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Charitable Contributions, Beware!

As we noted a few months ago, the Pension Protection Act of 2006 made quite a few changes to the laws regarding charitable contributions. It appears that Congress believes that there is way too much "slop" being reported as charitable contributions, and the IRS is only too happy to diligently enforce their revamped distinctions on charitable giving.

Last year, the rules for donating a vehicle changed substantially. While the statistics for the 2005 tax filing year (the first year in which the new rules were put into place) have not yet been published, expect to see a significant drop in the charitable contributions of autos, boats, and the like. It appears that quite a few taxpayers out there were making bogus claims and overstated valuations on donated autos.

In essence, under the new rules, if you donate a motor vehicle to a charitable organization, your deduction is limited to the amount that the charity receives when it sells the vehicle -- regardless of the Kelley Blue Book value. Additionally, the charity must provide you with Form 1098-C reporting the amount of the sale. If you don't receive a Form 1098-C from the charity, it's virtually certain that you'll have no tax deduction. If the charity does not sell the vehicle, but uses it in their charitable activities, then the "fair market value" is allowed for the deduction. Still, the charity is required to issue Form 1098-C to you for your records, and to advise you of how it used (or sold) the vehicle.

Because of these law changes, many charities have gotten out of the auto donation business, and many more taxpayers have decided to sell, rather than donate, their old clunker.

It seems that Congress, encouraged by the 2005 law changes, decided to excise even more questionable charitable contributions on the tax return.

Starting Jan. 1, 2007 for calendar-year taxpayers, you have two sets of rules to follow: those for cash/check contributions of $250 or greater, and those for less than $250. For contributions greater than $250, you must have a written acknowledgement from the charitable organization to be deductible, as per previously existing laws. For those under $250, you still must have some sort of receipt, or you'll receive no deduction. A cancelled check will do, as will a written acknowledgment from the charity. But if you have neither of those, you have no deduction.

That $20 bill that you put in the church plate? Gone. The $5 bill that slipped in the pot of a Salvation Army volunteer? Gone. Make no mistake -- in 2007, records or receipts of charitable contributions are mandatory.

But the biggest change applies to non-cash charitable contributions made after Aug. 17, 2006. Non-cash contributions include those old undergarments, worn-out socks, stained blouses, and other "stuff" you give to a charitable organization. Congress seems to think that most of these items are donated because they have no value whatsoever. I guess they never heard the phrase, "One person's trash is another person's treasure." Nevertheless, any non-cash contribution made after this past Aug. 17 must be in "good used condition or better."

Sadly, the IRS has yet to define the term "good used condition or better," so the taxpayer will have to be diligent in the specifics of the goods donated and their condition. I am strongly recommending that my clients take digital pictures of all clothing and household goods donated, with specific reference to their current condition. Obviously, if it looks good, it'll more likely stand up under review or examination by the IRS. Additionally, if it doesn't work, no deduction will be allowed ... no matter how good it looks. The good old days of simply getting a donation receipt for goods with no specific documentation of what was given, or the condition of the items, are long gone.

A number of very good computer programs can help you with the valuation of your non-cash contributions. However, before you spend the money on one of these programs, why not check out the Salvation Army valuation site? You might find enough help here to claim the appropriate fair value for your donated items. However you decide to do it, you'll be required to be much more careful in the future when it comes to non-cash contributions.

Be aware of the changes ahead regarding charitable contributions. Giving to charity is the right thing to do, and it benefits society as a whole. Don't stop donating just because Congress has ratcheted up the reporting requirements. Instead, understand those requirements, follow them, and know when your tax return is finished that your charitable contribution deductions will stand up to IRS.

When he's not dealing with tax issues, Fool contributor Roy Lewis is a motivational speaker who lives in a trailer down by the river. He understands that The Motley Fool is all about investors writing for investors. You can take a look at the stocks he owns as long as you promise not to ask him which stock to buy. He'll be glad to help you compute your gain or loss when you finally sell a stock, though.

By Roy Lewis (TMF Taxes)
November 17, 2006

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