Author: Charles Ciccone
Charitable auctions – live, silent, or online – provide an opportunity to introduce your organization’s mission to the public and generate greater support, as well as attract donations of goods and services and increase revenue. It is also an easy way for a charity to convert a donor’s non-cash property to cash. But, auctions of all varieties bring compliance and risk management issues. For instance, organizations are responsible for recording all fundraising transactions and reporting on their activities – and those that fail to adequately comply may be subject to sizable IRS penalties.
Auctions also bring up many questions regarding allowable deductions. For example, people who donate property typically believe they can claim a charitable contribution income tax deduction for the full fair market value of the contributed property. That is usually not the case. And auction winners often think they can claim a charitable contribution income tax deduction for the full amount of their successful bids – also unlikely, according to IRS rules.
Therefore, ensuring a successful auction – for donors, bidders and your organization – requires careful forethought and management of expectations among all parties involved. The planning process affords an opportunity to build goodwill with all parties by educating them regarding the tax benefits and ramifications of property donations and auction purchases. In fact, this show of good stewardship is essential in adding value to the auction experience and further enhancing your charity’s standing in the community.
Of course, there are some key issues to be aware of and measures to take when creating an auction that falls within IRS guidelines, beginning with deductions.
According to the IRS, “donors who purchase items at a charity auction may claim a charitable contribution deduction for the excess of the purchase price paid for an item over its fair market value.” To do so, the donor must show he or she knew that the value of the item was less than the amount paid. A charity should avoid placing a value on what is donated, or should clearly state that any listed values are for reference purposes only and do not necessarily reflect the legally allowable tax deduction. Determining the appropriate deduction is the responsibility of the donor. The IRS offers this example to show how this requirement may work in practice:
“A charity may publish a catalog, given to each person who attends an auction, providing a good faith estimate of items that will be available for bidding. Assuming the donor has no reason to doubt the accuracy of the published estimate, if he or she pays more than the published value, the difference between the amount paid and the published value may constitute a charitable contribution deduction.”
Regarding donors who provide goods for charities to sell at an auction, the law limits a donor's charitable deduction to the “donor's tax basis in the contributed property and does not permit the donor to claim a fair market value charitable deduction for the contribution.” Internal Revenue Code Section 170 limits the donor’s deduction to the donor’s tax basis because the not-for-profit does not use the donated charity auction items as part of its tax-exempt mission. The IRS considers the sale of the items to be unrelated use “even if the sale raises money for the charity to use in its programs.”
One more note: If a charity sells or disposes of property within three years of the date of donation “for which it previously signed a Form 8283, it must file Form 8282, Donee Information Return, within 125 days of the disposition” and provide a copy to the donor. (Sale of a donated car, boat, or airplane with a value exceeding $500 must be reported to the donor on Form 1098-C or equivalent statement within 30 days of sale.)
From a tax standpoint, the best items to donate are typically “property held for personal use and that is not appreciated in value relative to a donor’s basis in the property.” That’s because other types of donations come with deduction limitations.
For instance, donating tangible personal property that is put to an unrelated use by the charity does not afford the donee a market value deduction for property that has increased in value. Instead, the deduction is the property’s current value “reduced by any long-term capital gain that would have been realized if the donor had instead sold the property at fair market value at the time of the contribution. That means the deduction is limited for a donation of tangible personal property that qualifies for long-term capital gain treatment to the lesser of the property’s current value or tax basis.
- Raffle tickets to benefit a charity or tickets to attend a charity event are never deductible. The IRS considers both to be equal to fair market value received. In addition, many states require registration for raffles.
- Artwork donated by the artist is not deductible by the artist for the fair market value or auction sale price. The deduction to the artist is limited to the cost of materials used to create the artwork.
- The use of vacation homes or timeshares – if a donor gives a charity a week use of a vacation home, for example, for a charity auction, it is not deductable by the donor because it is of a partial interest in the property. In addition, the auction winner may not deduct his/her winning bid since the value is equal to his/her winning bid.
- Celebrity appearances add “no value to what a donor receives unless the celebrity provides a service for which he or she is typically paid.” For instance, a tennis lesson offered by a prominent tennis professional is purchased for $500 even though the pro typically charges only $100 for this service. This purchase would result in a $400 gift to the charity. However, a museum tour offered by that same tennis professional would be deemed to have no value because that is not his/her area of expertise and is not the service for which he/she is normally compensated.
What if the donation is of intellectual property? In this case, the deduction also is limited to the “lesser of fair market value or the donor’s basis.” In some instances, donors may qualify for an annual tax deduction for a portion of income produced by such property for up to 10 years. (Check Form 8899, Notice of Income from Donated Intellectual Property, for details.) Therefore, it may make sense for a donor to sell an item and then donate the cash proceeds rather than give the charity the item itself.
And keep in mind that while professional services are often contributed to charitable organizations – whether as an auction item or for services performed directly for a charity – services are never deductible for federal income tax purposes. Again, donor education is critical to a successful auction.
A word about reporting: Property donated for fundraising and subsequent sale are reported as separate and distinct transactions on Form 990. The difference between the amount realized from the sale of property at auction and the fair value at the time of donation results in a separately reported gain or loss from fundraising events.
When soliciting donations, you should alert donors to Form 8283 requirements. Donors who provide non-cash property worth more than $500 must file IRS Form 8283, Noncash Charitable Contributions, with his or her income tax return for the year of the donation. If the claimed value of donated property exceeds $5,000 the donor, in most cases, also must obtain a qualified appraisal. The appraiser and your charity must sign Form 8283. (For art valued above $20,000, a copy of the appraisal, along with a photo of the artwork, must be attached to the donor’s tax return.)
If the donation is tangible personal property and “it is reasonable to expect that it will be put to a use unrelated to the organization’s exempt purposes, including sale at auction” you should check the “Yes” box in Part IV of Section B on the acknowledgment you provide to the donor.
And what about donations you don’t actually want? Consider developing a formal, written gift acceptance policy outlining precisely the types of items your charity accepts. This way you can avoid being forced to take in items that have issues such as unusual storage requirements or significant handling costs.
The list of other issues is long. Here are just a few concerns to address when planning your auction:
Auctions, particularly in-person events, raise typical risk management concerns, such as those surrounding facilities and equipment. Be sure to address such concerns proactively, as well as inform your insurance carrier that you are holding a fundraising event. Ensure you have adequate coverage in place.
If your charity receives donation of an unusual item for auction sale, learn as much about the item as possible before accepting it and selling it at auction. You may want to add a warranty disclaimer on auction receipts and materials to better protect yourself in the event that the item turns out to be something other than advertised.
Most states require not-for-profits to collect sales taxes on the sale of specified goods, but there are exemptions for some fundraising activities. Prior to your auction, be sure to look into whether you must register and collect state or local taxes on event admissions and auction sales.
Unrelated Business Income Tax (UBIT)
With certain exceptions, an organization that receives at least $1,000 per year of gross income from business activities unrelated to its exempt purposes must file IRS Form 990-T, Exempt Organization Business Income Tax Return, and will be subject to corporation income tax on its net income from such activities. Intermittent activities, such as an annual auction, do not generate UBIT. Continuous fundraising activities – say an ongoing online auction – likely would be subject to UBIT.
However, there are some UBIT exceptions frequently applicable to auctions and other fundraising activities – even those regularly carried on. For example, if an activity is conducted with “substantially all (at least 85%) volunteer labor, or the organization sells merchandise substantially all of which is donated” the activity will not be subject to UBIT.
Also, your charity should assure that all cash or the value of in-kind donations received from event sponsors is treated as a qualified sponsorship payment (QSP) rather than as advertising revenue, which is subject to UBIT. To qualify as a QSP your event-related collateral may include your sponsor’s name, logo or product line, and contact information. In your materials, you also may provide a link to the sponsor’s website, but you may not offer an endorsement or comparative information pertaining to the sponsor’s products or services.
Most states require that charities obtain charitable solicitation licensing before commencing fundraising activities. Some states go further and mandate the not-for-profit disclose its licensed status on solicitation materials and acknowledgments sent to donors.
The information presented here reflects just some of the issues related to charitable auctions and the associated tax concerns. Going deeper into the nuances of charity auctions is beyond the scope of this article. However, your CBIZ Tofias advisor can provide further detail, as well as identify key issues relevant to your specific organization and event.
Whatever type of auction you choose to hold, remember that maintaining community goodwill and credibility is vital. As the auction sponsor you should manage expectations by explaining to donors and bidders upfront the (limited) benefits of contributing to and purchasing from these events. Why? Donors often expect a huge tax deduction by giving an organization something saleable. But the deduction is not always as grand as imagined. Similarly, bidders typically think that any money they shell out to purchase an auction item constitutes a tax-deductible charitable contribution to the sponsoring charity – not so, as previously discussed.
By providing careful donor and, when possible, bidder education you can help keep their expectations realistic and thwart any ill will that could arise if they are not informed of tax-deduction rules in advance.
With so many variables related to the tax implications of charitable auctions, professional advice – for donee, bidder and sponsoring charity itself – is clearly prudent. For questions related to charitable auctions, contact your CBIZ Tofias Not-For-Profit advisor, or you may contact us here.
Charlie Ciccone is a Senior Associate in CBIZ's Tax Group and a member of the company’s Not-for-Profit & Education Practice. He can be reached at 617.761.0613 or CCiccone@cbiztofias.com.