In the recent case of Joseph Mohamed Sr., et. ux. v. Commissioner, T.C. Memo 2012-52, the U.S. Tax Court determined that a taxpayer and his spouse, after making almost $20 million worth of charitable real estate gifts to qualified charitable recipients, could not take the $18.5 million tax deduction for the gifts.
The reason is a failure to follow Internal Revenue Code regulations and use a qualified appraiser. As this case illustrates, in charitable contributions of this size, if such steps are not properly undertaken, there can be a complete loss of the deduction.
Tax Rules
Taxpayers are generally allowed a charitable contribution deduction when a gift is given to a qualified charitable recipient. Additionally, the IRC requires a qualified appraisal undertaken by a qualified appraiser. As defined by Internal Revenue Service regulations, a qualified appraiser has earned certain appraisal designations or has met certain educational requirements. The appraiser also needs to regularly perform the kind of appraisals for which the individual client is paying and meet certain other requirements, as noted by the Secretary of the Treasury in IRC Section 170.
The Case
Joseph Mohamed Sr., a real estate broker and a certified real estate appraiser, and his wife set up a charitable remainder trust in which the taxpayer receives a current deduction for the property as to the gift portion. After setting up the trust, the Mohameds donated a number of properties in 2003, worth millions of dollars. Mohamed filled out his own tax return and completed a tax form for noncash charitable contributions.
Mohamed noted that he did not read all of the form’s instructions and he made some mistakes on the form. He also claimed substantial deductions, including about $230,000 for one property and over $3.6 million on another property. Mohamed said that he claimed a lower value than the actual value of the properties, because he did not want to risk “overvaluing” the properties. The taxpayers signed the IRS forms but did not comply with all of the instructions.
In 2004 the Mohameds donated another property, a shopping center, to the CRT. The taxpayer filled out IRS form 8283 to make the contribution but did not complete the entire form, leaving certain parts of it blank. He claimed a deduction of almost $500,000. He did not sign the declaration as to the gift, which is required by the IRC.
Mohamed did not include appraisal information and did not have a qualified appraisal from a qualified appraiser. He said he supported income and expenses on the property and the capitalization rate utilized to compute the fair market value of the property.
The IRS audited the Mohameds’ 2003 return. At that time, the taxpayer engaged appraisers to perform independent appraisals of some of the properties. Some of the independent appraisals came back with valuation determinations that were very close to the positions that Mohamed held. Mohamed’s total appraisal value was a little more than $18.5 million; the independent appraisals showed a little more than $20.2 million.
Despite the fact that the Mohameds claimed a deduction that was less than the independent appraisers determined, the tax court denied the deduction. The commissioner held that the Mohameds made many mistakes on the forms that they filed and that the forms were incomplete.
The court noted that IRC Section 170 states the requirements to gain the tax deduction and specifically requires substantiation and steps to undertake when one is making a substantial charitable deduction. The taxpayer did not properly comply with the regulations. (The general rule is that when the deduction exceeds $5,000 with property as opposed to cash, the substantiation to support the same is necessary.)
The court also stated that the qualified appraiser cannot be the taxpayer but must be an independent appraiser. One of the threshold requirements is that the appraisal summary needs to be signed by the appraiser. The court held that the appraisals were not qualified appraisals because Mohamed did the appraisals himself. Further, he attached statements that were not proper appraisal summaries, and the independent appraisals that were undertaken came too late to meet the requirements of the Treasury regulations. The court concluded that the regulations were valid and there was not substantial compliance.
The court found that “the Mohameds made several of their own mistakes” and concluded that the mistakes were significant. “We recognize that this result is harsh: a complete denial of charitable deductions to a couple that did not overvalue, and may well have undervalued, their contributions….”
The court said that the problems of the Mohameds were so great, and the regulations were so specific to allow a taxpayer to claim a charitable deduction, that “we cannot in a single sympathetic case undermine those rules.”
This case illustrates that taxpayers must be very careful to comply with the requirements in the law for charitable deductions. A “good faith attempt” at a reasonable valuation and an altruistic goal to give to charity are not sufficient to support a deduction.
Mark Lee Levine, CCIM, JD, LLM (tax), is a professor and past director of the Burns School of Real Estate and Construction Management, Daniels College of Business, University of Denver. Contact him at mlevine@du.edu.
– See more at: http://www.ccim.com/cire-magazine/articles/323220/2013/09/deduction-denied#!