Proposed IRS Guidance Nixes Charitable Deductions as SALT Cap Workaround

Chris Gaetano
Published Date:
Aug 24, 2018

The IRS has released proposed guidance that, if implemented, would effectively nullify the use of charitable contributions to get around the $10,000 cap on state and local tax deductions in the Tax Cuts and Jobs Act. 

"After reviewing the issue, and in light of the longstanding principles of the cases and tax regulations discussed above, the Treasury Department and the IRS believe that when a taxpayer receives or expects to receive a state or local tax credit in return for a payment or transfer to an entity listed in section 170(c), the receipt of this tax benefit constitutes a quid pro quo that may preclude a full deduction under section 170(a). In applying section 170 and the quid pro quo doctrine, the Treasury Department and the IRS do not believe it is appropriate to categorically exempt state or local tax benefits from the normal rules that apply to other benefits received by a taxpayer in exchange for a contribution," said the proposed guidance
The Tax Cuts and Jobs Act included a provision that restricted the previously unlimited federal deduction for state and local taxes to no more than $10,000, a move that Gov. Andrew Cuomo said during his State of the State address amounted to robbing blue states to pay for tax cuts in red states. Consequently, New York state passed a measure as part of the budget that would, among other things, offer two potential options for ameliorating the cap's impact: an opt-in payroll tax that businesses can then deduct, and the creation of two charitable organizations that people could donate to in order to claim a deduction. 

The IRS's proposed guidance would firmly shut down the latter. It says that anyone who makes payments or transfers property to such charitable entities must reduce their charitable deduction by the amount of any state or local tax credit the taxpayer receives or expects to receive. 

"For example, if a state grants a 70 percent state tax credit and the taxpayer pays $1,000 to an eligible entity, the taxpayer receives a $700 state tax credit. The taxpayer must reduce the $1,000 contribution by the $700 state tax credit, leaving an allowable contribution deduction of $300 on the taxpayer’s federal income tax return. The proposed regulations also apply to payments made by trusts or decedents’ estates in determining the amount of their contribution deduction," said the IRS. 

The proposal, though, also provides exceptions for dollar-to-dollar state tax deductions and tax credits of no more than 15 percent of the payment amount, or of the fair market value of the property transferred. This means that taxpayers who makes a $1,000 contribution to an eligible entity are not required to reduce the $1,000 deduction on the taxpayer’s federal income tax return if the state or local tax credit received or expected to be received is no more than $150.

Mark Klein, a speaker at the Foundation for Accounting Education's conference "Impact of the New Tax Law: a Sid Kess Workshop" in January, had warned that the IRS would likely take a jaundiced view of this tactic. While there is precedent for such a move, as an IRS memo from 2010 allowed contributions to a state tax credit program to be considered charitable contributions, Klein said that it was unlikely that the Treasury Department would tolerate such a measure. He mentioned that U.S. Treasury Secretary Tim Mnuchin had recently called the idea of substituting SALT deductions with charitable contributions "ridiculous" and had warned that he would likely direct the IRS to audit those who try such a scheme. 

The proposed amendments are scheduled to be published in the Federal Register on Aug. 27. Comments are due 45 days after publication, as are requests to speak at a public hearing scheduled for Nov. 5.

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