Friday March 29, 2024

Rev. Rul. 79-419

GiftLaw Note: Gifts of long-term capital gain assets may not always be deductible at fair market value. If the donor's activities with regard to such property are tantamount to those of a dealer selling property in the ordinary course of a trade or business, the donor will be subject to the same deduction rules as a dealer.

In this Rev. Rul., donor purchased books in large enough quantities to receive a 75% discount off of the list price from an overseas wholesaler. The wholesaler held the books for the donor for a little over one year, then sent the books to a charitable organization of the donor's choice that had a related use for those books. The IRS held that the donor's activities were closer akin to a dealer and thus, the deduction would be reduced by the amount of gain that would have been ordinary (i.e., the difference between what the donor paid for the books and the fair market value). Further, the IRS stated that the donor may not even be entitled to a cost basis deduction if the fair market value of the books was less than the donor's cost basis. Therefore, the donor's charitable deduction was limited to the lesser of cost basis or fair market value.

Rev. Rul. 79-419, 1979-2 C.B. 107

July, 1979

Charitable contributions; capital assets; books purchased at volume discount. A taxpayer purchased books at a volume discount from a company located in a country where the retail price is legally fixed and imported them into the U.S. The taxpayer warehoused the books for just over 12 months and then donated them to charitable organizations. The taxpayer's activity is tantamount to the activities of a book dealer and the books are ordinary income property under section 170(e) of the Code. If the books' fair market value in the U.S. is equal to or less than the taxpayer's basis, the amount of the deduction is limited to such fair market value.

ISSUE


How is the amount of the charitable contribution deduction under section 170 of the Internal Revenue Code determined under the circumstances described below?

FACTS


W , a company located outside the United States, is a wholesale distributor of art books. Its annual catalogue lists the retail prices of its art books (including "limited editions") and the volume discounts available. The volume discounts are very substantial and range as much as 75 percent off the listed retail prices.

Under the law of the foreign country in which W is located, no retail seller may sell a book for which a list price has been established at less than such list price for a period of three years after publication. There are no restrictions, however, on the trade discounts that may be given by a wholesaler. The retail market in the United States for the books distributed by W is insubstantial and the price at which books may be sold in the United States is not governed by the law of the foreign country.

P , a United States person unrelated to W , promotes on a commission basis the sale of W 's books in the United States by contacting high tax bracket individuals, advising them of the availability of the "limited edition" art books on a quantity discount basis, and apprising them of the "federal income tax advantages" of purchasing the books at a discount and then contributing them to charitable organizations in the United States. The individuals sought by P are those who can purchase the books in sufficient quantity to warrant a 75 percent volume discount, but who are otherwise not dealers in books. P represents that for United States income tax purposes the fair market value of the books is their established retail price in the foreign country.

In 1978, P contacted B , a United States taxpayer who agreed to purchase books listed in the catalogue directly from W. B purchased 100 books with a list price of 100x dollars per book for 2,500x dollars, or 25x dollars per book. W warehoused the books for just over 12 months at no additional charge. Shortly before the expiration of the 12-month period, B , for a nominal charge, received a list of charitable organizations for which use of the books would be related to the organizations' exempt purposes and that were likely to accept donations of books. B selected the proposed recipients and W mailed the books to the charitable donees on B 's behalf. P represented that B was entitled to claim a charitable deduction in the amount of the retail list price for the books in the foreign country.

LAW AND ANALYSIS


Section 170 of the Code provides, subject to certain limitations, a deduction for contributions and gifts to or for the use of organizations described in section 170(c), payment of which are made within the taxable year.

Section 1.170A-1(c)(1) of the Income Tax Regulations provides that if a charitable contribution is made in property other than money, the amount of the contribution is the fair market value of the property at the time of the contribution reduced as provided in section 170(e)(1) of the Code and section 1.170A-4(a) of the regulations.

Section 1.170A-1(c)(2), of the regulations provides, in part, that fair market value is the price at which property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or sell and both having reasonable knowledge of relevant facts.

The question of the fair market value of property donated to charitable organizations is a factual one for which the taxpayer has the burden of proof.

Section 1.170A-4(a)(1) of the regulations provides that section 170 (e)(1) of the Code requires that the amount of a charitable contribution of "ordinary income property" be reduced by the amount of gain that would not have been recognized as long-term capital gain if the property had been sold by the donor at fair market value at the time such property was contributed.

Section 1.170A-4(b)(1) of the regulations provides that the term "ordinary income property" means property on which any of the gain would not have been long-term capital gain if the property had been sold by the donor at its fair market value at the time of its contribution. The term "ordinary income property" includes, for example, property held by a donor primarily for sale to customers in the ordinary course of the donor's trade or business.

Under section 170(e)(1) of the Code and the corresponding regulations, the determination whether property contributed to charity is ordinary income property will be made as if each contribution were a sale. Thus, even though a donor is not otherwise engaged in a trade or business, the donor's contribution activity may be tantamount to the activity of a dealer selling property in the ordinary course of a trade or business. Under such circumstances, the items contributed would be treated as ordinary income property. See Rev. Rul. 79-256, page 105, this Bulletin.

The list price maintained by the law of the foreign country is insufficient in itself to establish the fair market value of the books in this country and thus a charitable deduction in that amount would not be allowed without additional evidence. Moreover, there is no certainty that B , the donor, would be allowed a deduction even in an amount equal to B 's cost of the books. For example, if books in this case having a list price of 100x dollars are sold to B for 25x dollars, but can be proven to have a fair market value in this country of only 10x dollars, they will entitle B to a deduction of only 10x dollars if donated to a charitable organization.

HOLDING


The taxpayer's activity in this case is tantamount to the activity of a dealer selling books. Thus, the books are considered ordinary income property under section 170(e) of the Code. Therefore, if the proven fair market value of the books exceeds the taxpayer's basis for them, the amount of the contribution must be reduced by the amount of gain that would not have been recognized as long-term capital gain if the books had been sold by the donor at their fair market value at the time of their contribution.

Furthermore, if the fair market value of the books contributed to charitable organizations under the circumstances described above is proven to be equal to or less than the taxpayer's basis for the books, the amount of the charitable contribution deduction is limited to such fair market value.




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