Tax Court Rejects IRS Recharacterization of Stock Donation to Donor Advised Fund

(Parker Tax Publishing September 2020)

The Tax Court held that a taxpayer's donation of appreciated stock to a tax-exempt donor advised fund, immediately followed by the donee's liquidation of the donated stock for cash, was a donation of appreciated property and the taxpayer was entitled to deduct the fair market value of the donated stock as a charitable contribution. The court rejected the IRS's position that the transaction should be treated in substance as a redemption by the taxpayer of the stock for cash followed by a donation of the cash proceeds because the court found that, under Humacid Co. v. Comm'r, 42 T.C. 894 (1964), the taxpayer (1) gave the property away absolutely (2) before the property gave rise to income by way of a sale and thus was entitled to a charitable deduction for the value of the stock. Dickinson v. Comm'r, T.C. Memo. 2020-128.

Background

Jon Dickinson was the CFO and a shareholder of Geosyntec Consultants, Inc. (GCI), a privately held company. The GCI board of directors authorized shareholders to donate GCI shares to Fidelity Investments Charitable Gift Fund (Fidelity), a tax-exempt organization under Code Sec. 501(c)(3), through written consent actions in 2013 and 2014. In both consent actions, the board stated that Fidelity "has a donor advised fund program which incorporates procedures requiring [Fidelity] to immediately liquidate the donated stock" and "seeks an imminent exit strategy and, therefore, promptly tenders the donated stock to the issuer for cash." The board authorized a third round of donations at a board meeting by unanimous vote in 2015. After each board authorization, Dickinson donated appreciated GCI shares to Fidelity. Dickinson remained a full-time GCI employee following each donation.

GCI confirmed in letters to Fidelity that its books and records reflected Fidelity as the new owner of the shares. For each stock donation, Dickinson signed a letter of understanding (LOU) to Fidelity, indicating that the transferred stock was "exclusively owned and controlled by Fidelity" and that Fidelity "maintains full discretion over all conditions of any subsequent sale" of the stock and "is not and will not be under any obligation to redeem, sell, or otherwise transfer" the stock. Dickinson received confirmation letters from Fidelity, which explained that Fidelity had exclusive legal control over the contributed stock. Shortly after each donation, Fidelity redeemed the GCI shares for cash.

Dickinson and his wife claimed a charitable contribution deduction on their joint income tax return for each year stock was donated to Fidelity. The IRS issued a notice of deficiency to the Dickinsons after determmining they were liable for tax on the redemption of the donated GCI shares. According to the IRS, Dickinson's donation was in substance a redemption of the shares for cash followed by a donation of the cash redemption proceeds to Fidelity. The IRS also determined a corresponding penalty under Code Sec. 6662(a) for each year at issue. The Dickinsons petitioned the Tax Court and both parties filed motions for summary judgment.

Under Code Sec. 170 and Reg. Sec. 1.170A-1(c)(1), a taxpayer may deduct the fair market value of appreciated property donated to a qualified charitable organization. Donating appreciated property to a charity allows the taxpayer to avoid paying the tax that would arise if the taxpayer instead sold the property and donated the cash proceeds. Under Humacid Co. v. Comm'r, 42 T.C. 894 (1964), the form of a donation of appreciated property will be respected if the donor (1) gives the property away absolutely and parts with title thereto (2) before the property gives rise to income by way of a sale. The IRS challenged the substance of Dickinson's donation by pointing out that Fidelity regularly redeemed the GCI shares shortly after each donation, according to the what the GCI board understood to be Fidelity's internal procedures. According to the IRS, these facts suggested that Dickinson, GCI, and Fidelity could have arranged the redemptions in advance of the gifts.

Analysis

The Tax Court rejected the IRS's argument and granted summary judgment for the Dickinsons. Applying the first prong of the Humacid rule, the court found that GCI's letters to Fidelity confirming ownership transfer, Fidelity's letters to the Dickinson explaining that Fidelity had "exclusive legal control" over the donated stock, and the LOUs to the same effect all supported Dickinson's claim that he transferred all of his rights in the shares. In the court's view, a preexisting understanding among the parties that the donee would redeem the donated stock did not convert a post-donation redemption into a pre-donation redemption. Furthermore, the court reasoned that neither a pattern of stock donations followed by donee redemptions, a stock donation closely followed by a donee redemption, nor selection of a donee on the basis of the donee's internal policy of redeeming donated stock suggested a failure to transfer all of the donor's rights in the donated stock. The court found that Dickinson's contemporaneous documentary evidence of an absolute gift, and the IRS's failure to assert facts indicating any genuine controversy on this point, lead to the conclusion that Dickinson's donations satisfied the first Humacid requirement.

As for the second Humacid requirement, the court explained that this prong implements the assignment of income doctrine: a taxpayer who has earned income cannot escape taxation by assigning the right to receive payment. If stock is about to be acquired by the issuing corporation via redemption, the shareholder cannot avoid tax on the transaction by donating the stock before receiving the proceeds. According to the court, if a donee redeems shares shortly after a donation, the assignment of income doctrine applies only if the redemption was practically certain to occur at the time of the gift, and would have occurred whether the shareholder made the gift or not. The court noted that in Palmer v. Comm'r, 62 T.C. 684 (1974), the Tax Court held that there was no assignment of income, even though all parties were related and anticipated the redemption before the donation of stock, because no vote for the redemption had yet been taken when the shareholder donated the stock. The Tax Court held that, as in Palmer, the redemption in this case was not a fait accompli at the time of the gift. Even if the parties had rearranged for Fidelity to redeem the stock as the IRS argued, the court said it would not affect the analysis under the second Humacid requirement because Dickinson did not avoid receipt of redemption proceeds by donating the GCI shares.

Next, the court addressed the application Rev. Rul. 78-197, which focuses on a donee's control over the disposition of donated appreciated property. The Tax Court noted that it has not adopted Rev. Rul. 78-197 as the test for resolving anticipatory assignment of income issues and said it would not do so in this case. The court found that the ultimate question, as noted in Palmer, is whether the redemption and the shareholder's corresponding right to income had already crystallized at the time of the gift. The court concluded that, regardless of whether the donee's obligation to redeem the stock may suggest the donor had a fixed right to redemption income at the time of the donation, the IRS had not alleged that Dickinson had any such right in this case, and the IRS's resort to Rev. Rul. 78-197 was therefore unavailing.

For a discussion of deductions for charitable contributions of appreciated property, see Parker Tax ¶84,140.

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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