In my world, the transition from summer to fall always seems to prompt a renewed focus on what will be different for our tax-exempt organization clients as the majority of them approach their financial reporting at year-end on Dec. 31. Calendar 2018 represents the initial implementation date for the most comprehensive reform of not-for-profit financial-reporting requirements in several decades. 

When it comes to tax-exempt financial-reporting requirements, my partner and colleague, Mario Urso, is the most knowledgeable subject-matter expert that I have worked with for close to 40 years. With respect to the complexity and changes of the new financial-reporting requirements, Mario’s expertise is something that I wanted to share in this column. Accordingly, the discussion that follows represents Mario’s concise summary of these financial-reporting changes. As you will read below, these requirements have been known for some time, but your nonprofit organization needs to confirm that it has made appropriate financial-reporting modifications to comply with the promulgated changes. Please pay close attention to what follows and the related impact on your 2018 audited financial statements.

Mario Urso

“It is hard to believe the time has gone by so quickly in my professional career. It seems like only yesterday I was reading FASB (Financial Accounting Standards Board) Statements No. 116 and 117. These statements, which were issued in the early 1990s, set forth the accounting and reporting requirements for contributions received and contributions made and the requirements for financial statements of not-for-profit organizations, respectively. As a result of these two standards, the accounting and reporting by all not-for-profit organizations was fundamentally altered from the era of fund accounting to an accounting and financial reporting model based on the existence or absence of donor-imposed restrictions. It is still hard to believe the accounting and reporting landscape for not-for-profit organizations was radically changed by two standards that contained only 30 and 31 paragraphs, respectively.

“Fast forward to 2016 and the issuance on Aug. 16, 2016, of Accounting Standards Update 2016-14 Not-for-Profit Financial Statements. This ‘update’ to the not-for-profit reporting standards consists of 233 pages of information, with the stated goal to ‘improve the current net asset classification requirements and the information presented in financial statements and notes about a not-for-profit (NFP) entity’s liquidity, financial performance, and cash flows.’ The FASB’s Not-for-Profit Advisory Committee (NAC) and other stakeholders indicated that existing standards for financial statements of NFPs are sound but could be improved to provide more useful information to donors, grantors, creditors, and other users of financial statements.

“Significant elements of the new accounting standard include the following items:

1. The requirement for NFP organizations to report on the face of the statement of financial position (balance sheet) using two net asset classifications; i.e., with and without donor restrictions, as opposed to the existing requirement to report using three net asset classifications; i.e., unrestricted, temporarily restricted and permanently restricted.

2. Reporting on the face of the statement of activities the change in net assets using the same two categories as the statement of financial position.

3. Removal of the requirement, if preparing the statement of cash flows using the direct method, to reconcile the overall change in net assets to the net cash flow from operating activities.

4. A substantial increase in the footnote disclosures in NFP financial statements to include information about:

a. Amounts and purposes of governing-board designations, appropriations, and similar actions that result in self-imposed limits on the use of resources without donor-imposed restrictions as of the end of the period. 

b. Composition of net assets with donor restrictions at the end of the period and how the restrictions affect the use of resources.

c. Qualitative information that communicates how an NFP manages its liquid resources available to meet cash needs for general expenditures within one year of the balance sheet date.

d. Quantitative information, either on the face of the balance sheet or in the notes, and additional qualitative information in the notes as necessary, that communicates the availability of an NFP’s financial assets at the balance-sheet date to meet cash needs for general expenditures within one year of the balance sheet date. Availability of a financial asset may be affected by (1) its nature, (2) external limits imposed by donors, grantors, laws, and contracts with others, and (3) internal limits imposed by governing board decisions.

e. Analysis of expenses by both their natural classification and their functional classification. That analysis of expenses is to be provided in one location, which could be on the face of the statement of activities, as a separate statement, or in notes to financial statements.

f. Method(s) used to allocate costs among program and support functions.

g. Underwater endowment funds, which include required disclosures of (1) an NFP’s policy, and any actions taken during the period, concerning appropriation from underwater endowment funds, (2) the aggregate fair value of such funds, (3) the aggregate of the original gift amounts (or level required by donor or law) to be maintained, and (4) the aggregate amount by which funds are underwater (deficiencies), which are to be classified as part of net assets with donor restrictions. 

5. The requirement to report investment return net of external and direct internal investment expenses and the elimination of the requirement to disclose the amount of the netted expenses.

6. Use, in the absence of explicit donor stipulations, the placed-in-service approach for reporting expirations of restrictions on gifts of cash or other assets to be used to acquire or construct a long-lived asset and reclassify any amounts from net assets with donor restrictions to net assets without donor restrictions for such long-lived assets that have been placed in service as of the beginning of the period of adoption (thus eliminating the current option to release the donor-imposed restriction over the estimated useful life of the acquired asset).

“While the Accounting Standards Update (ASU) also lists as one of its objectives ‘…to reduce the complexities …’ of reporting by NFP organizations, I am not sure that this will be achieved. A number of the new disclosure requirements will result in the need for significant critical and analytical thinking as an NFP develops the necessary disclosures. Also, a number of areas of new disclosure focus on matters that have historically been outside the main target of financial reporting and disclosure.”

Gerald Archibald

Each tax-exempt organization needs to consider the impact of this new standard on its financial-reporting practices. Most organizations will need to develop new financial-reporting disclosures in order to comply with the ASU requirements. With the effective date of the ASU commencing with years beginning after Dec. 15, 2017, calendar 2018 will represent your first year for adopting these requirements. Your internal planning for its implementation requirements should be in process now.

Our firm, under Mario’s leadership, has developed an “ASU No. 2016-14 Playbook,” which I believe is the best and most thorough summary of the 233 pages of the promulgated standard. If you would like a PDF copy of the Playbook for purposes of assisting your efficient adoption of the ASU requirements, feel free to email me. 

Gerald J. Archibald, CPA, is a partner in charge of the management advisory services at the Bonadio Group. Contact him via email at garchibald@bonadio.com

As the old saying goes, you can’t cheat death or taxes. In fact, you might still owe taxes after you die. One of these taxes is the federal estate tax. Generally, this is a transfer tax that may be imposed on property you own at your death. 

The sweeping changes of the 2017 Tax Cuts and Jobs Act (TCJA) ushered in a number of significant changes for estate taxes and planning. Beginning in 2018, the TCJA effectively doubled the estate, gift, and generation-skipping transfer (GST) tax exemptions for U.S. citizens. These exemptions now amount to $11.2 million for individuals and $22.4 million for married couples. The enhanced exemption will continue to increase with inflation through 2025. On Jan. 1, 2026, the exemption limits will return to 2017 amounts adjusted for inflation. Under the TCJA, the highest marginal rate for estate, gift, and GST taxes remains at 40 percent.

 Understanding the estate tax is essential to any estate plan, as it could be one of the largest expenses your estate may have to pay. It is also the foundation on which many estate-planning instruments have been drafted.

The federal unified tax system 

Under federal law, all property transfers are taxed under a unified gift and estate-tax system. This means that estate tax is calculated by considering your taxable estate and the adjusted taxable gifts you made during your lifetime. The result of this system is that you pay tax on the cumulative amount of wealth you transfer or give away. 

Calculating estate tax 

Estate tax is imposed on your taxable estate, which is the value of your gross estate, reduced by various deductions, plus certain gifts made over your lifetime less applicable credits. 

Taxable property includes property owned by you (or deemed to be owned by you) at the time of your death (the gross estate). The gross estate includes all property and property interests — of any description, wherever located — at the time of your death. This includes property that passes through probate and property inherited directly by joint owners or designated beneficiaries.

Generally, your property includes the following: 

• Real estate

• Personal property (example: cash, stocks and bonds, insurance proceeds, cars, furniture, jewelry, and art objects)

• Untangible property (example: copyrights, patents.)

The value assigned to each property item is typically the fair market value (FMV) on the valuation date, though other valuation methods may apply. Simply stated, FMV means the price at which property would sell for on the open market.

The following deductions are generally allowed:

• Estate expenses including funeral expenses, administration expenses (example: executor’s or administrator’s fees, court costs, attorney’s fees, and appraiser’s fees), certain debts of the decedent, certain taxes, certain claims against your estate, and casualty losses suffered during the administration of your estate. 

• Unlimited marital deduction: The unlimited marital deduction lets you deduct the value of property you leave to your spouse provided he or she is a U.S. citizen from your gross estate. Although this deduction is unlimited, only certain property interests qualify, and certain conditions and requirements must be satisfied.

• Charitable deduction: The entire value of property you leave to charity is deductible from your gross estate. The gift must be to a qualifying organization and must be for a public purpose. Gifts to individuals, no matter how needy, do not qualify. Certain conditions must be met to qualify for this deduction, but the amount is not limited as it is with the income-tax deduction. 

• State death-tax deduction: State inheritance or estate taxes (collectively referred to as state death taxes) paid are deductible from the gross estate. 

A note about state death taxes: Many states impose their own “death taxes,” in the form of an estate tax or an inheritance tax, or both. Some states also impose a separate gift tax. Whether your estate will be subject to state death taxes depends on the size of your estate and the tax laws in effect in the state in which you are domiciled or own certain types of property. 

It’s important to be aware of the differences between the federal and state gift and estate-tax laws and exemptions, which may present planning opportunities. For example, while New York State has an estate tax with a top marginal rate of 16 percent and 2018 exemption of $5.25 million, it presently does not have a gift tax.

Calculating the tentative estate tax 

As noted earlier, deductions are subtracted from the gross estate, resulting in the taxable estate. If you made certain gifts during your lifetime — in excess of the annual exclusion and excluding certain qualified direct payments of tuition and medical expenses — these will also be factored into the calculation. 

Deducting credits 

Once your tentative estate tax has been calculated, there are credits available to apply against the tax.

• The unified credit: This credit ($5.6 million in 2018) allows you to pass an amount referred to as the basic exclusion amount (formerly known as the applicable exclusion amount) free from gift and estate tax. As of 2018, this lifetime exclusion effectively exempts $11.2 million from gift tax and estate tax. For 2011 and later years, the exclusion amount is portable; that is, any exemption that is unused by the first spouse to die may be used by the surviving spouse for gift tax and estate tax (Deceased Spouse Unused Exclusion, or DSUE). A Form 706 must be timely filed for the first-to-die spouse to claim this election.

• Credit for certain gift taxes and foreign death taxes paid

• Credit for federal estate tax on prior transfers: If your gross estate includes property that was transferred to you by will, gift, or inheritance, and on which estate tax has already been paid, you may be entitled to a credit.

Federal gift and estate exemption limits and tax 

For 2018, there is an $11.2 million gift and estate tax basic exclusion amount. Any amounts exceeding the exclusion amount are taxed at the highest marginal rate of 40 percent. The 2019 rates are indexed to inflation. The IRS has not currently released the 2019 rates. 

Other considerations and ways to reduce estate tax

• Utilize the annual exclusions for lifetime gifts which are currently $15,000 per recipient per year 

• Invest in a 529 education savings plan and front load your contribution using a 5-year election for annual gift exclusions 

• Direct payments of tuition or medical expenses. If these payments are made directly to the provider there are no gift tax consequences 

• Examine your charitable-giving plan 

• Review your estate-planning documents if you move to another state and after significant tax-law changes

2017 Tax Cuts and Jobs Act — Existing estate-plan documents

Since the 2017 Tax Cuts and Jobs Act essentially doubled the lifetime exemption amount — increasing it from $5.49 million in 2017, to $11.2 million in 2018 — a careful review of your estate-plan documents is important. This increase may have unintended consequences — your documents may not follow your wishes. A number of wills and revocable trusts create trusts using formula clauses tied to the exemption amount as of your date of death, which maximize the credit shelter trust. 

For example, say an individual with an existing Will or Revocable Trust had a $7 million estate and intended to fund his/her credit shelter trust with the prior exemption amount of $5 million. He/she then planned to give the remaining 

$2 million to other family members or a favorite charity. Under the new exemption amount, the entire $7 million would be paid to the credit shelter trust. No funds would be available for a distribution to the other family members or the charity.

Achieving peace of mind 

Although reviewing your estate plan and estimating estate tax can be complicated, you can do it if you proceed step-by-step. These are important steps in understanding, formulating, and implementing a successful estate plan. The peace of mind that comes with that is worth your time.       

Tami S. Amici, is vice president, trust tax and estate officer at Tompkins Financial Advisors. She is responsible for managing tax reporting for client accounts, preparing accountings and assisting with tax planning for estates and trusts. Contact Amici at tamici@tompkinsfinancial.com