Avoiding Costly IRS Exams in Noncash Charitable Contribution Cases
The U.S. tax code provides generous deductions for charitable contributions, but it also imposes strict documentation rules to prevent abuse. One of the most important provisions in this area is 26 U.S.C. § 170(f)(110), which sets forth substantiation and reporting requirements for taxpayers claiming charitable contribution deductions.
26 U.S.C. § 170(f)9110 underscores the principle that while charitable giving is encouraged through tax incentives, it must be accompanied by strict documentation to preserve the integrity of the system. For taxpayers, and their advisors, understanding these requirements is critical—not only to maximize deductions but also to avoid penalties or dis-allowances of contributions.
Section 170(f)(11) was added to ensure compliance and transparency, particularly for noncash donations, which are more susceptible to overvaluation. Section 170(f)(11) was specifically designed to combat the overvaluation of contributed property by providing the IRS with information necessary to evaluate the taxpayer’s claimed value. The IRS enforcement function targets high net worth taxpayers who make noncash charitable donation and demands strict compliance with the byzantine rules found in both Section 170(f)(11) and the implementing Treasury Regulations.
Statutory Framework
The statute’s documentation requirements are increasingly onerous as the value of the contribution rises, especially for noncash contributions. For contributions of property under $250, taxpayers must maintain a receipt from the charitable organization, which includes the name of the organization, date and location of the contribution, and a description of the property donated. If obtaining a receipt is impractical (e.g., dropping off goods at an unattended collection box), the donor must keep reliable written records.
For contributions over $250, up to $500, the taxpayer must obtain a contemporaneous written acknowledgment from the charity. If the contribution is cash, it must state the amount contributed. If the contribution is a noncash contribution, the organization need not state the value of the contribution. The acknowledgment must, however, state whether the organization provided goods or services in exchange for the contribution. If goods or services are provided in return, the acknowledgment must contain a description and good faith estimate of the value of such goods or services. The acknowledgement must be obtained from the charitable organization prior to the due date of the return, or the date the return is filed, whichever is earlier.
For contributions of property between $500 and $5,000, in addition to the above requirements, taxpayers must include a completed Form 8283 (Section A) with details about the property. The Form 8283 must include a description of the property, as well as, how and when the property was acquired. Finally, the taxpayer must include the cost basis of the property on the Form 8283.
When a taxpayer’s contribution is over $5,000, the statute requires a qualified appraisal, in addition to the contemporaneous written acknowledgement and the Form 8283. There are limited exceptions to the appraisal requirement for cash and readily valued property, such as publicly traded securities. The appraisal must be prepared by a qualified appraiser, as defined by the IRS. In addition, the regulations set forth thirteen distinct requirements for the appraisal itself. The donor must attach Form 8283, with Section B completed, signed by both the appraiser and the donee organization, which provides the IRS with a summary of the appraisal.
Finally, when a contribution exceeds $500,000, the taxpayer must attach the full qualified appraisal to the return, not just the summary. This is in addition to the contemporaneous written acknowledgement and the Form 8283, with Section B completed.
Best Practices
Years of experience representing both the IRS and taxpayers in Section 170 cases has led to the following best practices for practitioners advising clients regarding their charitable contributions.
Use our checklist (or develop your own) every time you prepare a return with a charitable contribution.
Protect yourself, and your client, by fully documenting the contribution in your file before the return is filed. Do not take the client’s word regarding value, basis, or any other substantiation requirement.
Example: the CWA is never required to be filed with the return and many practitioners will advise the client to obtain a CWA but do not ask the client to provide a copy. The filing of the return ends the taxpayer’s ability to obtain a CWA and this is a defect that is not curable. A CWA obtained after the return is file is invalid and will lead to denial of the deduction.
Review all documentation for compliance with the statute and regulations and demand strict compliance prior to filing the return. Curative action prior to return filing is more efficient than years of litigation.
Example: an appraiser can easily make corrections to an appraisal if the practitioner spots an issue. After the return is filed, the client could spend tens of thousands of dollars arguing over something as benign as whether the appraisal is invalid because the appraiser’s taxpayer identification number is missing.
Have a second review of the return prior to filing. Whether you are a solo practitioner or in a big firm, always have someone check the return and the substantiating documentation. Practitioner errors can cause years of litigation for your clients, and they will inevitably look to you.
Document your client’s efforts to comply with the statute and the advice you offered them in their effort to comply. Section 170(f)(11)(A)(ii)(II) provides a reasonable cause exception to the requirements. The standard of reasonable cause here is the same as the standard for Section 6662 accuracy penalties, including reasonable reliance on a professional advisor.
How was the appraiser selected?
What review and coordination did the tax advisor undertake regarding the appraisal?
What substantiation did the tax advisor have for the basis listed on the Form 8283?
The Bottom Line
The bottom line is, the more you do before the return is filed to ensure compliance, the more likely your client is to successfully defend the deduction during exam. A no change report from exam prevents years of costly proceedings in IRS Appeals and US Tax Court.
The practitioner preparing the return is the last line of defense to make sure the requirements of Section 170(f)(11) are met. Many errors cannot be cured after the return is filed.