Contributions of real property represent one of the most complicated yet rewarding opportunities in charitable gift planning.
Several characteristics of the property being given are taken into account in order to determine the donor’s tax benefits. Length of time the property has been owned and whether it has increased or decreased in value are two of the key factors.
Real estate held long-term: If an individual donates real estate held long-term (i.e., longer than a year) to a “public” charity, the amount he or she generally can claim as a charitable contribution for federal income tax purposes is the property’s fair market value on the date of the gift. See Internal Revenue Code section 170(b)(1)(A).
Depreciated real estate: If improved property for which depreciation has been claimed is donated, the donor’s charitable contribution is reduced by the amount of depreciation that would be recaptured as ordinary income if the property were sold. See IRC section 170(e)(1)(A).
Put a somewhat different way, if the depreciation claimed has been straight line, the donor’s charitable contribution is generally not reduced
Fair market value: For purposes of determining the amount of the donor’s charitable gift, the fair market value of real estate is generally the price at which it would transfer between a willing buyer and a willing seller, each having full knowledge of all facts relevant to the property’s value. See Regulation section 1.170A-1(c)(2).
The federal income tax charitable deduction is subject to various percentage limitations.
The overall ceiling on the deduction is 50 percent of adjusted gross income (AGI). Gifts to “public” charities of cash, personal property put to an unrelated use, and short-term capital gain property of all types are generally deductible up to this 50 percent limit. See IRC section 170(b)(1)(A).
Gifts to “public” charities of appreciated real property held long-term (together with certain other types of other long-term appreciated property contributions) are generally deductible up to 30 percent of AGI. See IRC section 170(b)(1)(C).
Excess contributions may be carried forward for up to five subsequent tax years. See IRC section 170(b)(1)(D).
The interplay of the 50 percent and 30 percent limits and the carry-over rules establishes a hierarchy for deducting various types of gifts. The hierarchy (insofar as gifts to public charities are concerned) is as follows:
- Current gifts subject to the 50 percent limit are taken into account first.
- Current gifts subject to the 30 percent limit are taken into account second.
- Carried-over gifts subject to the 50 percent limit are taken into account third.
- Carried-over gifts subject to the 30 percent limit are taken into account fourth. See IRC sections 170(b)(1)(A), (b)(1)(C), (b)(1)(D).
A qualified appraisal — as that term is defined in Reg. section 1.170A-13(c) — is generally needed to sustain a claim of an income tax charitable deduction with respect to a donation of real estate if the claimed value of the property (or the aggregate claimed value of all real estate gifts made during the year) exceeds $5,000.
In addition to obtaining a qualified appraisal, the donor is required to file an appraisal summary — IRS Form 8283 — with the federal income tax return on which the gift is first claimed or reported.
Requirements for a qualified appraisal: Full details of the requirements an appraisal must meet to be a qualified appraisal are beyond the scope of this discussion. Nonetheless, it is worth noting some of the items of information that, by definition, must be included in a qualified appraisal:
- The date or expected date of gift.
- The appraised fair market value on the date or expected date of gift.
- The appraiser’s tax ID number.
- A statement that the appraisal was prepared for federal income tax purposes.
- A description of the appraiser’s background, education, experience, and membership (if any) in professional appraisal associations.
- A description of the fee arrangement between the donor and the appraiser. See Reg. section 1.170A-13(c)(3)(ii).
In order for an appraisal to be a qualified appraisal, it must be obtained no earlier than 60 days before the date of gift and no later than the day before the due date of the income tax return on which the gift is first claimed or reported. Due date includes extensions of time to file the return.
Under IRC section 170(f)(3)(B)(i), a current income tax charitable deduction is allowed for the donation of a remainder interest in a personal residence or farm.
The term personal residence is not limited to the donor’s principal residence, but includes secondary residences such as vacation homes (so long as the secondary residence does not fall into the category of rental property).
The term farm is also defined broadly. It includes, for example, farm property leased to a tenant.
This gift arrangement can be an ideal way for an individual or a couple who plan to eventually leave a farm or personal residence to a charitable interest to do so while enjoying immediate tax benefits and the use of the property for lifetime or other period of time they choose.
There are several ways that real estate can be donated for charitable use in such a way that a donor retains income for life or other period of time for himself and/or others of his choosing. Perhaps the most popular way to accomplish this result is through the use of charitable remainder trusts. See IRC section 664 and regulations thereunder for the rules governing the tax considerations of such trusts.
There are a number of types of charitable remainder trusts. Fixed payment trusts that pay a fixed amount each year regardless of the earnings and/or value of underlying trust assets are known as charitable remainder annuity trusts. Charitable remainder unitrusts feature income that varies over time with the investment performance of the trust. The so-called straight unitrust pays a predetermined percentage of the value of the trust assets as valued annually. The net income unitrust pays the required percentage of the annual value of the trust assets or the actual earnings of the trust, whichever amount is less. A net income unitrust can be designed to make up in future years any amount by which the earnings fell short of the percentage payment amounts in one or more previous years, from earnings that are in excess of the unitrust percentage payment amount required to be paid in such a future year.
In general, if an appreciated asset is given to a charitable organization, the donor does not realize the appreciation as a capital gain for federal income tax purposes. The reason is that gain is generally realized only if an appreciated asset is sold or exchanged; a charitable contribution is merely a donative disposition.
Bargain sale formula: The amount of gain (G) realized when mortgaged property is given outright to a charitable organization can be determined using this formula:
G = (FMV – B) x (M/FMV), where:
“FMV” is the fair market value of the donated property.
“B” is the property’s adjusted basis in the donor’s hands.
“M” is the amount of the mortgage debt. See Reg. section 1.1011-2(b).
For example, if property worth $100,000, having a $40,000 adjusted basis in the donor’s hands and subject to a $20,000 mortgage, is given outright to a charitable organization, the donor realizes a gain of ($100,000 – $40,000) x ($20,000/$100,000), or $12,000.
The donor is also entitled to claim a charitable deduction of $80,000 — his or her equity in the donated property.