To Tax or Not to (Excise) Tax: That is the Question for Higher Education
Originally published on February 3, 2020
Updated on August 16th, 2022
An excise tax meant to level the playing field in college coaching has led to controversy—and confusion—in how it’s applied.
The Tax Cuts and Jobs Act of 2017 (TCJA) introduced Section 4960 to the Internal Revenue Code. It implemented an excise tax of 21% on the excess of employee compensation above $1 million paid by tax-exempt entities. The law also targets excess parachute payments made to those employees who had left their jobs.
Many believe that highly paid coaches (like Alabama’s Nick Saban and his roughly $8 million/year package) spurred this tax. Due to some sloppy language in this legislation, however, a loophole was created. To be liable for the excise tax, an organization must be (or be related to) an applicable tax exempt organization (ATEO). So as the law currently reads, certain governmental tax-exempt entities may be able to escape the tax.
And therein lies the rub. The definition of what organizations are considered to be an ATEO is where the confusion comes into play.
How the Line Blurs for Public Universities
Based on IRS interim guidance, some governmental tax-exempt entities may not meet the definition of an ATEO under Section 4960. Specifically, an entity that’s a state, a political subdivision of a state, or integral part of a state or political subdivision might conclude that the excise tax is not applicable to them. (This becomes further complicated by whether it is considered related to an ATEO.)
For public universities, the determination of how their tax-exempt status is derived depends on numerous facts and circumstances. So there is no set rule for whether they qualify as political subdivisions, integral parts of the state, 115(1) entities, or 501(c)(3) entities. This creates a loophole in the excise tax legislation—and possibly establishing an uneven playing field for intercollegiate athletics organizations.
Since these institutions have just concluded the first year subject to the excise tax, we’re now seeing who is paying it. Based on our discussions with various public universities (both clients and non-clients), many feel the tax doesn’t apply to them based upon how the law is written. Others, however, believe it is applicable and are making estimated tax payments associated with it.
What should we do at my institution?
At this point, there is no “correct” choice on whether to pay the excise tax. However, each option has its own consequences.
Let’s say your institution decides that the tax does not apply. Then years later, the IRS closes the loophole and declares that all missed years must be paid. The resulting tax bill would be an even bigger hit than if you had paid them each year.
Conversely, paying the excise tax when it’s not necessary can have a huge impact on your program’s budget. Valuable resources needed for facility improvements or student-athlete services would have to cover the tax instead. If the IRS ultimately decides you weren’t subject to it, there’s no guarantee your institution will get that money back.
You should also consider public perception. With today’s scrutiny of the money made by collegiate athletics programs, what blowback might you face if you don’t pay the tax?
So how long until something is decided?
The question of whether some public universities can avoid the excise tax may take years to answer. It depends on whether specific institutions are challenged on their position and the matter is litigated in tax court. Congress has had the opportunity to make changes, as they recently did with the repeal of other provisions in the TCJA. But nothing has happened yet specifically related to the executive compensation regulations.
In the meantime, some universities with large athletics organizations will continue to pay millions in excise taxes. Others—possibly including their competitors—will enjoy the effects of this loophole in the law.
The details of the excise tax can seem daunting given the ambiguity of current law and the schools’ differing approaches. We strongly recommend that you contact your institution’s tax counsel or James Moore’s collegiate athletics CPAs. We’ll assess your unique circumstances and help you determine how this tax impacts your athletics organization.
All content provided in this article is for informational purposes only. Matters discussed in this article are subject to change. For up-to-date information on this subject please contact a James Moore professional. James Moore will not be held responsible for any claim, loss, damage or inconvenience caused as a result of any information within these pages or any information accessed through this site.
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