Ultimate Regs Zap $10,000 Annual SALT Limitation Workaround

The Inner Income Service simply issued remaining rules (remaining regs) which, in keeping with the proposed rules (proposed regs) issued final 12 months, foreclose utilizing charitable contributions as a workaround to avoid the restrictions on state and native taxes (SALT). The Joint Committee on Taxation estimated that the limitation on state and native tax deductions, together with sure different reforms of itemized deductions, would increase $668 billion over 10 years. The SALT limitation supplied a big a part of the funding for different tax cuts created underneath the Tax Cuts and Jobs Act. So, the IRS needed to have been anticipated to guard that income stream, and it did. Solely about 5% of taxpayers may have their state earnings tax deduction restricted by the brand new SALT restrictions. However for that 5% of taxpayers affected, the impression might be pricey.

The Act decreased or eradicated most itemized deductions from 2018 to 2026. Itplaced an annual $10,000 ($5,000 for married individuals submitting individually) restrict on the deductibility of SALT funds underneath new Inner Income Code Part 164(b)(6). This new limitation prompted quite a few states and political subdivisions to undertake laws permitting residents to keep away from the brand new $10,000 SALT cap by offering a credit score towards state and native taxes for contributions to sure charitable organizations acknowledged by state and native governments that help authorities features. The aim of such laws was to recast non-deductible SALT funds as contributions that might be totally deductible underneath IRC Part 170(a) (as soon as the brand new doubled commonplace deduction was exceeded).

Discover 2019-54

On Could 23, 2018, the IRS forewarned its intention to get rid of the technique superior by states and political subdivisions to keep away from the SALT cap in Discover 2018-54. The discover indicated that the steerage to be issued underneath the proposed regs could be restricted to contributions to newly created state or native managed charities shaped in response to the SALT cap, versus contributions in reference to these preexisting tax credit score applications throughout the nation meant to help a wide range of charities and academic organizations which are unbiased of any state or native authorities management. Sadly, the broad method in each the proposed and remaining regs isn’t restricted in that method.  

Proposed Regs

Prop. Reg. 1.170A-1(h)(Three)(i) supplied a flat-out rule, relevant to each newly created and preexisting tax credit score applications, that “if a taxpayer makes a fee or transfers property to or for using an entity listed in part 170(c), the quantity of the taxpayer’s charitable contribution deduction underneath part 170(c) is decreased by the quantity of any state or native tax credit score that the taxpayer receives or expects to obtain in consideration for the taxpayer’s fee or switch.” The proposed regs didn’t differentiate between new legal guidelines that might allow residents to contribute to a government-run charity and acquire a tax credit score and preexisting applications during which states present tax credit for contributions to charities or instructional establishments. 

The idea underlying this place was “that when a taxpayer obtain or expects to obtain a state or native tax credit score in return for fee or switch to an entity listed in part 170(c), the receipt of this tax profit constitutes a quid professional quo profit which will preclude a full deduction underneath Part 170(a).”

De Minimus Exception

The proposed regs supplied a de minimis exception underneath which the quantity of a state or native tax credit score doesn’t scale back the in any other case accessible charitable earnings tax deduction when the quantity of the credit score doesn’t exceed 15% of the taxpayer’s fee or 15% of the truthful market worth (FMV) of the property transferred. Prop. Reg. 1.170A-1(h)(Three)(vi).

The proposed and remaining regs present that if a taxpayer makes a fee or transfers property and receives a state or native tax deduction (versus a credit score) that doesn’t exceed the quantity of the taxpayer’s fee or the FMV of the property transferred, there’s no discount within the charitable deduction underneath Part 170(a).  Reg. 1.170A-1(h)(Three)(ii)(A). 

Ultimate Regs Prohibit Workarounds

On June 11, 2019, the IRS issued remaining regs (TD 9864) confirming these harsh restriction on state and native workarounds.The ultimate regs apply to quantities paid, or property transferred, after Aug.27, 2018 and make clarifying and technical modifications to the proposed regs. The ultimate regs stay broad in scope and make no distinction between a contribution to a newly shaped state-controlled entity and a contribution to a preexisting unbiased public charity.

If a taxpayer makes a fee, or transfers property, to or for using an entity described in Part 170(c), and the taxpayer receives, or expects to obtain, a state or native tax credit score in return for such fee, the tax credit score constitutes a return profit to the taxpayer, or quid professional quo, lowering the taxpayer’s charitable contribution deduction.  Reg. 1.170A-1(h)(Three)(i). 

Instance: A person, makes a fee of $1,000 to X, an entity described in Part 170(c). In trade for the fee, A receives or expects to obtain a state tax credit score of 70% of the quantity of A’s fee to X.  A’s charitable contribution deduction is decreased by $700 (zero.70 x $1,000). Thus, A’s charitable contribution deduction for the $1,000 fee to X could not exceed $300.

The ultimate regs embody the identical de minimis exception that was within the proposed regs. A state or native tax credit score that doesn’t exceed 15% of the quantity of the contribution isn’t a quid professional quo profit and received’t scale back the taxpayer's charitable contribution deduction. Reg. 1.170A-1(h)(Three)(vi), Instance 2.

Additional, the ultimate additionally make clear that the 15% exception applies if “whole quantity of the state and native tax credit,” that's, the sum of such credit, acquired, or anticipated to be acquired, doesn’t exceed 15%  of the taxpayer’s fee or 15% of the FMV of the property transferred by the taxpayer. 

The ultimate regs additionally retain the rule within the proposed regs taxpayer typically isn’t required to cut back its charitable contribution deduction on account of its receipt of state or native tax deductions (versus credit).  The ultimate regs retain the exception to this rule within the proposed regs for “extra state or native tax deductions.”  Reg. 1.170A-1(h)(Three)(ii)(B). 

Moreover, the ultimate regs retain the availability within the proposed regs whereby the restrictions apply to funds made by a trustor a decedent’s property, in figuring out its charitable contribution deduction underneath IRC Part 642(c).  Treas. Regs. 1.170A-1(h)(Three); Treas. Regs. 1.642(c)-Three(g), relevant to funds of gross earnings after Aug. 27, 2018.   Trusts and estates could qualify for a charitable contribution deduction underneath Part 642(c). This requires that the situations of that part are met, together with that the quantity paid is from gross earnings, paid pursuant to the phrases of the governing instrumen, and is for a objective laid out in Part 170(c).   Thus, the identical quid professional quo guidelines underneath Reg.  1.170A-1(h)(Three) apply when a belief or property makes a charitable contribution leading to state or native tax credit score in return for the contribution.

Protected Harbor

On the identical date that TD 9864 was issued, the IRS issued Discover 2019-12, saying that proposed regs might be issued to offer a secure harbor for people who make a fee to or for using an entity described in Part 170(c) in return for a state or native tax credit score.  Beneath the secure harbor, a person who itemizes deductions and who makes a fee to a  Part 170(c) entity in return for a state or native tax credit score could deal with as a fee of state or native tax for functions of  Part 164 the portion of such fee for which a charitable contribution deduction underneath Part 170 is or might be disallowed underneath remaining regs.  

Restrictions on State and Native Governments

The ultimate regs prohibit current state and native authorities efforts in search of to avoid the SALT limitation, their utility additionally extends to preexisting applications during which state and native tax credit have been supplied for donations to sure group organizations with the obvious consent of the IRS. Taxpayers have for years been claiming charitable contribution deductions however the tax credit supplied in return. Subsequently, though the impetus for his or her issuance was current  legislative efforts to keep away from the SALT cap, the purview of the ultimate regs extends to preexisting tax credit score applications geared toward encouraging donations to varied charitable and academic establishments which have come to depend on such applications for help and that now could also be in jeopardy due to the elimination of the charitable deduction that traditionally has been accessible on this context.