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An Overview of Charitable Tax Deductions Langdon T. Owen 1 Parsons Kinghorn Harris, p.c. (801) This article is provided for informational purposes only. It is not intended
An Overview of Charitable Tax Deductions Langdon T. Owen 1 Parsons Kinghorn Harris, p.c. (801) This article is provided for informational purposes only. It is not intended as, and does not constitute, legal advice. Further, access to or receipt of this article by anyone does not create an attorney-client relationship. Although this article was believed to be correct within the scope of its purposes when written, it may be incorrect or incomplete, was not intended to comprehensively cover any subject, does not cover a number of related matters, and does not cover anyone s particular situation. As such, it is not reasonable for anyone to rely upon this article with respect to any particular legal matter. Rather, readers are encouraged to retain a licensed attorney to provide individualized and current legal advice. { DOC / 2} An Overview of Charitable Tax Deductions Langdon T. Owen 2 Parsons Kinghorn Harris, pc (801) A key to charitable gift planning is assuring that the gift obtains a charitable deduction against the appropriate tax, the income, estate, or gift tax (or results in income exclusion). We will deal with all three taxes in this outline, but as will become clear, the income tax rules are the most detailed and technical. The deduction sections are IRC '' 170 (income tax), 545(b)(2) (income tax deduction for personal holding company; varies some provisions of IRC ' 170), 642(c) (estate or trust=s deduction for amounts paid or permanently set aside for certain charitable use), 2055 (estate tax), 2106(a)(2) (estate tax on nonresidents), and 2522 (gift tax). The benefits of a charitable deduction can be quite valuable. Tax benefits from a charitable income tax deduction are larger where the state and federal tax blended rate is larger. A deduction of $20,000 for married Utah taxpayers filing jointly, in the 35% federal income tax marginal bracket (for 2013, over $388,350) and the state 5% bracket (starting in 2008), would be worth (ignoring such as personal exemption phase outs, limitations on itemized deductions, etc.) in the neighborhood of 38% (which is.35 + [(1-.35) x.05] of the $20,000, or $7,600. The estate and gift taxes hit high rates quickly, and the top rate (2013) is 40%; some amounts may be covered by the unified credit (the Aapplicable of transfer without tax in 2013 is $5.25 Million, for estate and gift tax). 1. The Charity. The first matter of concern is whether the organization to which the gift is to be made qualifies for the receipt of deductible gifts. Not all nonprofit organizations are tax exempt, and not all tax-exempt organizations qualify for tax deductible contributions, and of those that do qualify, different deduction limits may apply for income tax purposes, depending on the classification of the charity (which are discussed below at sections 4 and 5). a. Typical Qualifying Organizations. Deductible contributions may be made to U. S. nonprofit literary, religious, charitable, education, health care, or scientific organizations or those for the prevention of cruelty to children or animals, or for fostering national or international amateur sports competition (where no part involves providing facilities or equipment, other than under IRC ' 501(j) for certain qualified amateur sports organizations) (IRC '' 501(c)(3); 170(c)), or to federal, state, or local governments or public park or recreation facilities, war veterans organizations, certain restricted gifts for charitable use to fraternal societies, or (for income tax) certain cemetery organizations for members. The local Girl Scouts council is a classic organization to which deductible contributions can be made. i. Organizations Not Individuals. Only gifts to organizations can qualify; no gifts to individuals are deductible, regardless of the charitable intent behind the gift. Thus, gifts to cover personal expenses of missionaries, clergy, and the like do not qualify (Rev. 2 { DOC / 2} 1 Rul , C.B. 107). However, where the charity controls the use, the deduction will generally be available despite the donor=s hope a particular missionary benefits. See Rev. Rul , C.B. 306 (criteria for selecting individuals to benefit); Peace v. Com=r, 43 T.C. 1 (1964). The organization may be a corporation, trust, community trust, fund, or foundation. It may not be a partnership. Donations to a disregarded single member limited liability company owned by a charity are treated as donations to the charity if the other requirements under IRC ' 170 are met. Notice , IRB. ii. Types of Organization for Types of Taxes. The descriptions of organizations are very similar under IRC ' 170(c) (income tax), 2055(a) (estate tax), and 2522 (gift tax). There are a few differences, however; for example, certain cemetery organizations are mentioned for income tax purposes only, certain employee stock plans (under IRC ' 664) are mentioned for estate tax purposes only, and the description is slightly different for U. S. residents and nonresidents for gift tax purposes. b. Typical Nonqualifying Organizations. No charitable deduction is allowed for contributions to civic leagues, social or sports clubs, labor unions, chambers of commerce or business leagues, foreign organizations or conduits to organizations in foreign countries (some exceptions exist for Canadian, Mexican, or Israeli charities (under income tax treaties), for U. S.- based charities with foreign operations (Rev. Rul , C.B. 179, Rev. Rul C.B. 231, Rev. Rul , C.B. 253, and Rev. Rul , C.B. 251), or for U. S.-based Afriends charities for other foreign countries, which are more than conduits (Rev. Rul , C.B. 101, Rev. Rul , C.B. 101, and Rev. Rul , C.B. 48)), foreign organizations engaged in prohibited transactions (IRC ' 4948(c)(4)), political or lobbying groups, homeowners associations, fraternal lodges (except for some gifts by individuals to a fraternal society or lodge where it is to be exclusively used for religious, charitable, scientific, literary, or educational purposes, or the prevention of cruelty to children or animals), organizations testing for public safety, and so on. Certain exempt organizations which are not qualified to receive tax deductible contributions must conspicuously state this in every fund raising solicitation. IRC '' 6113 (requirement) and 6710 (penalty). i. Other Possible Deductions. Perhaps some dues, fees, contributions, etc., to such groups may qualify for a business expense (see IRC ' 162) or other deduction, but they do not qualify for charitable deductions. Some such nonqualifying organizations may sponsor separate charities which do qualify, however. ii. Donor-advised Fund. There are special restrictions (discussed further below) denying deductions for contributions to certain donor-advised funds (see IRC ' 4966(d)(2)), including, in particular, Type III supporting organizations not functionally integrated (see IRC ' 4943(f)(5)(A)). See IRC ' 4966(d)(2) (defining donor-advised fund); IRC '170(f)(18)(A) (income tax), 2055(e)(5)(A) (estate tax), 2522(c)(5)(A) (gift tax) (denying deduction except if conditions are met, including also denying a deduction for contributions to a donor advised fund of a veterans organization, fraternal lodge, or cemetery company). Also, a contribution to a donor-advised fund not otherwise denied the deduction requires a special { DOC / 2} 2 acknowledgment from the sponsoring organization that such sponsor has exclusive legal control over the assets contributed. IRC '' 170(f)(18)(B), 2055(e)(5)(B), 2522(c)(5)(B). c. Disqualifying An Organization. If an organization otherwise organized for an appropriate qualifying purpose engages in certain conduct, it may lose its tax exemption and ability to receive tax deductible contributions. For example, inurement to private benefit, nonpublic benefits, political campaign or lobbying activity (beyond an allowed type or insubstantial amount of legislative influence) racially discriminatory policies (Rev. Rule , C.B. 230), Communist control (IRC ' 170(k)), and private foundations engaging in prohibited transactions or subject to a foundation termination tax (IRC '' 508(d) and 507(c)), will all potentially destroy the deduction to an organization. However, a contribution made before the loss of qualification is published as a revocation of a determination letter in the Internal Revenue Bulletin (see Pub. 78 of the Service, only available online, for a list of current organizations with determination letters; it is not all inclusive, however) or before the donor is aware that a determination letter issued by the Service was revoked or its revocation was imminent but where the donor was not in part responsible for the conduct causing the revocation, will still be deductible by a donor relying on a Service-issued determination letter. Rev. Proc , IRB 887. Without a determination letter (churches, for example, are not required to obtain one), such special protection of the deduction does not exist, but the donor must prove qualification. Mulvaney v. Com=r, 52 TCM 831 (1986). d. Social Welfare Gift Tax Effects. For gift tax purposes, charitable gifts are deducted in determining taxable gifts. IRC ' 2522; see 8.b. below. Also, there is no gift tax on a transfer to a political organization described under IRC ' 527(e)(1). IRC ' 2501(a)(4). Gifts to social welfare organizations described in IRC ' 501(c)(4), on the other hand, do not qualify for this political exclusion or for the deduction for charitable gifts under Code Sec. 2522, and thus appear taxable as gifts to the extent the annual exclusion ($13,000 per donee of present interest gifts under IRC ' 2503(b)) does not apply and the unified credit does not cover the tax. Note that donors to political organizations need to be disclosed, but not so with social welfare organizations and that (among other differences) the stronger political restrictions on charities do not apply to IRC 501(c)(4) social welfare organizations. Some incidental political campaigning is permissible under IRC 501(c)(4), but is subject to a tax under IRC 527(f) on political organization taxable income, and any dues for lobbying would not be deductible (e.g., as a business expense). 2. Cash or Property Given. A deduction is only allowable for cash or property contributed to or for the use of a qualified charity. A contribution Afor the use a charity must be in a legally-enforceable trust or similar arrangement. Davis v. U.S., 495 U.S. 472 (1990). Certain types of property or rights create special issues, including: a. Services. Services are not deductible, nor is time lost from work (there is no income from the service, however). Reg. ' 1.170A-1(g). See also, Levine v. Com=r, 54 TCM 209 (1987), Grant v. Com=r, 84 TC 809 (1985) aff=d in unpub=d opin. 800 F.2d 260 (4th Cir. 1986) (denying deduction for legal services to charities); Rev. Rul , C.B. 157 (free advertising is a service and nondeductible). { DOC / 2} 3 However, out-of-pocket expenses in providing services, including normal volunteer service not of a type for which compensation is usually paid, are deductible for income tax purposes. This can include travel expense, where there is no significant element of vacation or recreation. IRC ' 170(j). Actual auto expense may be used, or a statutory (not indexed) 144 per mile can be used. IRC ' 170(i). b. Blood and Organs. Blood and organ donations are not deductible. See Rev. Rul , C.B. 127; Lary v. U.S., 787 F.2d 1538 (11th Cir. 1986) (blood not deductible whether deemed property or service; lacks proven basis or holding period; sale of blood would be taxable income under IRC ' 61). c. Appraisal Fees. The determination of the value of donated property is not charitable. It might, however, qualify as a deduction for tax determination under IRC ' 212 (subject to the 2% of adjusted gross income miscellaneous itemized deduction floor before which the deduction is not allowed). d. Pledges and Notes. Until paid, pledges and promissory notes to charity are not deductible. Regs. ' 1.170A-1(a). They generally lack consideration and are unenforceable. See Rev. Rul , C.B. 81; compare to Mackay v. U.S., 503 F.2d 591 (10th Cir. 1974) (promissory note on a debt payable by a corporation to an individual was assigned by the individual to charity and the deduction was allowed). Even an accrual basis taxpayer gets no income tax deduction. However, an enforceable pledge might allow a gift tax deduction for an individual. See Rev. Rul , C.B e. Checks, Credit Cards, Letters of Credit. Checks paid in the normal course are treated as cash paid in the year the check is deposited by the donee or the donor gives up dominion and control (for example, by mailing it to the charity). See Metzger Est. v. Com=r, 38 F.3d 118 (4th Cir. 1994) and Dillingham Est. v. Com=r, 88 T.C (1987) aff=d, 903 F.2d 760 (10th Cir. 1990). Credit card charges are treated as immediate donations with borrowed funds. Rev. Rul , C.B. 67. Irrevocable letters of credit drawable immediately are treated similarly. PLR f. Credit Card Rebates. A cash rebate received from the party to whom the buyer directly or indirectly paid the purchase price for an item is an adjustment to the purchase price rather than an accession to wealth, and is not includible in the buyer's gross income. Rev. Rul , CB 23, as modified by Rev. Rul , CB 997. The Service has privately ruled in PLR that where credit card cash rebates may be paid to a charity or received in cash as instructed by the taxpayer, the payments of the rebates to charity are a voluntary charitable contribution which can be deductible if the other requirements for deduction are met. One such requirement is that where such contribution is of $250 or more the taxpayer needs to substantiate the contribution by a contemporaneous written acknowledgment of the contribution by the donee organization meeting all requirements for the substantiation. Code Sec. 170(f)(8)(A). Query: If some of the credit card purchases giving rise to the rebate were earlier deducted, how should the rebate be allocated to avoid a double deduction? { DOC / 2} 4 g. Options. For gift tax purposes, an enforceable option generates a deduction on transfer (Rev. Rul , C.B. 280); but for income tax purposes, only when the option is exercised with a difference between fair market value and the exercise price is the gift deductible (Rev. Rul , C.B. 72). h. Clothes and Household Items. Clothes and household items must be in good, used condition or better, or (regardless of condition) must have a qualified appraisal where valued over $500, for income tax purposes. IRC ' 170(f)(16). i. Vehicles. Cars, boats, and planes over $500 must have qualified appraisals for income tax deductibility, and no more than the lesser of the fair market value (limited to cost or other basis, if the vehicle is not useable by the charity in its exempt function) or the proceeds obtained by the charity (unless the charity materially improves the vehicle or the vehicle is sold below value to a needy individual by the charity) is deductible. IRC ' 170(f)(12). Special acknowledgment rules apply. Notice , IRB 1287 and Notice , IRB 347. j. Taxidermy. The income tax deduction is the smaller of fair market value or cost or other basis. IRC '' 170(e)(1)(B)(iv) and 170(f)(15). k. Partial Interests. Contributions of rights to use property, which rights are less than the donor=s entire interest in the property (or loans of cash) do not generate deductions for income, gift, or estate tax purposes. IRC '' 170(f)(3), 2522(c)(2), 2055(e)(2). However, remainder interests in homes or farms, or an undivided, fractional interest in every part of the donor=s interest, or a conservation grant in real property (see l. below), may qualify for a deduction. Also, special technical rules apply to charitable lead or charitable remainder (split interest) trusts; they must be a special type of annuity trust, unitrust, or pooled income fund. IRC ' 664 governs charitable remainder trusts; charitable lead trusts are governed by a number of IRC provisions. The interests are valued actuarially. See IRC ' i. Tangibles. With respect to tangible personal property (e.g., a painting) the entire interest (including the copyright if the donor of the art holds the copyright) must be held by the donor or by the donor and the charity. IRC ' 170(o)(1)(A). For a painting, a 25% fractional interest entitling the charity to actual possession for three months each year may qualify. The deduction is recaptured, along with interest and a 10% penalty tax, if the rest of the interest is not contributed to the charity in 10 years or on death, whichever is sooner, or if in that time the charity has not taken substantial physical possession for its related purposes. IRC ' 170(o)(3)(A). IRC ' 170(o) is only an income tax rule; it does not apply to estate or gift taxes. ii. Undivided Interest. An undivided interest is usually of a percentage of the entire asset but may be a percentage of each year. PLR iii. Estate Tax Effect Concerning Tangibles. With respect to gifts and bequests after August 17, 2006, for estate tax purposes, there is no longer a problem relating to the requirement that additional interests in tangible personal property passing to charity on the { DOC / 2} 5 donor=s death were valued at the lesser of the original gift value or estate tax value. This caused the appreciation in the donor=s retained fractional interest after the making of the initial gift to be subject to the estate tax without an offsetting charitable deduction. IRC ' 2055(g)(l). It was retroactively repealed under the Technical Corrections Act of 2007 ' 3(d), IRC '' 2522(e)(2) and 2055(g) after repeal. iv. Remainders in Homes or Farms. Although a partial interest, a remainder in a home or farm may be deductible. IRC ' 170(f)(3)(B)(i); Reg. '' 1.170A-7(b)(3) and (4); (e)(2), (c)-3(2)(ii). Under these regulations, a residence includes a second vacation home. Also, a houseboat, trailer, or other dwelling may qualify. See analogous rules under IRC '' 1034 and 216 concerning Apersonal For example, leaving a life estate in a residence or farm to the surviving spouse, remainder to charity, would qualify for a charitable deduction for the value of the remainder interest. l. Conservation Easements. Easements in property are partial interests which absent an exception could not be deductible. Qualified conservation easements, however, can generate charitable tax deductions but have special rules to meet. IRC ' 170(f)(3)(B)(iii). The donation must be to a governmental unit or publicly-supported charity (or an organization controlled by the government or charity for the exclusive benefit of the government or the charity), and must be of the donor=s entire interest in surface rights (not mineral rights), a remainder interest, or a perpetual restriction, and must be for special outdoor or historic conservation purposes. IRC ' 170(h). See Herman v. Com'r, T.C.M , (2009) (partial air space development rights on a historic preservation property where underlying land could not be unilaterally restricted, found insufficient for deduction). The easement needs to be protected in perpetuity (IRC 170(h), Reg A-14(b)(2)), but with historic facades, a mortgage on the property often means that the lender will have priority to insurance proceeds in the case of a casualty to the building, thus leaving the easement without value in such a case; this can destroy the deduction. See 1982 East, LLC v. Com r, TC Memo The lender must subordinate to the easement (see Reg A-14(g)(2) (general subordination requirement), but if the insurance proceeds go to the lender, the easement deduction may fail unless the proportionate value of the easement is payable to the conservation group holding the easement. But see Kaufman v. Shulman, 687 F.3d 21 (1 st Cir. 2012) (reversing Tax Court restrictive reading of regulations as surely contrary to the purpose of Congress ). Although some co
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