Charitable Giving Cases Hit The Courts

According to Leimberg, a private foundation is required by law to distribute 5% of its assets every year for charitable purposes. “Failure to distribute that amount results in a very harsh excise tax,” he said. An outlay from the charity for any other purpose is considered a “taxable expenditure,” and Leimberg noted that this might also be subject to excise taxes.

But the ruling stated that if the expenditure is reasonable and in furtherance of the exempt purposes of the organization, it is not a taxable expenditure.

“So we need to ask ourselves before we sell any life insurance to an organization, is this a reasonable expense?” he explained. “We know if we can justify the reasonableness, we can sell life insurance to charities to help attract, recruit and retain key executives.”

But for some charitable split-dollar arrangements, the tax court ruled in favor of the IRS. Leimberg explained that for years he felt there were a number of reasons why some charitable split dollar arrangements would not work, but in the Addis v. Commissioner case, it was the donors failure to substantiate the gift that revoked the deduction.

The Addis case was a classic charitable split-dollar scheme, where the Addises made charitable gifts and expected those gifts to be used as premium payment for an insurance policy which was part of a split-dollar agreement with the Addis family trust.

The tax court found that the charity provided consideration for the Addises contribution and that it was not accurately substantiated in the receipts from the charity. This resulted in a disallowance of their entire deduction.

“These cases tell us that the IRS is going to find a way to shut down scams,” he said.

According to Leimberg, agents presenting charitable planning ideas to their clients need to ask the question, “Is what the client got back both incidental and insubstantial?”

He explained, “If someone donates $1 million and gets back a plaque that costs $25, thats incidental and insubstantial. But if he gets a car, or money gets shifted into his kids trust–thats not incidental and not insubstantial.”

The final case Leimberg discussed involved the use of life insurance as a charitable gift, where a generous donor “wanted to transfer a term life insurance policy from his own personal life insurance trust to a foundation.”

Leimberg explained that since this individual was the founder of the private foundation, a substantial contributor to the foundation, and a director of the foundation for life, he was considered a “disqualified person” with respect to the charity. In addition, the insured wanted to continue to make gifts in the amount of the premium to the charity.

“He specifically did not require the charity to pay the premium with his contribution, and he gave up the right to make any decisions as director of the foundation vis ? vis the life insurance on his life–he separated himself,” Leimberg said. The tax courts ruled that this would not be considered self-dealing or jeopardize the income tax status of the policy.

“If you dont attach any strings, you wont have any problems,” he said.

Reproduced from National Underwriter Life & Health/Financial Services Edition, November 25, 2002. Copyright 2002 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.