Contributions to social
welfare organizations may be taxable gifts
It has been reported that IRS is examining five donors who made
transfers to Code Sec. 501(c)(4) social welfare organizations without reporting them
as taxable gifts. Such transfers have proliferated in the wake of the 2010
Supreme Court decision in Citizens United v. Federal Election Commission
(FEC). This Practice Alert examines IRS's apparent position that
such transfers are indeed taxable gifts and possible escape hatches from gift
treatment.
Social welfare
organizations. Under Code Sec. 501(c)(4) , civic leagues or organizations not organized for
profit but operated exclusively for the promotion of social welfare are exempt
from income taxation if no part of their earnings inures to the benefit of any
private shareholder or individual and no substantial part of the organization's
activities consists of providing commercial-type insurance. These organizations
may engage in political campaign activities on behalf of or in opposition to
candidates for public office. However, in order to retain its tax-exempt
status, an organization must ensure that its political campaign activities do
not constitute its primary activity. In general, Code Sec. 501(c)(4) organizations may engage in an unlimited amount of
lobbying (i.e., attempting to influence legislation), provided that the
lobbying is related to the organization's exempt purpose. (IRS Publication
4221-NC, Compliance Guide for Tax Exempt Organizations (other than 501(c)(3)
Public Charities and Private Foundations))
A 2010 Congressional Research Service (CRS) report examined the
subject of the political campaign activities of social welfare organizations.
(R40183) Under federal law, such groups are allowed to engage in campaign
activity subject to regulation under the Code and the Federal Election Campaign
Act (FECA). The role of Code Sec. 501(c)(4) organizations was in the spotlight during the 2010
elections given the Supreme Court's decision in Citizens United v. FEC,
which invalidated FECA's prohibitions on corporations and labor unions from
using their general treasury funds to make independent expenditures for
electioneering communications or for advocating the election or defeat of a
candidate. In the 2010 election cycle, the Citizens United decision
enabled Code Sec. 501(c)(4) organizations to operate with less restriction, CRS
said. “At the same time, it is important to realize that Code Sec. 501(c)(4) social welfare organizations are still subject to
regulation under FECA and the Code,” CRS noted. For example, under FECA,
incorporated Code Sec. 501(c)(4) organizations cannot make political contributions
and must create a political action committee for that purpose. Also, the Code
requires that the organization must have the promotion of social welfare as its
primary activity.
Gift tax. The gift
tax is imposed on the transfer of money or other property by gift. ( Code Sec. 2501(a) )
The gift tax applies whether the transfer is in trust or
otherwise, whether the gift is direct or indirect, and whether the property is
real or personal, tangible or intangible. ( Code Sec. 2511 ) If a gift is made in property, the property's
value at the date of the gift is the amount of the gift. Where property is
transferred for less than an adequate and full consideration in money or money's
worth, then the amount by which the value of the property transferred exceeds
the value of the consideration received is considered a gift. ( Code Sec. 2512 )
The first $13,000 of gifts of a present interest made by a donor
to each donee in is excluded from the amount of the donor's taxable gifts. ( Code Sec. 2503(b) )
For gifts made in 2010, the gift tax is imposed if the sum of
taxable gifts for that year and taxable gifts for prior years is more than $1
million. For gifts made and decedents dying after 2010, the gift tax is
integrated with the estate tax under a “unified” rate schedule that imposes a
single tax on transfers during life and at death which effectively imposes no
tax on gifts unless the total amount of taxable gifts for any such year and all
prior years exceeds $5 million (indexed for inflation after 2011). For gifts
made after 2012, the amount exempted from the gift tax will be $1 million. ( Code Sec. 2505 )
The gift tax must be paid by the donor. ( Code Sec. 2501(a) ) If the donor fails to pay the tax when due, the
donee is also liable for the tax to the extent of the value of his gift. ( Code Sec. 6324(b) )
Transfer to political
organizations. There's no gift tax on a transfer to a political organization
within the meaning of Code Sec. 527(e)(1) . ( Code Sec. 2501(a)(4) ) Under Code Sec. 527(e)(1) , “political organization” means a party,
committee, association, fund, or other organization (whether or not
incorporated) organized and operated primarily for the purpose of directly or
indirectly accepting contributions or making expenditures, or both, for an exempt
function.
Charitable gifts.
Charitable gifts and certain similar gifts are deducted in arriving at taxable
gifts for the calendar year. ( Code Sec. 2522 ) Gifts are deductible for gift tax purposes if
made to or for the use of any corporation, trust, community chest, fund or
foundation organized and operated exclusively for religious, charitable,
scientific, literary or educational purposes, including the encouragement of
art, or to foster national or international amateur sports competition (but
only if no part of the organization's activities involve the provision of
athletic facilities or equipment, except for a “qualified amateur sports
organization,” or for the prevention of cruelty to children or animals, subject
to the requirement that the organization must comply with certain restrictions.
( Code Sec. 2522(a)(2) )
Gifts to social welfare
organizations. Gifts to social welfare organizations do not qualify for the
exclusion for political organizations under Code Sec. 2501(a)(4) or the deduction for charitable gifts under Code Sec. 2522 .
Thus, it can be argued that since they don't qualify for the specific exclusion
or deduction that applies for gifts to other types of organizations, they are
subject to gift tax. Indeed, this seems to be IRS's position. In Rev Rul 82-216, 1982-2 CB 220 , IRS stated
that “gratuitous transfers to persons other than organizations described in
section 527(e) of the Code are subject to the gift tax absent any specific
statute to the contrary, even though the transfers may be motivated by a desire
to advance the donor's own social, political or charitable goals.” As an
example, IRS cited Code Sec. 2522(a) , which it said “limits the charitable gift tax
deduction otherwise available for transfers to charitable organizations to only
those organizations that have not been disqualified for exemption under section
501(c)(3) by reason of attempting to influence legislation and that do not
participate in political campaigns.”
Some
practitioners acknowledge that the IRS view appears to be that contributions to
Code Sec. 501(c)(4) organizations are subject to gift tax, but note
that enforcement in this area has been lax if not nonexistent. Thus, according
to them, there is a question of fairness if IRS were to retroactively impose
gift taxes on contributions to such organizations, which were fairly large in
the 2010 election cycle. With IRS's admission that it is examining some donors,
perhaps it will restate its position in clearer terms. In the meantime, donors
to Code Sec. 501(c)(4) organizations must be mindful that gift taxes may
be owed on annual transfers in excess of $13,000.
Possible escape hatches. It is
possible that a donation to a Code Sec. 501(c)(4) organization will not be subject to gift tax if:
... A
court find such transfers to be outside of the reach of the gift tax, which
historically has been aimed at transferring wealth to family members and other
loved ones. Indeed, before enactment of Code Sec. 2501(a)(4) (originally in Code Sec. 2501(a)(5) ), a few courts had held that the gift tax did not
apply to political contributions. (See Rev Rul 82-216 .)
Whether courts would do so now in the face of the specific statutory exclusion
for political contributions, which is limited in scope, remains to be seen.
... The
transferor is found to have received full and adequate consideration for the
transfer. Under Reg. § 25.2512-8 , a sale, exchange, or other transfer of property
made in the ordinary course of business (a transaction which is bona fide, at
arm's length, and free from any donative intent), is considered as made for
adequate and full consideration in money or money's worth. This exception,
however, may be tough to meet in the context of a donation to a social welfare
organization.
...
Taxing the transfer fails to pass constitutional muster either because of the
free speech issues involved or because of equal protection and due process
arguments that it is unfair for IRS to retroactively and selectively tax
contributions to Code Sec. 501(c)(4) organizations after a prolonged period of
nonenforcement.
Bottom line. The fact
that certain transfers are statutorily excludable or deductible provides a
sound argument for finding that transfers to Code Sec. 501(c)(4) organizations are subject to gift tax. While there
may be escape hatches, they are by no means certain and donors would have to
incur costs to advocate for their applicability should IRS seek to tax the
transfers. Thus, donors should be prepared to pay gift tax or consider
alternative transfers that qualify for the exclusion or deduction. Another
approach would be to keep annual transfers below the gift tax annual exclusion
amount (currently $13,000).
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