501(c) What?: Decoding Jargon to Determine Deductibility
In the wake of tax season each spring, a new crop of questions may arise concerning clients’ gifts to various organizations and whether those donations qualify as tax-deductible charitable contributions.
Keep in mind that Section 501(c) of the Internal Revenue Code lays out the requirements for organizations to be considered tax-exempt, a status for which an organization must seek IRS approval. Tax exemptions apply to certain types of nonprofit organizations, but status as a nonprofit (which is a state law construct) does not necessarily mean that the organization will be exempt from federal income taxes.
Furthermore, even under Section 501(c), there are different types of nonprofits that are recognized by the IRS as tax-exempt. To qualify under the Internal Revenue Code Section 170 charitable deduction for gifts to Section 501(c)(3) organizations, for example, the recipient must be organized and operated exclusively for purposes that are "charitable, religious, educational, scientific, literary, testing for public safety, fostering national or international amateur sports competition, and the prevention of cruelty to children or animals." "Charitable," according to the IRS, has a very narrow definition.
No doubt, many of your clients not only support 501(c)(3) charities, but also social welfare groups organized under Section 501(c)(4). Examples of social welfare groups include neighborhood associations, veterans organizations, volunteer fire departments, and other civic groups whose net earnings are used to promote the common good. Donations to social welfare groups are tax deductible in only certain cases (e.g. gifts to volunteer fire departments and veterans organizations). Chambers of commerce and other business leagues fall under Section 501(c)(6), and donations to these entities are not tax deductible.
Cautioning clients about crowdfunding
What if your clients make donations to entities that don’t fall under a specific section of the Internal Revenue Code, but feel "charitable" nonetheless because the dollars are helping people in need? Perhaps a client has helped set up a dedicated account at a bank to provide scholarships to the children of an accident victim, or even participated in a GoFundMe fundraiser to help a specific family. These vehicles, along with other crowdfunding platforms, typically do not meet the qualifications for a charitable organization under Section 501(c)(3), usually because the funds are earmarked for a particular person.
The issue is no longer academic or obscure. According to a Lilly Family School of Philanthropy survey, nearly one-third of respondents said they donate at least once a year to a crowdfunding venture, especially responding to family members and close friends in need.
Even with the increase in popularity of crowdfunding and online fundraising platforms, the IRS has only just begun to issue guidance. Consider Private Letter Ruling 2016-0036. Here, the IRS referenced a notion it referred to as "detached generosity" and noted that giving to strangers on a platform such as GoFundMe did not generate the "quid pro quo" that is an automatic knock-out punch for charitable deduction eligibility. Still, the IRS indicated that the absence of a quid pro quo is not enough to cause a transaction to rise to the level of a charitable contribution. Taxpayers and professionals still must pay close attention to the circumstances and facts of each situation.
If you have any questions about the tax deductibility of your clients’ contributions, please reach out to the team at Akron Community Foundation. We are immersed in the world of Section 501(c) every day and are happy to help you navigate the rules. In fact, one of the benefits of establishing a charitable fund at the community foundation is the reassurance that our staff fully vets all potential grant recipients to ensure they are qualified charities. We're also happy to introduce your clients to impactful nonprofits in their areas of interest that they may not be aware of.
To learn more, contact Laura Lederer, senior director of development and advisor relations, at 330-436-5611 or firstname.lastname@example.org. We’re always available to answer your questions about philanthropy or to schedule a personal consultation with you and your clients – all at no cost.
This content is provided for informational purposes only. It is not intended as legal, accounting, or financial planning advice.