Congressional Unit, White House Seek to Curb Abuses of Charity Tax Breaks

Scrutiny of nonprofit organizations continues to escalate, as President Bush and a powerful Congressional committee urged lawmakers to take action on what they identified as dozens of abuses involving charities and foundations.

While the $2.6-trillion budget President Bush submitted to Congress last week includes a package of tax incentives to help spur charitable giving, the plan also calls for imposing taxes on people or companies that improperly benefit from charity-owned life insurance policies and penalizing charities that fail to enforce conservation easements.

Similar proposals for stepping up enforcement of alleged easement abuses were put forward in a new report from the Joint Committee on Taxation, which identified nonprofit abuses that it says are costing the federal Treasury more than $6-billion a year in lost revenue. The tax committee’s report alleged that donors are taking inflated deductions for gifts of land and other noncash items, and that nonprofit groups are participating in improper tax shelters, making insider deals, and paying excessive compensation and administrative expenses.

The report from the Joint Taxation Committee, whose ideas on how to adjust tax law often shape what becomes law, offered more than a dozen ways to clean up problems at tax-exempt organizations. Among them:

• Sharply reduce the size of the deduction people can claim on their tax returns when they donate land.
• Limit the dollar amount that people can write off for contributions of clothing and other household items.
• Eliminate the deduction people can take for donating a facade easement for their personal residences.
• Subject groups that participate in tax-shelter transactions to much higher taxes than they must pay now.

In an effort to prevent abuses, the tax committee suggests that lawmakers require tax-exempt organizations to undergo a review by the Internal Revenue Service every five years to answer questions about their administrative expenses, insider dealings, compensation arrangements with top officials, and any potential conflicts of interest within their organizations. Similar questions appear on a new Internal Revenue Service form that groups seeking charity status must fill out beginning in May.

Noncash Gifts

Many of the ideas from the president’s budget plan and the Joint Taxation Committee report were raised by the Senate Finance Committee during its comprehensive review of nonprofit organizations during the past year.

The tax committee’s report, however, focuses mainly on one theme: that noncash gifts should be scrutinized more than they are now and not given the same tax benefits as cash and stock donations, where the value of a gift is not in dispute.

The report from the Joint Taxation Committee drew criticism from several tax experts. They say that many of the tax committee’s ideas would discourage legitimate charitable giving and could lead to increased problems in government oversight of charities and foundations.

For example, requiring the IRS to review charities and foundations every five years would “cause a collapse of tax-exempt oversight, in my opinion,” says Marc Owens, a lawyer in Washington and a former director of the IRS’s division that oversees tax-exempt organizations. “The service just doesn’t have the resources to do it.”

For-Profit Status

One of the more controversial suggestions the tax committee makes is a proposal to impose a tax on charities that go out of business or convert to for-profit status. When charities are formed, they must pledge that all of their assets will be used for charitable purposes in perpetuity. If a charity shuts down, or converts to a for-profit entity, as many hospitals have done, it is not uncommon for some of its assets to come under the control of for-profit groups, the report says. The tax committee’s proposal would impose a tax on the assets from charitable organizations that do not get distributed to another charitable group, such as a private foundation related to the new for-profit entity. A similar tax is now imposed on foundations that close their doors.

Changes in the rules governing land donations would help the federal government raise more money than would any of the other tax-committee proposals. If the committee’s proposals were to become law, about $2.5-billion would be realized over the next nine years from curbing deductions for gifts of land, the report says. That revenue would be derived in part from a change the committee suggests in how much donors can write off on their taxes when making gifts of land. The proposal would require donors to limit their deduction on the property they donate to the portion they own outright, rather than the fair market value, as they can do now. For example, if a person donates land worth $500,000 but has paid only $200,000 of the loan she took to buy the property, she could write off only $200,000 on her taxes.

Limiting the amount people can deduct when they donate clothing and household items — and setting $500 as the maximum a household could write off in a year — would help the Treasury raise $1.9-billion in the next nine years, the report says. And modifying the charitable deduction for contributions of conservation and facade easements — including allowing donors to deduct only one-third of the value of an easement for farmland — would help the Treasury raise another $1-billion, the report says.

Conservation Gifts

President Bush’s proposal to penalize charities that fail to enforce conservation easements is not as comprehensive as the tax committee’s ideas. Treasury officials said they are concerned, however, that some charities fail to monitor and enforce the conservation restrictions for which donors claimed charitable deductions. Tightening the rules on easements would help the federal government bring in $96-million over the next decade, the administration estimates.

Another proposal from the president would impose taxes on people or companies that improperly benefit from charity-owned life-insurance policies. Many charities buy life-insurance policies on their donors and sell the interest in those policies to companies, which make money when the donors die. In many cases, the companies get far more money than the charity does, the president said. The proposal would tax those companies that hold charity-owned policies, helping the government raise more than $300-million.

President Bush also proposed a $3.1-billion package of tax incentives intended to spur charitable giving.

The proposals were all ones Mr. Bush had suggested in previous years, including permitting tax-free withdrawals from individual retirement accounts for gifts to charity.

Mr. Bush did not include one key measure that he had put in previous budget proposals — allowing people who do not itemize on their taxes to deduct gifts to charity. A committee that Mr. Bush appointed to consider an overhaul of the tax code is expected to consider whether to promote that idea, senior Treasury officials said.

Including charitable-giving incentives in the budget signals that the president is committed to pressing for passage of a charity bill this year, senior Treasury officials said. However, such a bill has had the president’s backing the past four years but has failed to pass Congress.

A copy of the administration’s budget proposals is available at http://www.treas.gov/offices/tax-policy/library/bluebk05.pdf.

The Joint Taxation Committee report, called “Options to Improve Tax Compliance and Reform Tax Expenditures,” is available at http://www.house.gov/jct.