Armanino Blog

When to Donate Appreciated Real Estate to Charity

May 19, 2017

This article is a general overview of the rules for donating appreciated property to charity. It concerns only long-term (held more than one year) capital gain property, not ordinary income generating property such as inventory. The article does not cover these fact patterns: If you are a homebuilder and are thinking about donating one of your lots; if there is debt associated with the property; or lastly, if you have an apartment building where you’ve depreciated the building and improvements, which will make funky things happen tax-wise.*

Say you have an ocean-view lot that you purchased years ago, intending to build a vacation home to enjoy your golden years.  You either paid cash or took a mortgage that has been paid off completely.  Your circumstances have changed, and you no longer wish to keep the lot.  It has greatly appreciated in value, and you will be hit hard with income tax on the capital gain if you sell the lot.  Say you’d also like to make a significant charitable deduction to your alma mater, or perhaps to your church.

You have some options that could not only avoid the tax on the capital gain associated with an outright sale of the lot, but also get you a charitable deduction to help offset the income tax on other income.  First, you can simply donate the lot to a qualified charity. 

For example, say the lot is now worth $100,000.  You originally paid $20,000 for it many years ago.  If you sold it for the $100,000, you would have $80,000 in taxable gain (the $100,000 in proceeds less your $20,000 basis).  Depending on your tax bracket, you might owe 20% of the $80,000 gain in tax, or $16,000.  You might also be subject to the net investment income tax of 3.8%, another $3,040.  In total, your tax bill from the sale could be almost $20,000.

Instead of selling the lot, you donate it to a public charity or a donor advised fund (DAF).  You avoid the tax on the capital gain from the sale ($20,000).  Additionally, you get a charitable deduction of $100,000 on your income tax return, which could offset other income, thereby saving more income tax.  The deduction will require an appraisal to be attached to your income tax return. 

There is an annual cap on the amount of charitable deductions allowed, ranging between 20% and 50% of your adjusted gross income, so if you are thinking this could be a good strategy for you, please consult with your tax advisor, who can run the numbers for you.  Typically, gifts of appreciated assets such as these involve the 30% limitation.  Any deduction in excess of the annual cap carries forward to the next five years, so you have six years to use all of the deduction.

You say you really can’t afford to donate 100% of the lot because you planned on funding some of your retirement with the sale proceeds?  Consider a bargain sale to the public charity or DAF, where the charity does pay part of the fair market value.  Say the lot is now worth $500,000 and you want to donate only $250,000 to the charity.  The charity will pay you $250,000 for the entire property.  This is called a bargain sale, because the charity is paying less than the full fair market value of the property.

You’ll get to apply half of your $20,000 basis (because you sold half of the lot), so you will have to pay income tax (and maybe the net investment income tax) on the partial gain of $240,000 (the $250,000 process less $10,000 basis allocated to the sale).  So, you’ll walk away with $250,000 proceeds, less closing costs, less the taxes, to fund your nest egg.  But, you’ll have a potential charitable contribution of $250,000 as well, which should help offset the gain on the sale and perhaps other taxable income, subject to income limitations.  Again, have your tax advisor run the numbers if this interests you.

What if your lot depreciated instead of appreciated, since it wasn’t in that great a location or was purchased at the height of the real estate market?  Well, don’t bother to donate it to charity… You probably are better off selling the lot to an unrelated buyer who isn’t a charity and taking the loss on your tax return instead.

To learn more about donating appreciated property to charity, consult your Armanino tax advisor.

*The fair market value charitable deduction is reduced by the amount of depreciation allowed or allowable on real property placed in service between 1981 and 1986.  If the apartment building wasn’t purchased or placed in service during this time frame, there is no reduction in the charitable contribution.  Anything considered personal property is subject to the reduction for depreciation recapture; further, if the recipient charity puts the personal property to an unrelated use, the deduction is limited to the donor’s basis.

May 19, 2017

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