The holiday season is a time of giving. Along with the presents exchanged at gatherings with friends and families, many gifts are made to nonprofits in the closing month of the year at holiday charity galas and auctions, through end-of-the year email and direct mail appeals, and through other fundraising events. For charities, the deductibility of charitable contributions can be an important incentive for some donors. However, the requirements for a donor to actually itemize that deduction on his or her personal tax return can be tricky and complicated for both the donor and organization. Failures can lead to disqualified deductions for the donor, damaged donor relations, and in some cases, penalties imposed on the organization. The IRS has historically taken a stance of strict compliance with these requirements and this year is no exception.
Below we’ve offered some quick tips for charitable organizations to help with federal tax law compliance and maintaining happy donors this holiday season.
Check that You Are Listed As a Qualified Organization Eligible to Receive Deductible Contributions
General rule: A taxpayer more only deduct those contributions that are made to a qualifying organization.
Only 501(c)(3) tax-exempt organizations – i.e., public charities and private foundation – formed in the United States are eligible to receive tax-deductible charitable contributions. The organization must be exempt at the time of the contribution in order for the contribution to be deductible for the donor. Public charities and private foundations often publicize their 501(c)(3) status on their websites and in their solicitations for donations. However, this may not be an accurate representation to donors if, for example, the organization has had its status revoked. Common problems include:
- Automatic revocation for failure to file an IRS information return. As announced in June 2011, approximately 275,000 tax-exempt organizations automatically lost their exempt status for a failure to file annual information returns with the IRS. The IRS articulated a reinstatement process to help such organizations regain exempt status, but it will generally only recognize reinstatement from the date of the application unless the organization can show reasonable cause for retroactive reinstatement. Thus, contributions made during the interim between the organization’s revocation and subsequent reinstatement may not be deductible. The IRS will however allow a donor unaware of the organization’s status change to rely on public information on the IRS website and deduct contributions made on or before the date of an appropriate public announcement of the organization’s revocation of exempt status (e.g., an IRS bulletin). Both organizations and donors can check the status of an organization by searching the Exempt Organizations Select Check, a publicly available online database of qualifying organizations published by the IRS, but many donors and organizations alike fail to do so. Organizations are in the better position for keeping up to date on IRS notifications and disqualifications and should immediately address any matters jeopardizing their exempt status and/or update their solicitation materials accordingly regarding their exempt status. (See also Revenue Procedure 2011-33, 2011-25 I.R.B. 887).
- Some organizations may be qualified but not listed on the IRS Exempt Organizations Select Check. An organization should communicate this information clearly to its donors. For example, churches and government agencies are eligible to receive deductible contributions even though they are generally not listed in the online database. Additionally, organizations granted reinstatement may experience a delay before the organization will show up in the Exempt Organizations Select Check database. During this period, a donor may rely on the organization’s IRS determination letter and may also confirm the organization’s status by calling the IRS (toll-free) at 1-877-829-5500.
- A public charity that has failed its public support test and tipped into private foundation status and not communicated the change in status to its donors. Although a public charity and private foundation are both qualifying organizations, they are subject to different deduction limits. If a public charity tips into private foundation status, the change in status should be communicated to donors as it may affect the deductibility of such contribution (see IRC section 170(b) for the differences in deduction limits for contributions to public charity versus a private foundation).
Takeaway: An organization should check whether it is listed as eligible to receive tax-deductible contributions as a public charity or private foundation using the IRS Exemption Organizations Select Check tool, a database that is similarly available for taxpayers to search.
Help Your Donors Meet Their Substantiation Obligations for Cash Contributions* of $250 or More
General rule: For a deduction of $250 or more, a taxpayer must have a contemporaneous written acknowledgment of the contribution that is issued by the organization before the taxpayer files his or her tax return.
Taxpayers are required to have a written record of any charitable contribution, regardless of amount, that shows the name of the qualified organization, the date of the contribution, and the amount of the contribution. The substantiation requirements for deductions of cash contributions under $250 are fairly easy for a donor to satisfy. Generally, it can be satisfied by a donor-produced bank record (e.g., canceled check, bank statement, credit card statement). The requirements for deducting any donation of $250 or more, however, are higher; the donor must also have a contemporaneous written acknowledgement from the qualified organization for each contribution of $250 or more even though an organization is generally not required to issue such a receipt for cash donations. (See IRC section 170(f)(8)(A)).
- The written acknowledgment from the organization must be both:
a. The amount of the cash contributed by the donor;
b. A statements indicating whether the qualified organization gave the donor any goods or services as a result of his or her contribution;
c. A description and good faith estimate of the value of any goods or services received by the donor; and
2. Contemporaneous, meaning that it must be obtained by the donor on or before the earlier of:
a. The date you file your return for the year you make the contributions, or
b. The due date, including extensions, for filing the return.
- For better donor-relations, an organization should develop a reasonable process for issuing written substantiations in a timely manner that meet all written substantiation requirements for cash contributions, especially for cash donations of $250 or more. As a best practice, the written acknowledgment from the organization should also meet the written record requirements for donations under $250 (i.e., include the date of the contribution) so that the donor will not be required to provide an additional written record. A donor’s failure to obtain a written acknowledgment can have serious consequences for that donor. For example, in the recent case, Durden v. Commissioner, T.C. Memo 2012-140, the United States tax court upheld the IRS's denial of a taxpayer's claim for a charitable deduction totaling $22,517. The taxpayer had made multiple charitable contributions over $250 by check to a church. However, the receipts issued by the church failed to meet the requirements of a contemporaneous written substantiation – one notice failed to state whether the any goods or services were provided in return for the contribution and the second notice was not issued contemporaneously.
Takeaway: Although an organization is generally not required to provide written acknowledgments for cash donations, it is generally recommended that organizations provide a timely written acknowledgment that meets all substantiation requirements for the donor as a good donor-relations practice.
*This article does not address contributions by payroll deductions.
**Please note there are additional statements required related to noncash contributions and intangible religious benefits.
Meet Your Reporting Obligations Whenever the Donor Receives a Benefit in Return for the Cash Contribution
General Rule: For payments of $75 or more in which the donor receives some benefit in return, an organization must issue a written disclosure statement to the donor and the donor may only deduct the amount of their payment that exceeds the fair market value of that benefit.
One exception to the general rule discussed above for cash contributions is that an organization is required to issue a written disclosure statement if a donor makes a payment of $75 or more to a qualified organization that is part payment for goods or services and part contribution. This is referred to as a quid pro quo contribution. These transactions commonly occur when an organization sells a ticket to a fundraising dinner where donors will receive a meal or when an organization holds a fundraising auction where donors bid on items for purchase. Generally, the donor may only deduct the amount paid that exceeds the fair market value of the merchandise, goods, or services received in return. To help donors itemize the proper amount, organizations should be aware that:
written disclosure statement must:
- Tell the donor that he or she can only deduct the amount of the payment that is more than the value of the goods or services received;
- Provide a good faith estimate of the value of the goods or services received; and
- Be furnished in connection with the solicitation or the receipt of the quid pro quo contribution.
- Failures may result in monetary penalties on the organization. An organization that fails to issue the required written disclosure statement is subject to a penalty of $10 per contribution (capped at $5,000 per fundraising event or mailing), unless the failure was due to reasonable cause.
- It is not uncommon for organizations to provide incorrect fair market value estimates but these mistakes can have costly implications for their donors. Fair market value is generally understood as the price at which property would change hands between a willing buyer and a willing seller, neither having to buy or sell, and both having reasonable knowledge of all the relevant facts. Generally a donor can rely on the organization’s good faith estimate of the value unless the donor knows the estimate is unreasonable. Common issues occur for example when:
1. An organization fails to publish the fair market value of items to donors prior to the purchase of an item at a charity auction.
Generally, if there is no prior notice or estimate of fair market value provided by the organization to the purchaser before the purchase (e.g., a catalog of items distributed to potential donor-bidders), the purchaser’s payment is not considered a gift (i.e., no donative intent for the payment to be part contribution). The IRS will treat the amount that was paid by the purchaser as the fair market value of the item (i.e., no part of the payment is considered as exceeding the fair market value of the item).
2. An organization incorrectly values a celebrity presence as “invaluable” or “priceless.”
Generally, unless the celebrity is providing a service or performance for which the celebrity is famous for, the fair market value of the celebrity’s presence is $0.00. For example, the fair market value of a ticket to a tour of the SF MoMA led by George Clooney is equal to the fair market value of a SF MoMA tour generally. If the SF MoMA generally provides these tours at no cost to the public, the fair market value of the George Clooney-led tour is also $0.00.
- There are exceptions when the written disclosure statement is not required and the donor may be able to deduct the payment in full despite receiving certain benefits in return. For example:
1. A donor may deduct the entire payment as a charitable contribution if (i) the benefit received is of token value and (ii) the organization correctly determines that the benefit is of insubstantial value and informs the donor that he or she can deduct the payment in full. Insubstantial value can be established in one of two ways (see Rev. Proc. 90-12, 1990-1 C.B. 471):
a. The fair market value of all benefits received is not more than the lesser of 2% of the payment or $97 (2011 figure, adjusted annually); or
b. The payment is $48.50 or more (2011 figure, adjusted annually) and the only benefits are token items bearing the organization's name or logo that collectively cost less than $9.70 (2011 figure, adjusted annually).
2. Certain membership benefits can be disregarded so long as the annual payment by the donor is $75 or less and the benefit(s) consist of:
a. Any rights or privileges (except for the right to purchase tickets for college athletic events) that can be used often during the membership period (e.g., free or discounted admissions or parking); or
b. Admission to events that are open to members and the cost per person does not exceed $9.70 (2011 figure, adjusted annually).
Takeaway: Organizations have an obligation to issue a contemporaneous written disclosure statement for a payment by a donor of $75 or more that is a quid pro quo contribution. With quid pro quo contributions, organizations generally have an obligation to make a good faith estimate of the value of the benefit and should confer with an appropriate professional when unsure about how to value special or unique items.
The above-described rules only scratch the surface of federal tax laws as they relate to charitable contributions. The rules are increasingly complicated for certain types of gifts such as real property, vehicles, and stock. While organizations should not offer tax advice to their donors and the reliability of certain records is ultimately the burden of the taxpayer, organizations can show their gratitude to their donors by employing best practices which help their donors to have adequate records when April 15 rolls around.
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