On June 13, 2019, final IRS Treasury regulations were issued that impact and directly relate to several of the provisions enacted in the Tax Cuts and Jobs Act (December 2017). The provisions limited the deduction for state and local taxes, including income and property taxes, to $10,000 ($5,000 for married filing separately). This change resulted in a movement by certain states to circumvent the state income tax deduction limitation by setting up state-controlled charities to accept charitable contributions from residents and to issue state income tax credits to those donors.
The final regulations confirm the tax treatment of these contributions that was outlined in proposed regulations, issued in August 2018. The final regulations are effective as of August 27, 2018 and provide guidance on how Internal Revenue code section 170 should be interpreted for charitable contributions made to these state-controlled charities and certain pre-existing state programs.
Under the final regulations, the IRS treats state tax credits issued to these state-controlled entities and pre-existing state programs as “quid pro quo” contributions, i.e. the donor received value (the state tax credit) in return for making the donation.
For example, assume a donor contributes $10,000 to a qualifying charity and receives a $4,000 state tax credit for the donation. Prior to August 27, 2018, the donor would have been able to claim the entire $10,000 charitable contribution as an itemized deduction on his or her federal income tax return. Additionally, the donor could claim a $4,000 credit on his or her state income tax return. Beginning August 28, 2018, the donor is only able to deduct $6,000 (or $10,000 less $4,000) as a charitable contribution, but is still entitled to the $4,000 state income tax credit. It should be noted that the contribution reduction for the state credit occurs regardless of whether the donor is able to claim the entire state credit in the year of the donation.
Also included in the final regulations are provisions related to the issuance of state tax credits that total less than 15% of the amount contributed to an organization described in IRC section 170(c). In these circumstances, the credit is considered a “de minimis” benefit and the donor’s deduction would not be reduced by the amount of the credit received.
An additional nuance in the final regulations is a situation whereby a donor makes a contribution to an organization described in Section 170(c), and under state law, the donor is entitled to receive an additional state tax deduction for the contribution. The donor’s charitable contribution deduction is not required to be reduced on account of the state tax deduction related to the contribution pursuant to the final regulations.
There are additional clarifications and examples provided in the final regulations. Please contact RubinBrown’s Not-For-Profit Services Group with questions.
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