U.S. businesses and individuals tend to be generous with their time, talents and treasures. Turning that generosity into an allowable tax deduction against taxable income, reducing annual income tax bills, can be a trickier matter.
Smart Business spoke with Maggie Gilmore, director of tax services at Clarus Partners, about the substantiation requirements and potential limits of charitable tax deductions.
Why might companies not get the full tax benefit of their charitable contributions?
The IRS grants an organization tax exempt status, and only organizations permitted to receive tax-deductible charitable contributions qualify for a deduction. An organization’s tax exempt status, however, does not guarantee a charitable deduction. Donations to a political organization or candidate, for example, would not qualify as a charitable deduction.
Not having the proper written documentation is another common mistake. The donating company must receive written acknowledgement from the charitable organization for cash or noncash contributions greater than $250. Any claims of noncash charitable deductions in excess of $5,000 requires a written appraisal to the IRS of the fair market value by a qualified appraiser and Form 8283 filed and attached to the company’s federal income tax return. If the donating company receives a benefit in return, the charitable organization should disclose the fair market value of the benefit received by the donor, which reduces the donor’s deduction. For example, if a company buys a table at a charitable benefit dinner, the fair market value of the dinner and amenities would reduce the amount the company can deduct.
Companies sometimes deduct the wrong amount. For noncash contributions of property, the amount allowable as a deduction can vary depending on the type of property donated and its use by the charitable organization. For donations of publicly traded securities, the fair market value of the security on the date of the contribution would be the allowable deduction amount. However, if a company donates inventory to a charitable organization, it can deduct the lower of the fair market value or its basis. If a company donates artwork to a museum, and the museum displays the artwork, the company deducts the artwork’s fair market value. But if the museum sells the artwork to use the proceeds for other purposes, the company can only deduct the lower of fair market value or its basis.
Not knowing the deduction limitations is another issue. Corporations may deduct charitable contributions, but not amounts in excess of 10 percent of its taxable income. To the extent that the contribution is disallowed, it can be carried over to use in future years up to five years. Individual owners of businesses that report as pass-through entities may deduct their proportion of the company’s charitable contributions subject to their personal Form 1040 limitations. These limitations cap the individual business owner’s deduction at 50, 30, or 20 percent of his or her Adjusted Gross Income (AGI), depending on the organization donated to and/or the type of property donated. If the individual owner’s portion of the company’s charitable donation is partially disallowed, the disallowed amount can be carried over for five years for future use.
Employees’ volunteering time is not a deductible contribution. Driving to and from a charitable event to donate one’s time may be deductible at 14 cents per mile, but the economic equivalent of the volunteer’s time is not deductible.
What can companies do to get the most tax benefit out of their charitable contributions?
Investigate whether the organization receiving the charitable donation qualifies your company for a potential charitable contribution tax deduction and ensure proper written records are retained. Donate appreciated property where possible, but consult your tax adviser first to ensure all options and scenarios are considered.
Time the charitable contributions. For corporations, bunching contributions in taxable years where the 10 percent taxable income limitation will not apply will maximize current deductibility and minimize tax cash flow impact. The same applies for individuals in minimizing the impact of AGI limitations.
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