Note: SCACPA federal tax expert E. Lynn Nichols has looked closely at June 11’s Treasury Decision 9864, which finalizes proposed regulations designed to clarify the relationship between state and local tax credits and federal tax rules for charitable contribution deductions. SCACPA has closely monitored the leadup to these rules and how they affect donations to South Carolina entities such as Exceptional SC and the South Carolina Research Association’s Industry Partnership Fund.
Click here to read reactions from leaders of Exceptional SC and the South Carolina Research Authority.
What seems to be lost in much of the discussion on this topic is the “quid pro quo” rule and the fact that it is that rule that disallows any deduction for a charitable contribution when the taxpayer making that contribution receives some benefit. The prime example is the purchase of a ticket to attend a church dinner for $250. The entire $250 is not deductible because the “donor” got a dinner. Here, taxpayers are receiving a state tax deduction … not a dinner, but the principle is the same.
Then we must deal with an overriding principle in U.S. federal income tax law: A taxpayer cannot get a deduction for more than the amount, or value, of a payment for anything. One cannot deduct a payment for anything more than once. In this case, these payments to state charities can be deducted as a charitable contribution OR as a payment of state and local tax.
An exception is provided for the payment of state and local taxes in connection with a trade or business or an income-producing activity. As an example, ad valorem taxes on property rented to others or used in a trade or business continue to be deductible without limitation
The final rules, T.D. 9864, require individuals making payments to a charitable organization in exchange for a state or local tax credit to reduce their federal charitable contribution deduction by the amount of that credit. But Notice 2019-12, published on June 11, offers a safe harbor for itemizers who are under the $10,000 SALT deduction limit. These taxpayers could elect to treat, as a state tax payment, the portion of their charitable contribution that would be disallowed under the final rule, up to the $10,000 cap. There is also a de minimis rule allowing taxpayers to claim a full deduction if the state tax credit is less than 15% of the contribution. The purpose seems to be to enable taxpayers who itemize but have total SALT payments under $10,000 to treat the disallowed portion of an otherwise-deductible charitable contribution as a payment of state tax.
According to a senior Treasury official, these itemizers otherwise would be worse off making a payment to a charitable organization for which they receive a state tax credit than if they had just paid their state tax directly. This is because they could neither take a federal charitable deduction for the contribution under the quid pro quo rule nor claim the contribution as a SALT deduction because it wasn’t a payment of state tax. The official added that drafters haven’t been thinking of safe harbor in terms of high- and low-tax states, but in terms of equalizing the treatment at the federal level of state tax paid directly to a state government and payments made to a charitable organization in exchange for a credit for state tax owed.