Winter 2006
Donating Vehicles to Charity
In order to receive a tax deduction for a car donation, the charity must be a qualified charitable organization. A taxpayer can verify that a charity is qualified to receive tax-deductible contributions by referring to IRS Publication 78, or by calling the IRS Customer Account Services division for Tax Exempt and Government Entities at (877) 829-5500 (toll free).
Currently, a taxpayer can deduct contributions to a charity only if the taxpayer itemizes deductions on the taxpayer's Schedule A Form 1040. However, this may change if Congress passes the proposed Tax Reconciliation Act, which contains a number of charitable giving incentives. The deduction will only affect the taxpayer's federal income tax return, as deductions for charitable donations are not allowed on Pennsylvania income tax returns.
The maximum amount that the taxpayer can deduct on his/her income tax return is the fair market value of the car, which may be substantially less than the "blue book" value.
If the taxpayer is claiming a total deduction for the donated car in an amount greater than $250, the taxpayer must obtain a contemporaneous written acknowledgment from the charity. If the deduction claimed is greater than $500, the taxpayer must attach Form 1098-C to his or her federal income tax return. Form 1098-C is a new IRS form specifically for donations of vehicles, and should be sent to the taxpayer by the recipient charity. If the taxpayer is claiming a deduction greater than $5,000, the taxpayer must get a written appraisal from a qualified appraiser made no more than 60 days before the taxpayer contributes the car. In addition, the taxpayer must complete Form 8283, which must include the signature of an authorized official of the charity, and attach it to the taxpayer's tax return.
Taxability of Earnings of Shareholders in S Corporations
As more and more individuals construct S Corporations based upon the model of one shareholder (the owner), the shareholder is able to take the monies received by the corporation as distributions, rather than income allowing shareholders to escape payment of employment taxes upon income received by the corporation as that would normally constitute a salary while the S Corporation is able to avoid payment of employment taxes. Local taxing authorities have been reviewing the salaries taken by shareholders in S Corporations to determine whether they constitute a "fair salary" or constitute an abuse of this construction to avoid employment taxes. The Internal Revenue Service (IRS) is also beginning to look at the salaries that are being paid by S Corporations to their sole shareholders to determine whether the salary reflects the value of the work that is performed.
On May 20, 2005, a report was issued by the Deputy Inspector General about inequities in employment tax liabilities of single shareholder S Corporations as compared with the more traditional corporate model. As S Corporations are currently regulated, there is no requirement that a shareholder receive a fair salary for services performed. For the most part, the setting of salaries has been left to the corporation's discretion under the business judgment rule. One of the problems that the report cites as accounting for the inequity between single shareholder S Corporations and other corporations with multiple shareholders and employees is that the laws created for S Corporations and Revenue Ruling 59-221 did not account for the circumstances related to the predominant ownership structure of the S Corporation. Because most S Corporations are single shareholder, whereby the corporation is controlled and operated by one individual, the determination of salaries is unilateral, highly subjective and influenced by the knowledge that higher salary will result in higher employment taxes, and thus lower profits of the corporation. Accordingly, the salaries of sole shareholders are generally deflated in order to reduce the taxation responsibilities of both the individual and the corporation with respect to that salary. To offset the lower salary, the sole shareholder will generally increase his distribution.
The report states that the underpayment of salaries by single shareholder S Corporations is one of the causes of the continued erosion of the employment tax base and related reduction in the Social Security and Medicare revenues. As this problem receives attention and the IRS takes a closer look at the salaries taken by sole shareholders for S Corporations, single shareholders of S Corporations should be prepared to justify the basis upon which their salary is paid. Otherwise, such shareholders may be subject to penalties for tax avoidance.
Real Property Donations and Retained Life Estates - Exceptions to the Partial Interest Rule
Internal Revenue Code Section 170(f)(3), sometimes referred to as "the partial interest rule," generally limits a taxpayer's charitable deduction for a gift of real property to a charitable organization, if the gift consists of something less than the taxpayer's entire interest in that property. However, if a taxpayer is considering a charitable gift of land, but would also like to retain a life estate interest in the property, certain exceptions to the partial interest rule exist, allowing the taxpayer to receive a current income tax deduction for the gift, while retaining a life estate interest in the property.
The more common exception applicable to property gifts where a taxpayer retains a life estate is contained in Section 170(f)(3)(B)(I), and provides specifically that the partial interest rule will not apply to "a contribution of a remainder interest in a personal residence or farm." The regulations at 1.170A-7(b)(3)-(4) provide specific guidance regarding what qualifies as a personal residence or farm.
If the taxpayer's property does not qualify as a personal residence or farm, Section 170(f)(3)(B)(iii) may offer another option. Section 170(f)(3)(B)(iii) provides an exception to the partial interest rule for gifts of "qualified conservation contributions." The requirements for a qualified conservation contribution are further outlined in Section 170(h) and include three elements: 1) a qualified real property interest, 2) given to a qualified organization, 3) exclusively for conservation purposes. While conservation easements are the most common type of qualified conservation contribution, Section 170(h)(2)(B) lists a "remainder interest" as another type of interest that can qualify under this exception.
Among the requirements of Section 170(h), property donated as a qualified conservation contribution must be protected in perpetuity and maintained exclusively for conservation purposes. The code lists a number of acceptable conservation purposes, and the language of one of the purposes should be recited in the instrument, conveying the remainder interest, together with a statement that the conservation purpose will be protected by the donee or any successor in interest in perpetuity. While more restrictive to the donee, the additional requirements are necessary to effect the qualified conservation contribution, and distinguish this type of donation from a gift of a remainder interest in a personal residence or farm.
What To Do If You Receive A Notice of Levy From The IRS
The Internal Revenue Code and the Treasury Regulations allow the IRS to levy upon all property of a delinquent taxpayer, including property which is held by a third party. If you receive a notice of levy for property which you have or which you are obligated to pay the delinquent taxpayer, then you must turn this property over to the Internal Revenue Service. If the property which you are holding is the taxpayer's wages, then the levy is a continuing one, which means that it continues, until it is released by the IRS. Additionally, if the property is the taxpayers wages and the taxpayer is entitled to an exemption, you should contact the IRS to determine what amount is exempt. If the IRS determines that the taxpayer is not entitled to an exemption, request such notification in writing. If you are not holding the taxpayer's wages, then contact the Internal Revenue Service and request in writing notification on whether or not the levy is continuing. If you do not comply with an IRS levy, you will be liable to the IRS for an amount equal to the amount the IRS would have received had you complied with interest of course. In addition, you will be subject to a penalty in the amount of 6% of the amount which the IRS would have received had you complied. Also, by complying with the levy, you are discharged from any obligation to the taxpayer for such amounts which you forwarded to the Internal Revenue Service.
Disclaimer and IRS Circular 230 Notice:
The material on our website and in this newsletter has been prepared for informational purposes only. It does not constitute legal advice, and transmission of information from this site is not intended to create, nor does its receipt constitute, an attorney-client relationship between Nauman Smith Shissler and Hall, LLP and the visitor to this site. The information contained in this newsletter is not intended as tax advice. As required by IRS Circular 230, we inform you that any information contained in this newsletter is not intended or written to be used, and cannot be used, for the purpose of avoiding penalties under the Internal Revenue Code or for the purpose of promoting, marketing or recommending to another party, any tax-related matter addressed herein.
Nauman Smith Shissler & Hall, LLP
200 North 3rd Street, 18th Floor
Harrisburg, PA 17101
717.236.3010
fax: 717.234.1925
info@nssh.com