Non-Cash Charitable Contributions: Avoid an Audit by Knowing the Rules

It’s the most wonderful time of the year – tax filing season. While many taxpayers no longer itemize deductions due to the increased standard deduction, as well as caps on state and local taxes and mortgage interest, many taxpayers still itemize for state tax purposes even if using the standard deduction for federal purposes.

Charitable contributions on a tax return, especially non-cash, are a favorite target of the Internal Revenue Service (IRS), and it’s imperative to understand the rules and have the right support for the deduction claimed.

While many taxpayers are familiar with the popular non-cash contribution of donating clothes or household items to Goodwill or a similar organization, there are three additional non-cash contributions that can help increase your itemized deductions:  donating a used car, works of art, and/or appreciated stock to a charity.  Each of these donations has specific guidelines that must be adhered to and require some additional support in order to substantiate the deduction claimed on the tax return.

Let’s take a look at these three donations in a bit more detail.

Donating a Used Car

One of the negative aspects of buying a new car is the annoyance involved with getting rid of your old car.  Many individuals find the trade-in allowance offered by dealers to be well below the car’s true value.  But the alternative of selling the car on your own involves the expense of advertising, as well as the commitment of time needed to meet with potential buyers, accompanying them on test drives, and negotiating a fair price.

Some taxpayers consider a different option for their old cars:  donating them to charity.  An increasing number of charities have turned to car-donation programs.  The donation approach saves you the trouble of trying to sell the car.  Many charities offer the added convenience of picking up the car at your home.

Keep in mind that the amount of the deduction you will be allowed to claim is subject to special limitations.  In many cases, the deduction you can claim is less than your view of the car’s value.

For cars worth over $500, the deduction will be the lesser of the vehicle’s fair market value (FMV) or the amount for which the charity actually sells the car, if it sells the car without materially improving it.  This limit applies to any motor vehicle designed for road use, including vans and trucks, as well as boats and airplanes.

Since most charities do sell the cars they receive, it’s likely that your donation will be limited to the actual sales price.  Furthermore, these sales are often at auction or in bulk and typically result in sales below their “Blue Book” value.  Also, you won’t know the amount of your deduction until the charity has sold the car and reported the sale proceeds to you.

Your deduction will be based on the car’s FMV at the time of the donation ONLY if the charity uses the car in its operations or materially improves the car before selling it.  In that case, FMV is usually set according to the “Blue Book” listings for used cars published by the National Automobile Dealers Association.  The IRS will accept the value in the “Blue Book,” or another established used car pricing guide, if the guide lists a sales price for a car that is the same make, model, and year, sold in the same area, and in the same condition, as the car you donated.  In some cases, this value will exceed the amount you could actually get on a sale.

However, if the car is in poor condition because it needs substantial repairs or is unsafe to drive and the pricing guide only lists prices for cars in average or better condition, the guide won’t set the car’s value.  Instead, you must establish the car’s true market value by any reasonable method.  Many used car guides show how to adjust the value for items such as accessories or mileage.

Make sure the charity qualifies as a charitable organization.  You won’t be entitled to a charitable deduction unless you donate your car to an eligible, charitable organization.  In some cases, the transaction is more complex because private fund raisers may be operating car donation programs on behalf of charities.  This is permissible as long as the private company is acting as the agent for a qualified charity.

If the charity sells the car, you will need a written acknowledgement from the charity containing your name and tax ID number, the vehicle ID number, a certification that it was sold at “arm’s length” to an unrelated party, the gross proceeds of sale, and a statement that the deduction cannot exceed the proceeds. The charity should provide you with this acknowledgement within 30 days of the sale.

If, instead, the charity will use (or materially improve) the car, the acknowledgement needs to certify the intended use (or improvement) and the intended duration of the use, along with a statement that the car will not be sold before completion of the use or improvement.  In this case, the acknowledgement should be provided within 30 days of the donation.

If you donate your used car to charity, make sure you take the steps needed to substantiate your tax deduction.

Donating a Work of Art

Several different tax rules may come into play in connection with donating a work of art.  For example, a charitable contribution of a work of art is subject to reduction if the charity’s use of the work of art is unrelated to the purpose or function that is the basis for its qualification as a tax-exempt organization. The reduction equals the amount of capital gain you would have realized had you sold the property instead of giving it to charity.

One or more substantiation rules may come into play when you donate a work of art.  If you claim a deduction of less than $250, you must get and keep a receipt from the donee organization, and you must also keep reliable written records for each item you donated.

If you claim a deduction of at least $250, but not more than $500, then you must get and keep an acknowledgment of your contribution from the donee organization.  The acknowledgment must state whether the organization gave you any goods or services in return for your contribution and include a description and good-faith estimate of the value of any goods or services given.

If you claim a deduction in excess of $500, but not over $5,000, then in addition to getting an acknowledgment, you must also maintain written records that include information about how and when you obtained the property and its cost basis. You must also complete Section A of Form 8283 and attach it to your tax return.

Where the claimed value of the property exceeds $5,000, then, in addition to an acknowledgment, you must also have a qualified appraisal of the property.  This is an appraisal that should be done by a qualified appraiser no more than 60 days before the contribution date and that meets numerous other requirements.  You include information about these donations on Section B of Form 8283, again, which you file with your tax return.

If your total deduction for art is $20,000 or more, you must attach a complete copy of the signed appraisal.  If an item of art is valued at $20,000 or more, the IRS may request that you provide a photograph as well.  If an item of art has been appraised at $50,000 or more, you can ask the IRS to issue a “Statement of Value,” which can be used to substantiate the value.

In addition, your deduction may be limited to 20%, 30%, 50%, or 60% of your contribution base, which usually is your adjusted gross income. These percentage limitations vary depending on the year in which the contribution is made, the type of organization involved, and whether or not the deduction of the work of art had to be reduced because of the unrelated-use rule explained above.  The amount not deductible on account of a ceiling may be deductible in a later year under carryover rules.

Donors sometimes make gifts of partial interests in an art work.  For example, a donor may contribute a 50% interest in a painting to a museum, with the understanding that the museum will exhibit it for six months of the year and the donor will keep possession of it for the other six months.

Special requirements apply to these donations.  The donee charity must take complete ownership of the item within 10 years or at the donor’s death, whichever comes first.  Failure to comply results in the donor’s recapture of all charitable deductions claimed, plus interest and a 10% penalty.  Also, the FMV used in determining the amount of each later contribution can’t exceed the property’s value at the time of the initial contribution.

Donating Appreciated Stock

If you are planning to make a relatively substantial contribution to a charity, college, etc., you can donate appreciated stock from your investment portfolio instead of cash.  Your tax benefits from the donation can be increased, and the organization will be just as happy to receive the stock.

This tax planning tool is derived from the general rule that the deduction for a donation of property to charity is equal to the FMV of the donated property.  Where the donated property is “gain” property, the donor does not have to recognize the gain on the donated property.  These rules allow for the “doubling up” of tax benefits:  a charitable deduction, plus avoiding tax on the appreciation in value of the donated property.

FMV of the stock is easily determinable especially if the stock is traded on an established stock exchange.  In many instances the FMV is nothing more than the mean value of the stock on the day it is transferred to the charitable organization.

An example of the potential tax benefits can be seen in a simple example.

Joe and Jane are siblings, each of whom attended the University of Delaware.  Each plans to donate $10,000 to the school.  Each also owns $10,000 worth of stock in ABC, Inc., which they bought for just $2,000 several years ago.

Joe sells his stock and donates the $10,000 cash.  He gets a $10,000 charitable deduction, but he must report his $8,000 capital gain on the stock.

Jane donates the stock directly to the school.  She gets the same $10,000 charitable deduction and avoids any tax on the capital gain.  The school is just as happy to receive the stock, which it can immediately sell for its $10,000 value.

While this plan works for Jane in the above example, it will not work if the stock has not been held for more than a year.  It would be treated as “ordinary income property” for these purposes, and the charitable deduction would be limited to the stock’s $2,000 cost.

Also, depending on the amounts involved and the rest of your tax picture for the year, taking advantage of these tax benefits may trigger alternative minimum tax concerns.

The most important thing to remember in donating any of these non-cash contributions is to have the proper substantiation in case of an audit by any federal or state tax government agency.

Robert Freed is a Principal of Santora CPA Group with over 47 years of public accounting experience.  He is a 1981 graduate of Drexel University in Philadelphia.  Robert joined Santora CPA Group in September 1999.  He became a Principal in July 2005.  Robert works with individuals, and existing and newly established businesses, in a wide variety of areas including tax, trust, estate and retirement planning, as well as tax compliance services.  He is a member of the National Society of Tax Professionals, the National Society of Accountants, the Tax Division of the American Institute of Certified Public Accountants, and the Delaware Society of Certified Public Accountants.  Robert’s e-mail address is rfreed@santoracpagroup.com.

Published in the Winter 2024 issue of the Delaware Banker magazine.

Santora CPA Group
Call us 302-737-6200