, but the amount isn't actually paid until January or February of year two, like a bonus, uh, like a bonus. Uh, so it doesn't, it's not actually paid until the following year, but you could say it vests in the, the prior year because the employee had a right to it for W two purposes, uh, because of an exception in 4 57 F basic. And there's also similar rules under 4 0 9 cap a, you, you basically can, um, include that amount in income in the January or February when it's actually paid, not when it's vested, as long as you fall within a two and a half month period in the following year. But, you know, for 4 57 F purposes, if you look at when did that really vest? When was there no longer substantial risk of forfeiture, well, that really happened in year one in December. So for 49 60 purposes, you would have to include that bonus in your example in year one, even though it's not gonna be included on your W2 until year two.

Speaker 2:

Uh, so these are the kinds of timing iss Yeah. Issues that could be difficult, uh, for a hospital system that is keeping track of compensation for reporting purposes. Right. And now has to keep track of it for 49 60 purposes. That's right. That makes sense. What about employees that, um, you may have employees in a hospital system that perform services for multiple, uh, organizations within that system?

Speaker 3:

Yeah, I would say that's, uh, either tied for, or, you know, yeah, I would say tied for the most, most complicated, uh, or difficult issue that hospital systems in particular are struggling with, with this tax is that, um, you know, you've got, you've oftentimes have one individual who is doing important work for multiple legal entities within the system. Um, and in a tax exempt system in particular, that's multiple different tax exempt entities. Um, and before it didn't really matter too much who that individual was really considered an employee of. Um, you know, as long as all the employment tax was being paid and all the compensation, there wasn't that much at stake. But at least what the, the notice states now, and, um, and maybe there's some basis for this in, in the statute as well, is you've really gotta figure out, okay, you know, which of these organizations, tax exempt organizations that are part of the system are actually employers for common law purposes, uh, for this individual, and how should that person's time and, um, functions in compensation remuneration be allocated amongst all these various entities? And that can make a, a difference when you're coming up with your, when you're going entity by entity and coming up with your list of top five in terms of how that individual is allocated, uh, to different entities. So I think that's a struggle for a lot of systems to have to go through that exercise.

Speaker 2:

So we've been talking a bit about issues that are affecting, uh, the tax exempt systems, but what about taxable hospital systems? Does this tax apply to them too?

Speaker 3:

It does not in the, in the first instance. I mean, in the first instance, the tax only applies to what are called applicable tax exempt organizations. And, and in your hospital contexts, that's typically going to be limited to your, your five, your organizations that are tax exempt under 5 0 1 a, your 5 0 1[inaudible][inaudible] and, and CUN four s. Uh, but what the statute provides is that once you've determined your top five employees, your covered employees for an applicable tax exempt organization, uh, the tax then applies to the REM remuneration paid not only by that tax exempt organization, but also any related organizations, uh, and related organizations. Um, it's arguably implicit in the statute, but the, the notice makes clear include can include taxable organizations.

Speaker 2:

So this would be like a, a taxable healthcare system that has a foundation, uh, somewhere in the mix. Uh, a charitable foundation.

Speaker 3:

That's right. If you have a, a system, uh, healthcare system that's mostly taxable, it's not uncommon that there will be some tax exempt in that mix, like a foundation in, in your example. And so say if you have a foundation, uh, the first step would be to say, okay, well who are the top five highly compensated employees in that tax exempt organization? Um, and then when you're determining whether or not there's any tax, uh, on the remuneration received by those employees, you have to look to any related organization, which would include all the taxable organizations in that system.

Speaker 2:

So what if this foundation, um, is really doing good things in the community? They're making grants for health purposes in the community, and the only folks from the rest of the system, they, there are some executives from the for-profit hospitals that serve on the board, uh, I mean, and, and serve as officers of this foundation. And you may have some other employees that do some volunteer time with the foundation. Does this include them too?

Speaker 3:

Um, you know, well I think the, the first step you would have to go through is just to, you know, a, make sure that this tax exempt, the foundation that you're talking about is indeed a related organization of, of a taxable entity in the system. Um, and if you look at the, if you look at the statute, it just talks about concepts of control. So the question would be, is this tax exempt organization controlled by one or more taxable entities in the system? There's no definition of control in the statute, but in the notice, which again, is not binding, but what they set forth as a proposal for a definition of controlled is based on, um, this EBIT statute five 12[inaudible] 13, uh, which really relates to just payments between related tax exempts or taxable and tax exempts. Um, you, they, they look to that definition and what that definition, um, well, I guess one thing to note about that definition is that it actually either applies to a tax exempt parent and a taxable sub, or it applies to two tax exempts or two non-stock. It does not actually even have a definition for, say, a taxable healthcare organization and a tax exempt subsidiary. So there's no technical definition, but extending the principles in the notice, what it would say would be if, if essentially a majority of the board of that tax exempt is appointed or elected by the taxable, it would be considered controlled. Um, and that might make a certain amount of sense. I think another,

Speaker 2:

The situation that we talked about where you've got the foundation that's doing things in the community on behalf of the system, but what about if you've got, um, are there other situations beyond that that it would apply to?

Speaker 3:

Yeah, I mean, so in addition to the appointment or, or election prong of the definition, there's also this, uh, conception of having representatives on the board. So if the tax exempt organization, if a majority of its board are represented representatives of the taxable organization, then that tax exempt is considered controlled by, uh, the taxable organization. So, and, and the definition of representatives is pretty broad. It includes directors of the taxable organization, officers of the taxable organization, but also employees agents. So if there's, under that definition, if there's any tax exempt organization out there and a majority of its board, uh, happen to be employees or, or agents or officers, directors of a taxable, it will be considered related and potentially, uh, brought into this excise

Speaker 2:

Tax. Oh, that could be really broad and brought, bring in a number of organizations that that one wouldn't ordinarily think of as related to or controlled by. If you're taking into account employees activities outside, what, how would that interact with employees that are just volunteering their time outside of the organization and some of these charitable entities?

Speaker 3:

Well, I think that that's been the, the big question here, because I mean, the starting point when you've got a tax exempt foundation, um, for purposes of determining this tax is to determine, okay, well, uh, who are the top five highest compensated employees? So one threshold question is, does it have, who are its employees? Are, are the people who are volunteering for the organization, really employees or not? Um,

Speaker 2:

In the tax exempt world, we've got lots of volunteers and we would never confuse volunteers within employee with employees. Is that a tougher question here?

Speaker 3:

Well, yeah, and I think there is the, I think there's that common sense conception that if you're a volunteer, you're not an employee, you're not being paid to do anything. Um, and I, I think there are a number of, um, uh, legal precedents in non-tax areas that you could point to to say, uh, you know, well look, this court in this particular area, whether it's Department of Labor context or other, has held that volunteers are non-employees. Um, there's also various tax contexts you could point to where the IRS has reached that conclusion. Um, on the other hand, there are certain authorities out there where the irs, for one reason or another for employment tax purposes, has wanted to say no, a volunteer can be an employee. And, and so there is some, I think, tension there that the IRS is, is grappling with on that, on

Speaker 2:

That question. So, so that's something to watch for in proposed regs, whether or not they consider, uh, employees that are doing volunteer work in charities to be acting on behalf of the organization.

Speaker 3:

Yeah. And, and the reason that it's relevant is you could say, well, what does it, what does it matter if they're not getting any, any compensation when you're, when you're coming up with your top five for the tax exempt? But the notice at least suggests that in coming up with your top five of the tax exempt, you pull in all the compensation from related organizations. So if you have some tax, if you have some executives that are, say, volunteering for, uh, the, uh, for the tax exempt foundation, what the notice would say is you bring in all of those executives pay from the taxables and coming up with your top five. And so they're, you know, if you would determine that even though they're just volunteering, they're actually employees you would bring in that compensation, then they're, you know, most likely if their executives are gonna be in the top five for the foundation, and then if they're covered employees, it's clear you would also tax the remuneration by a taxable organization. So, um, once you determine that even a volunteer can actually be an employee, then a whole set of potential horribles can occur from that threshold determination. So I think it, you know, hopefully the IRS will set parameters where they say no, you know, if you're really acting in a volunteer capacity and you can show that, um, you are not considered an employee in the first instance, and you don't have to worry about any of the, any of the following consequences. But right now that was left ambiguous in the notice just cause they didn't address it. The IRS has also made clear they haven't, they didn't really think through it at all when they issued the notice. So I don't, I don't think anyone should read anything negative into the notice either. But it's an unaddressed question at this stage

Speaker 2:

That we're looking to for, for the, the regulations to try to get some, some more of an idea where the IRS might be going on this. Um, and are you advising clients to, to pay attention even if they're in the for-profit space, to look out for these regs?

Speaker 3:

Yes, most definitely. And I think, um, and particularly on on that point that presumably they've, they've heard the IRS and treasury have heard enough of this issue that I think we can anticipate some sort of way to address it. And whether that's gonna be some sort of de minimus carve out that if your executives at the taxable are doing, you know, a, a certain percentage of their time or less at the tax exempt, you can just disregard it. Uh, whether it's some sort of, you know, minimal services exception along those lines. It, it's hard to say at this point, but I think you can expect something and I think, uh, taxables should be on the lookout when those proposed regs, uh, come out to, uh, see what that exception is and see if it covers them. And if it doesn't, certainly to let Treasury and the IRS know.

Speaker 2:

Yep. Sounds good. Well, thanks so much for talking to me today.

Speaker 3:

Sure.