The Pension Protection Act of 2006 (the “Act”) created new substantiation requirements that taxpayers must meet to deduct charitable expenses. Because these requirements became effective for years beginning after August 17, 2006, most individual taxpayers must comply with these charitable substantiation requirements for the first time when filing their 2007 tax return. This article highlights the most significant new requirements, which will likely impact your 2007 tax return preparation:
• New Recordkeeping Requirements for Cash Donations. Under the Act, a taxpayer cannot claim a charitable deduction for a cash contribution unless the taxpayer maintains a substantiating record of the donation. The substantiating record must be a bank record or written communication from the charity containing all of the following information: (i) the name of the charity; (ii) the date the taxpayer made the contribution; and (iii) the amount of the contribution. Taxpayers may no longer use “other written records.” This substantiation requirement applies to all cash, check or other monetary contributions made during 2007 and beyond, regardless of amount.
• No Deductions For Clothing or Household Items in Poor Condition. Effective for donations during 2007, the Act mandates that donated clothing or household goods must be in good condition for the donor to claim a charitable deduction. Also, the IRS may deny deductions for contributions of clothing or household items (e.g., furniture, electronics, etc.) that have minimal monetary value. These restrictions do not apply if a taxpayer (i) donates a single household item or article of clothing valued at more than $500; and (ii) includes a qualified appraisal of the donated item with the taxpayer’s income tax return.
• Non-Cash Donations Over $5,000 Now Require Qualified Appraisals. Code Section 170(f)(11) provides that a taxpayer may not claim a charitable deduction for non-cash donations over $5,000, unless a qualified appraisal of the donated property was first completed by a qualified appraiser. For donated property which exceeds $500,000, the qualified appraisal must be attached to the return itself. A qualified appraisal is not required for certain types of contributions which are readily valued at established prices (e.g., contributions of cash, publicly traded securities, etc.). For additional help complying with this requirement, taxpayers and appraisers should consult Notice 2006-96.
• Donated Tangible Personal Property Not Used By Charity For Exempt Purpose. Prior to the Act, if a charity received appreciated tangible personal property worth more than $5,000, and sold the property within 2 years, the charity had to report the sale to the IRS. The donor was required to include the excess of fair market value over the donor’s basis as ordinary income in the year of the charity’s sale. As amended by the Act, the two year recapture period was extended to three years. There is an exception to this recapture rule if the property was intended to be used or was put to a use related to the charity’s exempt purpose.
• Substantiating Gifts through the Combined Federal Campaign or a United Way Campaign. In recently issued Notice 2008-16, the IRS established that when a taxpayer makes a lump-sum contribution through a United Way or similar campaign, the recipient organization (i.e. United Way) may furnish the contribution record to the donor even if that recipient organization then distributes the amount it received to other organizations. This means that taxpayers may rely on records issued by the United Way.
If you have any questions regarding the IRS’ new charitable substantiation requirements, or you want to discuss these requirements in more depth, feel free to contact any member of the McGrath North Tax Group.