TAX COURT RULES APPRAISAL REQUIRED FOR FMV CHARITABLE CONTRIBUTION DEDUCTIONS
By Peter Barton, JD, CPA, professor of accounting, Roy Weatherwax, PhD, CPA, Arthur Andersen Professor of Accounting, and Alka Arora, PhD, CPA, assistant professor of accounting, University of Wisconsin-Whitewater
In Hewitt v. Commissioner, a case of first impression, the Tax Court recently ruled that taxpayers contributing nonpublicly traded stock to charitable organizations could deduct only their basis, not the fair market value (FMV), where they did not obtain a qualified appraisal even though the FMV used was correct. This is an important case since many taxpayers contribute appreciated property to charity. Such contributions eliminate income tax on the appreciation and also create a deduction equal to the property's FMV if the law is correctly followed.
IRC section 170(a)(1) states that a charitable contribution deduction is allowed only if verified under the regulations. Section 155 of the Tax Reform Act of 1984 required regulations to be issued concerning appraisals for property contributions exceeding $5,000 ($10,000 for nonpublicly traded stock). These amounts, which are not indexed for inflation, apply to the total amount of similar property contributed to one or more donees in the tax year. The donor must obtain a qualified appraisal for such contributions and include an appraisal summary with the return.
Regulations section 1.170A-13(c) contains detailed rules implementing this qualified appraisal requirement. This requirement applies to individuals, partnerships, closely held corporations, S corporations, and personal service corporations. The appraisal must be performed by the due date of the return (including extensions) and must include the method of and specific basis for the valuation. Also, the regulations require the appraisal summary, which is part B of Form 8283, to include the appraiser's signed statement attesting that he or she is qualified to appraise the property, is independent, is aware of the penalties for an overstatement of the property's value, and did not base the appraisal fee on a percentage of the appraised value.
In Hewitt, John and Linda Hewitt contributed Jackson Hewitt stock to the Hewitt Foundation and the Methodist church, for which they deducted $33,000 in 1990 and $88,000 in 1991. Their total basis was under $7,000. In 199091, Jackson Hewitt, a nonpublic corporation, was owned by 400 shareholders with approximately 700,000 shares outstanding. From May 1990 to December 1991, Jackson Hewitt recorded 317 transfers of stock involving approximately 100,000 shares. Also, an independent securities firm traded Jackson Hewitt stock for about 80 additional accounts. The Hewitts based the value of their stock contributions on these transactions. They did not obtain appraisals.
The Hewitts simply listed the stock, its basis, and its value on Form 8283. Although the IRS did not contest the Hewitts' stock valuations, it disallowed the amounts deducted in excess of basis, citing the lack of qualified appraisals. The resulting deficiency for 199091 was $40,277. Relying on Bond v. Commissioner, 100 T.C. 32 (1993), the Hewitts claimed that they had substantially complied with the regulations since they based their stock valuations on bona fide, arm's-length transactions. In Bond, the appraiser completed the appraisal summary, which was filed with the return, but did not do a separate written appraisal. The Tax Court in Bond allowed the deduction, ruling that the regulations' reporting requirements "do not relate to the substance or essence of whether or not a charitable contribution was actually made."
The Tax Court in Hewitt disallowed the fair market value deduction, ruling that the objective of IRC section 155 was to deter overvaluations by requiring certain information (the appraisal summary) with the return. Bond had complied; the Hewitts had not. The fact that the Hewitts' valuation was accurate did not justify an exemption from the clear statutory and regulatory requirements.
The booming economy has created increasing incomes. Also, stock valuations have increased for many nonpublic companies. Finally, the sale of appreciated collectibles, such as works of art, continue to be taxed at 28%. These facts make the charitable donation of appreciated assets an attractive tax strategy. However, Hewitt demonstrates the need to follow to the letter the appraisal requirements. Also, Hewitt modifies Bond and creates uncertainty concerning acceptable deviations from the regulations section 1.170A-13(c) appraisal regulations.*
Source: Hewitt v. Commissioner, 109 T.C., No.12 (October 29, 1997).
©2009 The New York State Society of CPAs. Legal Notices
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