An IRA allows an individual to save for retirement using pre-tax money. Generally speaking, the earnings and gains in an IRA aren’t taxed until distribution. Once the individual reaches 70½, they must to begin taking distributions from their IRA. Failure to do so may subject them to penalties from the IRS.  Distributions from the IRA are taxable in the year they’re received.

Alternatively, there is a happy exception that benefits both charities and donors! The individual can make a “qualified charitable distribution” to a charity, which is not taxable, up to a maximum amount of $100,000 per year. If the donor exceeds the $100,000 cap, the excess distribution is taxable. Sadly, this option is not available for ongoing SEPs (wherein contributions continue to be made) or SIMPLE IRAs.

There are a few restrictions – the donation can’t go to a supporting organization, nor can it go into a donor-advised fund. The charity needs to treat the donation like any other, by issuing an acknowledgement. Most importantly, the donor (and the IRA trustee) should confirm that the recipient organization is a tax-exempt public charity.

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To avoid such mistakes, charities and donors should be sure to understand their obligations, and consult with a tax advisor whenever a question arises about how to acknowledge or document a particular donation.

Substantiating Contributions Worth $250 or More

Under the Internal Revenue Code, a donor may only take a tax deduction for a cash or in-kind donation worth $250 or more if the contribution is substantiated by a contemporaneous written acknowledgment from the charity that states all of the following:

• The amount of the cash donation, and a description (but not the value) of any property donated;
• Whether the charity provided any goods or services in exchange for the contribution; and
• If the charity provided any goods or services (such as a meal at a fundraising gala), a description and estimate of the value of the goods or services, or a statement that such goods or services consisted only of “intangible religious benefits.”

To meet the “contemporaneous” requirement, the donor must receive the acknowledgement before they file their tax return, or before the due date (including extensions) for filing the return, whichever comes first.

In the first tax court case – Durden v. Commissioner, T.C. Memo. 2012-140 (2012) – the Durdens lost out on a tax deduction of almost $23,000 because they did not have a receipt that included the required information. The Durdens had made several cash donations greater than $250 to their church in 2007, totaling $22,517. Their church provided them with a letter in January 2008 acknowledging their contributions, but the letter did not include the required statement that no goods or services were received in exchange. The IRS sent a notice of deficiency in April 2009, disallowing the Durdens’ charitable deductions. The Durdens attempted to remedy the situation by obtaining a second acknowledgment letter from their church, which corrected this oversight. However, this letter was obtained well after the Durdens filed their 2007 tax return, and the IRS rejected it too, because it did not meet the “contemporaneous” requirement. The Durdens’ were deprived of the charitable deduction to which they were entitled, due to a simple oversight by the charity. Once the IRS pointed out the error, it was too late to remedy it.

Substantiating Contributions Worth $5000 or More

It is probably no surprise that the substantiation requirements for donations valued at more than $5,000 are even more complex – and that the penalties for innocent mistakes are just as harsh.

In the second tax court case – Mohamed v. Commissioner, T.C. Memo. 2012-152 (2012) – the Mohameds were unable to deduct their contributions of over $18 million dollars, because of mistakes made in documenting their donations. Shirley and Joseph Mohamed, Sr. made several donations of real estate to their charitable remainder unitrust in 2003 and 2004. When Joseph Mohamed filled out Form 8283 (used to substantiate non-cash contributions of $500 or more), he made a number of mistakes and, despite the fact that Mr. Mohamed had undervalued the donated real estate, the tax court ultimately disallowed the entire charitable deduction.

The regulations state that the donor must obtain a qualified appraisal for any non-cash donations, such as real property, valued at $5000 or more. A qualified appraisal cannot be performed by either the donor or the donee. The donor must also attach a completed appraisal summary to their tax return and maintain certain records. Because Joseph Mohamed was a real-estate broker and certified real-estate appraiser, he valued the properties himself and signed the appraisal summary in his capacity as the appraiser, not realizing that, as the donor, he was disqualified from acting as the appraiser. The appraisal summary he prepared was also missing many of the statements required by the regulations.

The IRS audited the Mohameds’ 2003 tax return in 2005. After much back and forth, the Mohameds tried to remedy the deficiencies in their return by commissioning new independent appraisals of the properties. However, just like in the case of the Durdens, it was too little, too late. Because the independent appraisals were completed after the due date of the original tax return, the IRS could not consider them. The tax court, though it acknowledged the result was harsh, ultimately upheld the IRS’s decision and disallowed the entire deduction.

While many practitioners have called for reform of the regulations to prevent such outcomes, in the meantime both charities and donors must educate themselves about their obligations. Charities can help protect their donors by issuing complete, timely, and accurate receipts, and by reminding donors to carefully review significant donations with a trusted tax advisor to ensure that they get the full benefit of the deduction.

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