Filed under: Arts & Culture, Not-for-Profits
It is the season for membership renewal. Many individuals are renewing their memberships in local art museums, the zoo, aquariums, or other charitable organizations providing member benefits. The questions for members and organizations alike are:
- What is the value of the membership?
- Is the membership tax deductible? and
- Can membership donations be recommended out of a Donor Advised Fund (DAF)?
These are all excellent questions; not all of them are tax questions. The following is a breakdown of the questions and recommendations:
Valuing Return Benefits
Treasury Regulations require measurement of return goods and services provided to donors in exchange for charitable contributions. Membership benefits are considered insubstantial if the benefits provided in exchange for an annual payment of $75 or less (per person included in the membership) consist of annual recurring rights or privileges such as:
- Free or discounted admissions to the organization’s facilities or events;
- Discounts on purchases from the organization’s gift shop;
- Free or discounted parking;
- Free or discounted admission to member-only events sponsored by the organization, where a per-person cost (not-including overhead) is within the “low-cost articles limits for the year,” ($11.10 for 2019).
These are generally the types of benefits associated with a “membership donation” made to an artistic or cultural organization such as a museum, zoo, aquarium, or arboretum. So long as the membership level is $75 or less per person and does not exceed the benefits level, the organization may provide a donor acknowledgment letter for the membership contribution which states, “No goods or services of substantial return value were provided in exchange for your contribution.”
Alternatively, if either the membership solicitation exceeds $75 per person, or the benefits provided exceed the insubstantial threshold, the general rules for determining insubstantial return benefits applies:
- If the fair market value of the benefits received does not exceed the lesser of 2 percent of the payment or $111 (this is the 2019 amount which is indexed annually) the return benefit is insubstantial.
If benefits are more than insubstantial, the organization must describe and value the goods and services provided in exchange for the charitable contribution. The donor then is required to reduce the value of the charitable contribution by the return benefit received.
Use of Donor Advised Fund (DAF)
Can advisors to a DAF recommend a distribution from a DAF which results in a contribution as described above? If the donor, or donor advisor, made the membership contribution directly with cash, the charitable organization would have issued a donor acknowledgment letter with the language, “no goods or services of substantial return value were provided in exchange for your contribution.” Therefore, can the donor member also recommend such a gift out of a DAF?
Without carefully considering the language of the tax code, the logical answer would be yes, of course they can. There should be no difference between making such a contribution directly or indirectly. However, with tax law the devil is in the details and words matter. In December of 2017, the IRS issued Notice 2017-73 which daylighted this question and the realization not all DAF sponsors were handling these requests the same way. Section 4967 of the Internal Revenue Code states distributions from a DAF may not provide more than “incidental” benefit to a donor, donor advisor, or related person. “Incidental” and “insubstantial” are different words and have different meanings in the Internal Revenue Code. Unfortunately, incidental is the word Congress used when prohibiting benefits to donors of DAFs. Incidental is also the word used in the self-dealing prohibitions imposed on private foundations.
What is the difference? Incidental equals zero; insubstantial, as described above, is a reasonable amount which is indexed annually. Section 3 of the Notice applies this to the deductible portion of membership fees saying, “the sponsoring organization cannot pay the deductible portion of the membership fee without conferring more than an incidental benefit on the Donor/Advisor.” Although the Notice is not legally authoritative, it tells taxpayers the IRS’ current thinking; DAFs may not be used to make contributions for memberships because, while the memberships may not provide more than insubstantial benefit, they do provide more than incidental benefit, which is prohibited. The Notice goes further to opine donors also may not bifurcate and pay out of pocket for any benefits which provide more than incidental benefits. Again, this Section of the Notice is not currently authoritative. However, it is what the IRS is considering issuing in the form of regulations which will be authoritative.
Practical Recommendations
Charitable organizations soliciting contributions which include member benefits should clearly identify and value member benefits. If the member benefits are insubstantial, clearly indicate this both in the member solicitation and on the donor/member gift acknowledgment letter with the required language. If the value of goods and services exceeds the insubstantial thresholds for the year in any member category, describe the goods and services received and the value provided in the exchange. Clarity in the solicitation and donor acknowledgment helps donors understand the benefits and whether they are allowed a full or partial charitable contribution based upon the amount of the return benefits received.
Donors making “membership contributions” to organizations will want to clearly understand if they are receiving more than insubstantial return benefits. If they are, what are the benefits and what is the value? Most donors are making the contribution because they support the organization and its mission. But others are purely evaluating the value proposition (e.g. How many times will I go to the zoo; is three family entries more or less than an annual membership?). Either way, making an informed decision and obtaining a proper donor acknowledgment letter is ultimately the donor’s responsibility if they are taking a charitable contribution deduction on a tax return. Recommending a distribution out of a DAF which provides more than incidental benefit will result in a penalty on the donor or donor advisor. As a donor, carefully consider whether you want to run this risk before recommending such a distribution prior to the IRS issuing regulations. Currently there are no regulations on the Code which prohibit more than incidental benefit, not insubstantial benefit.
Membership Charities and DAF Sponsors need to be aware of the Notice described above. Currently, there are no Treasury Regulations for the DAF Code sections. Most DAF sponsors have a policy regarding contributions which provide member benefits to the donor, donor advisor, or related persons. However, there is little consistency in the policies across DAF sponsors. If the IRS imposes penalties, it will likely only be after Treasury regulations are issued. In the meantime, sponsors should have a policy, inform donor advisors of the policy, and adhere to the policy through notifications to donors and recipient organizations. If DAF sponsors have an opinion, there is also still time to provide Treasury with additional comments. Soliciting charities should be mindful of the difference between incidental and insubstantial return benefits and only certify they are not providing the level of return benefit which qualifies.
Advisors and return preparers should be on the lookout for charitable contribution oversights. Please ensure donor letters clients receive have the required “no goods or services” language or have a description and value for any donation limiting language. If the donor letter is missing the language, request a revised letter. This is an active area for single-issue IRS examinations. If the donor letter indicates the donation was made through a DAF, throw it away and do not take a deduction. The donor already received a deduction when they contributed to the DAF. They do not receive another deduction for recommending a distribution from the DAF. You may also want to bring up with your client that recommending a distribution from a DAF for a membership contribution is a grey area on which the IRS has issued a notice. Although not currently prohibited, and some DAF sponsors currently allow such distributions, this may not be allowed when Treasury issues DAF regulations.
If you have questions or would like assistance with any of the issues identified in this article, please contact Clark Nuber.
© Clark Nuber PS, 2019. All Rights Reserved