According to the latest IRS Statistics of Income Bulletin, Fall 2012 (www.irs.gov/pub/irs-soi/08inreturnsbul.pdf), more than 38 million individual taxpayers claimed deductions for charitable contributions of nearly $170 million on returns filed in the government’s 2010 fiscal year. The amount of these deductions was up by 7.7 percent over the previous year. There have been some interesting developments impacting charitable contributions. Here is a roundup.
Generally, no deduction is allowed for a donation of a partial interest in charity. However, there are several exceptions, including one for donations of conservation easements. A donation of a conservation easement is allowed if two conditions are met (Code Sec. 170(h)):
• The contribution must be in perpetuity.
• The contribution must further a conservation purpose. A conservation purpose is defined as the preservation of land areas for the general public’s outdoor recreation, education, or scenic enjoyment; preservation of historically important land areas or structures; or protection of plant, fish, or wildlife habitats or similar natural ecosystems.
Two Tax Court cases this year examined the meaning of “in perpetuity” for purposes of conservation easements. In the first case, a donor who had purchased more than 180 acres of unimproved land in Colorado with seller financing donated the parcel to a charity as a conservation easement. The deed of trust for the conservation easement did not originally subordinate the donor’s obligation to the lender (mortgagee); the deed of trust was corrected two years after the donation.
The IRS disallowed the deduction. Regulations say that no deduction is allowed for an interest in property that is subject to a mortgage unless the mortgagee subordinates its rights in the property to the right of the qualified organization to enforce the conservation purposes of the gift in perpetuity (Reg. Sec. 1.170A-14(g)(2)).
The Tax Court agreed with the IRS (Ramona Mitchell, 138 TC No. 16 (2012); see also Frederick Wall, TC Memo 2012-169). In a case of first impression, the court rejected the taxpayer’s argument that the mortgagee’s right was so remote as to be inconsequential. The court said that the so-remote-as-to-be-negligible standard of Reg. Sec. 1.170A-14(g)(3) (which says that the remote possibility of an event arising to disqualify the easement should be ignored for purposes of the perpetuity rule) does not apply to the requirements of Reg. Sec. 1.170A-14(g)(2) (which mandates that the mortgagee’s right must be subordinated). Therefore, the deduction was disallowed.
More recently, a limited liability company (LLC) made a bargain sale of two parcels of land as a conservation easement. Funding for the purchase as part of the bargain sale was arranged by three federal agencies. The taxpayers, who were the owners of the LLC, reported their share of gain from the bargain sale and the charitable contribution deduction on their personal income tax returns. The IRS disallowed the charitable contribution deduction on the grounds that the sale of this easement was not in perpetuity. In the deed, the charity was required to reimburse the government agencies that funded the purchase if the land were to be condemned.
The Tax Court held that the conservation easement here was in perpetuity (Charles R. Irby, 139 TC No. 14 (2012)). Even though proceeds would have to be returned in the event of condemnation, the conservation easement on the condemned property would remain in force. The taxpayer could not recoup the donation in any event.
It should be noted that the IRS also attacked the qualified appraisal that accompanied this donation. A qualified appraisal must meet certain requirements ((Reg. Sec. 1.170A-13(c)(3)(ii)(G)). The IRS said the appraisal failed to adequately describe the property or show the method of valuation. The Tax Court rejected the IRS argument, finding that the appraisal done by someone with more than 30 years appraisal experience was qualified in this case.
In another case, a taxpayer donated a conservation easement of the façade of her brownstone in Brooklyn, N.Y. She also made a cash contribution to the land trust holding the façade easement. The IRS denied the deduction for the façade easement and cash contribution. It argued that the appraisal did not meet requirements and the cash donation was a quid pro quo (and not made from donative intent). The Tax Court agreed with the IRS, but the U.S. Court of Appeals for the Second Circuit reversed (Huda T. Scheidelman, CA-2, 2012-1 USTC ¶50,402). The appraisal was adequate here. Also, there was no quid pro quo because the donor did not receive any goods or services in exchange for the cash donation. The fact that the trust may not have accepted the façade donation without the cash infusion by the donor does not make this a quid pro quo.
Homes to Fire Companies
Fire companies conduct training exercises by burning down donated homes or other properties. Can a homeowner obtain a deduction for such a donation? It depends.
In one case this year, a couple who had been planning on demolishing their property so they could rebuild a bigger and better home allowed the local fire company to burn their old house down. They obtained a demolition permit and, after the fire, paid for removal of the debris. They claimed a charitable contribution deduction for their donation.
The Tax Court held that the couple could not deduct the donation because the fire company did not have an ownership interest in the property (Upen Patel, 138 TC No. 23 (2012)). Allowing the fire company to burn down their house amounted to no more than a license to use the property. Because this was a partial interest in property and did not qualify as an exception to the partial interest rule (e.g., as a remainder interest in a home or as a conservation easement), no deduction was allowed, even for the use of the property.
It should be noted that previously, the Tax Court had allowed a deduction for a donation of a building to a volunteer fire department for demolition in firefighter training exercises (Sharf, TC Memo 1973-265). However, the donation in this case occurred in 1967, which was prior to Congress amending Code Sec. 170 to disallow a charitable contribution deduction for a contribution of a partial interest in property (other than for certain exceptions).
Leave Donation Programs
A company may have a leave donation program for unused vacation, sick, or personal days. The IRS has said that employees can opt to donate their unused compensation within such a program to a charity that will benefit victims of Hurricane Sandy (Notice 2012-69). The relief is similar to relief provided in the wake of Hurricane Katrina (Notice 2005-68, 2005-2 CB 622). Employees have until the end of 2013 to make such leave donations.
Employees will not be able to deduct the donations but will avoid taxation on the amount of compensation they donate. The donated compensation will not be reported on employees’ Form W-2s.
Employers can deduct the application of the leave donations to charity as long as they are made before Jan. 1, 2014.
Beware of Charity Scams
Following disasters it is common for unscrupulous individuals to collect money from generous people in the name of relief for disaster victims. In the wake of Hurricane Sandy, the IRS is warning taxpayers to steer clear of fake charities soliciting donations by phone, mail, and email (IR-2012-91, Nov. 9). Bogus charities may use names similar to well-recognized organizations; they make seek a donor’s financial information (honest charities do not).
The best strategy for donors is to check the IRS list of cumulative organizations that have been tax-approved at www.irs.gov/Charities-&-Non-Profits/Search-for-Charities.
Contributions in 2013
At the time this article was prepared, various proposals related to resolving the “fiscal cliff” would impact charitable contributions after 2012. Here are some of the possible scenarios:
• Reinstitute the so-called PEASE limitation on itemized deductions for high-income taxpayers. Prior to 2010, such individuals had an overall reduction in itemized deductions if modified adjusted gross income exceeded a set dollar amount (adjusted annually for inflation).
• Introduce a dollar limit on itemized deductions (e.g., no more than $25,000 for singles or $50,000 for joint filers). This would mean that taxpayers with sizable mortgage interest and state taxes would effectively be able to deduct little or none of their contributions.
• Introduce an overall percentage limitation on itemized deductions (e.g., 28 percent of adjusted gross income (AGI)). This would mean that a taxpayer with AGI of $150,000 would be limited in itemized deductions to a total of $42,000 (28 percent of $150,000). Again, those with high mortgage interest and state tax payments would have little left of their deduction allowance for charitable donations.
Many charitable organizations are concerned that any limitations would adversely impact their donation receipts. The likely scenario, however, is the imposition of some type of limitation for high-income taxpayers after 2012. What this limitation will be remains to be seen.
Sidney Kess, CPA-attorney, is of counsel at Kostelanetz & Fink, consulting editor to CCH, author and lecturer.