Charitable Contributions and tax regulation
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A corporation can claim a deduction, with certain limits, for any charitable contributions made in cash or other property. To be deductible, the donation generally must be prepared to or for the use of community chests, funds, foundations, corporations, or trusts organized and operated only for religious, charitable, scientific, literary, or educational purposes or to adopt national or international amateur sports competition, or for the prevention of cruelty to children or animals, or other charitable organizations (§501(c)(1); §170(c)(2);§501(c)(3)).
Note: A deduction is not allowed if any of the net earnings of an organization that receives the contribution are used for the benefit of any private shareholder or individual.
Timing of Deduction
An entity using the cash method of accounting may deduct contributions only in the year paid (§170(a)(1)).
A company using the accrual method of accounting can choose to deduct contributions for the tax year they were authorized by the board of directors, but not paid during that year, if payment is made within 2-1/2 months after the close of that year. The choice is made by reporting the donation on the corporation return for the tax year. A copy of the resolution permitting the contribution and a declaration stating the board of directors adopted the decision during the tax
year must accompany the return. The president or other principal officers must sign the statement (Reg. §1.170A-11(b); §170(a)(2)).
A corporation cannot deduct contributions that total amount more than 10% of its taxable income (§170(b)(2)). Taxable income for this purpose is figured without taking into account the following:
(1) The deduction for contributions;
(2) Deductions for dividends received and dividends paid;
(3) Any net operating loss of money will be carryback to the tax year; and
(4) Any capital loss of money carryback to the tax year (Reg. §1.170A-11(b)).
Carryover of Excess Contribution
Any charitable contributions made during the year that are more than the 10% limit can, with certain restrictions, be carried over to each of the following five years. Any excess not used up within that period is lost.
A carryover of excess contributions is not deducted in the carryover year until after any donation made in that tax year (subject to the 10% limit) have been deducted. A carryover of excess contributions is not allowed to the extent that it increases a net operating loss carryover in a succeeding tax year (§170(d)(2); Reg. §1.170A-11(c)(2)).
Charitable Contributions of Computer Equipment – Expired
Charitable donation by corporations is limited to 10% of the corporation’s taxable income. However, an augmented charitable deduction was available to C corporations that contributed computer technology and equipment to an eligible donee (170(e)).
The deduction by a corporation for charitable contributions of computer technology and equipment generally was limited to the corporation’s basis in the property. However, certain corporations could claim a deduction more than the basis for a qualified computer contribution. Such enhanced deduction for qualified computer contributions expired for contributions made after January 1, 2010.
For 2010 and 2011, TRUIRJCA extended the enhanced deduction for computer technology and equipment to contributions made before January 1, 2012. Since 2012, as of this writing, Congress has not reinstated this provision.
Collapsible Corporations – §341 (Repealed)
Generally, the complete liquidation of a corporation is treated by the shareholders as a sale of their stock, producing capital gains or losses (§331(a)(1)). Similarly, when a shareholder sells his stock to another person, or it is redeemed by the corporation under one of the safe harbors of §302 or §303, a capital gain or loss will be recognized.
Formerly, §341 converted capital gain on the sale or liquidation of a corporation into ordinary income. However, this provision was repealed by the 2003 Bush Tax Act (HR 2).
The collapsible corporation rules of §341 denied capital gains treatment to certain sales and distributions where the profit was attributable to ordinary assets. A corporation was collapsible if:
(1) It was formed or availed of principally:
(a) To manufacture, construct or produce property;
(b) To purchase property that it holds for less than three years and that, in its hands is:
(i) Inventory or stock in trade;
(ii) Property held for sale to customers in the ordinary course of business,
(iii) Depreciable or real property used in a trade (except
property described in (i) and (ii)), or
(iv) Unrealized receivables or fees about the preceding properties or services (“§341 assets”); or
(c) To hold stock in an entity made or availed of principally for the
purposes in (a) or (b); and
(2) Intending to the sale or exchange of its stock (through liquidation or
otherwise) before the corporation has realized the requisite amount of taxable income to be derived from the property (§341(b)(1)).
A corporation was presumed collapsible if the fair market value of its “§341
(a) 50% or more of the value of all its assets (excluding cash, government
obligations, obligations held as capital assets, and stock in other corporations) and
(b) 120% or more of the adjusted basis of its “§341 assets” (§341(c)).
A shareholder’s capital gain from the following transactions as ordinary income
if the corporation was “collapsible”:
(1) A sale or exchange of stock in the corporation;
(2) A distribution in complete or partial liquidation of the corporation if the
distribution was treated as in part or paying the total in exchange for the stock;
(3) A not liquidating distribution where the excess of the distribution over
The basis in the stock was treated as gain from the sale or exchange of property (§341(a)).
Personal Holding Companies – §541
Sections 541 through 547 (or rather, their predecessors) were enacted to eliminate the tax “abuses” of incorporated stock portfolios, artistic talents, etc.
Although these Sections are not specifically aimed at personal service corporations, it would appear that the danger of having the personal holding company label applied is most present to professional and other services. To have the personal holding company label applied to it, a corporation must meet the following:
(1) At least 60% of the corporation’s “adjusted ordinary gross income” must be personal holding company income; and
(2) More than 50% of the net value of stock must be owned directly or indirectly, by five or fewer persons.
A penalty tax of 20% (in 2017) applies to the corporation’s undistributed personal holding company income in addition to the ordinary companies income tax. Therefore, a corporation that would be defined as a personal holding company can avoid the penalty tax by simply distributing to its shareholders all of its holding company income. The personal holding corporation is not subject to the accumulated earnings tax problems that plague other types of corporations.
The reason that the status of the personal holding company is such a threat to professional corporations is that, among other items of “personal holding company income” such as rent, royalties, dividends, interest, annuities, etc., income from personal service contracts is included.
Income derived by a professional corporation under a personal service contract is construed as personal holding company income if:
(1) The professional who is to perform the services is named in the contract (oral or written) or can be so called by some person other than the corporation; and
(2) The designated professional owns directly, indirectly, or constructively, 25% or more of the value of the corporation’s stock at some time during the taxable year (i.e., any time during the taxable year).
If a client or patient can name the professional who is to perform services for them, then personal holding company income can result. A possible solution to this is to make it clear to the client, and state in the corporate bylaws and employment contracts that only the corporation has the right to name the professionals who are to render services.
Avoidance of PHC Status
There are other ways to defeat the personal holding company status. For example, if a named shareholder owns less than 25% of the stock, then there’s no problem. A corporation with five 20% shareholders is safe. Even if a 25% stockholder exists, there is no problem if this individual is not named under a contract to perform personal services. S corporations will always avoid this problem since all of their income is currently distributed and, therefore, not subject to the penalty tax.