Procedural Missteps Lead to Loss of Tax Deductions for Charitable Gifts

November 10, 2022

As the end of 2022 approaches, many individuals, families and businesses consider making donations to their favorite charities. In light of recent judicial decisions enforcing “strict requirements” to claim tax deductions for charitable contributions, it is critical for donors to be aware of these particular rules to avoid the loss of valuable tax deductions. It is equally as important for charities that receive donations to review their gift receipt and reporting procedures to ensure compliance with federal tax law to avoid causing challenges for donors who claim such deductions.

Basics

A tax deduction can be claimed for a charitable contribution made to a qualifying organization within the taxable year. Generally, a qualifying organization must be organized and operated exclusively for religious, charitable, scientific, literary or educational purposes within the meaning of Internal Revenue Code section 501(c)(3), and must have obtained a determination from the Internal Revenue Service that the organization qualifies as a tax-exempt organization described in Section 501(c)(3).

To claim deductions on their tax returns, donors must maintain a record of each contribution, which could be a bank record or written communication from the recipient organization that shows the name of the organization and the date and amount of the contribution. Depending upon the value of the claimed charitable deduction, the donation must satisfy additional requirements to qualify for a tax deduction, as described below.

Charitable Receipt

A contribution of at least $250 must be substantiated by a contemporaneous written acknowledgment of the contribution from the donee organization, commonly referred to as a charitable receipt. A receipt can come in many forms, such as a thank you letter, an email or an annual giving summary. Regardless of the format, the donee organization must issue a receipt that:

  1. includes the amount of cash contributed;
  2. includes a description of any other property contributed (but does not have to include the value of the non-cash property); and
  3. indicates whether the organization provided any goods or services in exchange for the contribution. (For example, the receipt may say, “No goods or services were provided in return for this donation.”)

To the extent the organization provided any goods or services, the receipt must describe and make a good faith estimate of the value of those goods or services. This commonly occurs when an organization hosts a banquet or gala and receives donations that are intended to cover both the cost of the meal and raise funds for the organization. All charities should review their receipts to ensure compliance with these rules to avoid later questions from donors and/or the Internal Revenue Service.

In addition to these requirements, most donee organizations typically include the date and amount of the contribution so the receipt satisfies the donor’s recordkeeping requirements stated above. The donor must receive the receipt before the earlier of: the due date for the tax return (including extensions) for the taxable year in which the contribution was made, or the date the tax return is actually filed.

In a decision issued earlier this year, the U.S. Tax Court disallowed a charitable deduction that did not satisfy these charitable receipt/contemporaneous written acknowledgement requirements. In Albrecht v. Commissioner, T.C. Memo. 2022-53, the taxpayers donated a portion of their Native American jewelry collection to a museum pursuant to a deed of gift. Notably, however, the deed of gift failed to indicate whether the taxpayers received any goods or services from the museum in exchange for their donation. Because the deed of gift did not indicate it was the entire agreement between the parties and the museum did not provide the taxpayers with a separate receipt, the court found that the taxpayers did not “satisfy the strict requirements” of Internal Revenue Code section 170 and were not entitled to a deduction for their donation. Importantly, there was no dispute that the taxpayers in this case donated something of value, but the entire tax deduction was disallowed due to the procedural misstep.

Additional Requirements for Contributions of Property

Deductions for charitable contributions of anything other than cash, including donations of virtual currency, come with additional substantiation requirements when the property has a value greater than $500. In addition to the receipt requirement, no charitable deduction is allowed for a contribution of property worth more than $500 unless the donor fully completes IRS Form 8283, Noncash Charitable Contributions, and attaches it to the tax return on which the deduction is claimed. For a contribution of property worth more than $500 but not more than $5,000, the donor is required to complete only Section A of the Form 8283.

For a contribution of property worth more than $5,000, the donor must obtain a written qualified appraisal for the property and complete Section B of the Form 8283. When completing Section B of Form 8283, the donor must include all required information on the form. In particular, the Internal Revenue Service focuses on the accurate disclosure of the description of the donated property, the fair market value as of the date of contribution, the date the donor acquired the property and how it was acquired, and the donor’s cost or adjusted basis for the property. It is important to note that the donor’s cost or adjusted basis is very often different than the fair market value, and the Internal Revenue Service will seek to disallow a deduction if an accurate cost or adjusted basis is not disclosed. The donor also must have the Form 8283 signed by the qualified appraiser and the donee organization that received the gift of property.

For property valued at more than $5,000 but not more than $500,000, this qualified appraisal is merely incorporated into the Form 8283 and retained by the donor. However, for a contribution of property valued at more than $500,000, the qualified appraisal must be included with the Form 8283 and filed with the return, including any following years where a carryover contribution deduction is claimed.

Qualified Appraisal Requirements

A qualified appraisal must be prepared by a qualified appraiser, meaning someone who has obtained an appraisal designation from a recognized professional organization or otherwise has sufficient education and experience, and who regularly performs appraisals for compensation. The qualified appraisal must include all of the following:

  1. A description of the contributed property in sufficient detail, including the physical condition of any real or tangible property.
  2. The valuation effective date. For qualified appraisals prepared before the date of contribution, the valuation effective date must be no earlier than 60 days before the date of contribution and no later than the actual date of contribution. For qualified appraisals prepared after the contribution, the valuation effective date must be the date of contribution.
  3. The fair market value of the contributed property on the valuation effective date.
  4. The date or expected date of contribution.
  5. The terms of any agreement relating to the use, sale or other disposition of the contributed property. This includes any restrictions on the donee’s ability to dispose of the property, any rights to income from the property or rights to vote any contributed securities.
  6. The name, address and taxpayer identification number of the qualified appraiser or the partnership or employer who employs the qualified appraiser.
  7. The qualifications of the appraiser, including education and experience.
  8. A statement that the appraisal was prepared for income tax purposes.
  9. The method of valuation used (e.g., income approach, market-data approach, replacement-cost-less-depreciation approach) and the specific basis for the valuation (e.g., specific comparable sales, statistical sampling).
  10. A description of the fee arrangement between the donor and qualified appraiser.
  11. This declaration: “I understand that my appraisal will be used in connection with a return or claim for refund. I also understand that, if there is a substantial or gross valuation misstatement of the value of the property claimed on the return or claim for refund that is based on my appraisal, I may be subject to a penalty under Section 6695A of the Internal Revenue Code, as well as other applicable penalties. I affirm that I have not been at any time in the three-year period ending on the date of the appraisal barred from presenting evidence or testimony before the Department of Treasury of the Internal Revenue Service pursuant to 31 U.S.C. 330(c).”
  12. The signature of the qualified appraiser and the appraisal report date. The qualified appraisal must be signed and dated no earlier than 60 days before the date of contribution and no later than the due date for the tax return (including extensions) on which the deduction is claimed.

In a decision issued last year, the 4th U.S. Circuit Court of Appeals denied a charitable deduction for failure to comply with the qualified appraisal requirements. In Mann v. United States, 984 F.3d 317 (4th Cir. 2021), the taxpayers claimed a deduction for donating their house to a charity that deconstructed houses (i.e., removed salvageable materials from the house prior to demolition) and provided job training opportunities to disadvantaged members of the community who performed the deconstruction. The taxpayers obtained two appraisals, one that valued the house in its entirety and one that valued all the house’s used building components when sold on the secondhand market. Since neither appraisal valued the components of the house that were actually contributed to the donee organization, the court denied the deduction as the appraisals failed to provide the fair market value of the contributed property and could not be considered qualified appraisals.

Conclusion

Although the Internal Revenue Service and courts have determined minor errors by taxpayers constitute substantial compliance with the requirements, recent court decisions highlight the importance of complying with the “strict requirements” necessary to substantiate a tax deduction for charitable contributions. Accordingly, donors should keep adequate records of their charitable contributions made during the year, request a receipt from the charity or foundation (if not already provided) and, when required, complete Forms 8283 and obtain qualified appraisals that may need to be filed with the return.

Tax-exempt organizations that receive charitable contributions should review the contents of the receipts issued to ensure compliance with federal tax law and should make sure to properly complete and sign Form 8283, Part V, for each property gift received that was valued over $5,000.

 

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