Decision reinforces substantiating charitable tax deductions: PwC

In brief

In a recent decision, Albrecht v. Commissioner, the Tax Court disallowed charitable contribution deductions due to the lack of substantiation, as required under Section 170(f)(8) for contributions of $250 or more.

In Albrecht, the taxpayer made a substantial donation of Native American jewelry and artifacts to the Wheelwright Museum of the American Indian. The donation was reported on Schedule A of the taxpayer’s Form 1040, U.S. Individual Income Tax Return, as a below-the-line charitable contribution deduction. Upon examination of the return by the IRS, the contribution was disallowed due to the taxpayer's failure to strictly comply with the substantiation requirements applicable to charitable income tax deductions. The Tax Court agreed with this determination; thus, no deduction was allowed.

Action item: Taxpayers that are considering charitable donations should review the substantiation requirements under Section 170, regulations, and IRS guidance. As highlighted in the Albrecht case, a taxpayer not meeting these substantiation requirements risks the denial of the charitable contribution deduction in total.

In detail

During 2014, Martha Albrecht, taxpayer, made a charitable donation to the Wheelwright Museum of the American Indian, consisting of 120 items of Native American jewelry and artifacts. In connection with the donation, the museum and the taxpayer executed a five page ‘Deed of Gift’ (deed) on the date of the gift. The deed essentially served as Contemporaneous Written Acknowledgment (CWA), which is required to be obtained for substantiation (see discussion below).

The deed listed the description of the donated property, and outlined certain conditions of the gift, one being that “the donation is unconditional and irrevocable; that all rights, titles and interests held by the donor in the property are included in the donation, unless otherwise stated in the Gift Agreement.” Despite the deed’s reference to ‘the Gift Agreement’, no such agreement was included with the deed nor was there any other written documentation provided by the museum in relation to the donation. The deed ultimately was attached to the taxpayer’s Form 1040 in order to substantiate the claimed charitable deduction.

The IRS disallowed the charitable deduction on the grounds that the de facto CWA did not specify whether anything of value was received by the taxpayer from the donee in exchange for the donation. The IRS also pointed to the ambiguity that was created by the reference to the Gift Agreement, which did not actually exist, and the possibility that there could have been a donee provision of goods or services outlined within the Gift Agreement. Based on the “Gift Agreement” language included in the deed, the terms of the deed were subject to this separate agreement, and this separate agreement was not provided to the taxpayer before the taxpayer’s income tax was filed, which is one of the substantiation requirements. According to the Tax Court, this fact pattern left open the possibility for a side agreement that included superseding terms.

Substantiation requirements under Section 170(f)(8)

Under Section 170(f)(8), there are four ‘buckets’ of substantiation requirements depending upon the dollar value of the charitable contribution:

Less than $250: The taxpayer must keep adequate records to substantiate the contribution. If the contribution is in cash, the records must show the name of the charity, the date of the contribution, and the amount of the contribution. Receipts are preferred but not required if the taxpayer’s records otherwise are adequate. Taxpayers who do not keep receipts run the risk of losing their deduction depending on the adequacy of their records, which is facts-and-circumstances based.
Between $250 - $500: The taxpayer must keep adequate records, but within this threshold, the taxpayer must obtain a receipt, called a Contemporaneous Written Acknowledgment. There are four requirements of the CWA, which are outlined in further detail below.
Greater than $500, but less than $5,000: The taxpayer must obtain all substantiation previously stated at the lower thresholds, plus additional information as the Treasury may require. This essentially means that the taxpayer must meet the requirements of the specific IRS form for income tax reporting and follow its instructions. For example, Form 8283 provides taxpayers with instructions on the information that must be provided for property donations, including basis in the property, and dates when the property was acquired and donated, and the method used to determine the fair market value. There are also specific substantiation requirements for vehicle donations that are above $500.
Greater than $5,000: the taxpayer must obtain all substantiation previously stated at the lower thresholds, as well as a qualified appraisal that supports the value claimed for the donated property. Generally, the taxpayer has to provide a summary of the appraisal, but if the claimed donation exceeds $500K ($20K for artwork) then the taxpayer must attach the appraisal itself. An appraisal must be attached for a gift of a qualified conservation easement regardless of value. In addition to these requirements, the taxpayer must also obtain the signature of an authorized official of the charity on Form 8283.

In addition to the requirements outlined above, aggregation rules need to be considered when it comes to property donations. For property donations above the $500 and $5,000 thresholds, the statute applies these substantiation requirements not only to individual and discrete donations of personality, but to aggregate donations of “similar items of property” to “1 or more” charities. These aggregation rules do not apply to cash donations. For example, a taxpayer who makes a $100 weekly donation to their church is required to substantiate with adequate records, but need not obtain a CWA. A taxpayer who makes $300 monthly donations must obtain a CWA, in accordance with the second bullet point above. Special substantiation rules may apply for certain contributions of facade easements, vehicles, and clothing or household items.

Observation: These strict statutory and regulatory requirements for charitable contributions are due to the fact that only a small percentage of returns are audited; therefore, the system relies on the compliance of taxpayers and their advisors. As stated in Addis v. Commissioner, “the deterrence value of Section 170(f)(8)’s total denial of a deduction [in the case of an improper CWA] comports with the effective administration of a self-assessment and self-reporting system.” This result is consistent with other cases where the charitable deduction has been denied based on the taxpayer not strictly complying with the substantiation requirements (for example, see Durden, RERI Holdings I LLC, Oakhill Woods, and Estate of Evenchik). Therefore, taxpayers are advised to strictly follow the letter of the law when making charitable contributions.

Contemporaneous Written Acknowledgement

As stated previously, there are four requirements to a valid CWA:

The CWA must specify the amount of cash donated, or give a description of the property donated.
The CWA must state whether the charity provided any goods or services in consideration for the donation, either in whole or in part.
If the charity did give something of value in exchange for the donation, the CWA needs to give a description and good faith estimate of the value of what was given. Any amount contributed over the value of what was received is eligible for a Schedule A charitable deduction.
The CWA must be contemporaneous. This means that the taxpayer must receive the CWA from the donee organization on or before the earlier of (1) the date the taxpayer files their return or (2) the due date (including extensions) for filing such return.

If the donation is to a donor advised fund (DAF), the CWA also must include a statement that the sponsoring organization of the DAF has exclusive legal control over the assets contributed.

Observation: The form of the CWA is not specified (see IRS Publication 1771); in fact a deed of gift can serve as a de facto CWA. Although the taxpayer in Albrecht obtained a CWA, it failed to meet the second requirement outlined above, arguably the most stringent requirement of the substantiation requirements. A taxpayer must confirm that the CWA obtained includes an explicit statement declaring whether something was given in return for the donation as the requirement does not permit silence. In Albrecht, the CWA was silent on the second requirement; therefore, the charitable contribution deduction was disallowed by the IRS and by the Tax Court.

The IRS and the courts focus exclusively on what the taxpayer obtained from the donee organization at the earlier of the time the return was filed or the filing due date (fourth requirement of the CWA outlined above) in order to be in strict compliance. It does not matter if it is later proven that the donee organization did not provide any consideration in return to the taxpayer as part of the donation. Substantial compliance does not satisfy the strict requirements of substantiation.

Albrecht reinforces the importance of the timeliness and completeness required to properly claim an income tax charitable deduction.