The Tax Court held that a taxpayer was entitled to a charitable contribution deduction only for the amount she actually paid for clothing she bought to donate to charity, rather than for the amount of the original sales price of the clothing at the store she purchased it from.
Estelle Grainger was fond of shopping but not of paying income tax. Seeking to combine her love of shopping with a desire for an income tax cut, she developed in 2010 a charitable deduction scheme that she described at her Tax Court trial as her "personal tax shelter."
Grainger learned at some point that a taxpayer may generally claim a charitable contribution deduction in an amount equal to the fair market value (FMV) of donated noncash property. For charitable contribution purposes, she believed that the FMV of an item offered for sale at a retail store is the dollar amount shown on the item's price tag when the retailer first offers the item for sale. Based on this belief, she concluded that by finding items that had been heavily discounted from their original prices, she could achieve a net benefit simply by buying the items, immediately donating them to charity, and taking a charitable contribution deduction for the amount of their original sales prices.
Virtually all of the property for which Grainger claimed charitable contribution deductions consisted of clothing she had purchased at Talbots that had been aggressively marked down, usually because the clothing was out of season. When she purchased goods at Talbots, the store would give her "points" or "appreciation dividends," which she could use to get additional discounts, which further lowered the price of the clothes she donated.
Grainger's buy-low, donate-high system yielded spectacular results. She reported noncash charitable contributions of $18,288 in 2010, $32,672 in 2011, and $34,401 in 2012. However, after Grainger filed her 2012 return on April 14, 2014, the IRS decided to look into her curiously high charitable contribution deductions and selected her 2012 return for examination.
On her 2012 Schedule A, Itemized Deductions, Grainger reported noncash charitable contributions of $34,401, corresponding to the original retail prices of the donated items. She acquired these items by making an outlay of $6,047 in the form of $2,520 in cash and $3,527 in loyalty points.
Grainger attached six Forms 8283, Noncash Charitable Contributions, to her return. She described her donations as "dresses," "jackets," and other items of clothing, and she listed the donees as various Goodwill donation centers. She described her valuation method as "FMV," by which she presumably meant "fair market value." None of the Forms 8283 were executed by a Goodwill official.
After examining Grainger's 2012 return, the IRS determined she had not used a qualified method to establish the FMV of the donated items, and it reduced her allowable deduction to $2,520, her actual cash outlay. Grainger filed a protest with the IRS Appeals Office, which increased her allowable deduction to $6,117, primarily by increasing her cost basis in the donated items by the value of the loyalty points she had used in purchasing the items. After the IRS issued a notice of deficiency with this adjustment, Grainger filed a petition in Tax Court challenging the IRS's determination.
The Tax Court's decision
The Tax Court held that Grainger was entitled only to the amount of the charitable contribution deduction allowed by the IRS. However, the court based its holding not on Grainger's failure to use a qualified method to determine the FMV of property donated to charity, but rather on her failure to comply with the statutory and regulatory substantiation requirements for charitable deductions.
For all contributions of property (other than money), a taxpayer must maintain reliable written records that include the name and address of the donee, the date and location of the contribution, and a description of the property "in detail reasonable under the circumstances." The taxpayer must also maintain records to establish "the fair market value of the property at the time the contribution was made" and "the method utilized in determining the fair market value."
Under Sec. 170(f)(8), for all contributions valued at $250 or more, the taxpayer must obtain a "contemporaneous written acknowledgment" (CWA) from the donee, which (among other things) must include a description of any property other than cash contributed. A taxpayer cannot take a charitable deduction without a CWA meeting the statute's requirements.
Sec. 170(f)(11)(B) imposes additional substantiation requirements for contributions of property with a claimed value exceeding $500 and more substantiation requirements on top of those for contributions of property with a claimed value exceeding $5,000. In determining whether donations of property exceed these thresholds, "similar items of property" (other than cash and publicly traded securities) must be aggregated. The term "similar items of property" is defined in Regs. Sec. 1.170A-13(c)(7)(iii) to mean "property of the same generic category or type," such as clothing or toys.
Sec. 170(f)(11)(C) states that if property or similar items of property are valued in excess of $5,000, the taxpayer must substantiate the value of the property with a "qualified appraisal of such property." Under Regs. Sec. 1.170A-13(c)(2)(i)(B), the taxpayer must also attach to the return a fully completed "appraisal summary" on Form 8283.
At trial in Tax Court, to substantiate her contributions, Grainger had provided receipts from Talbots, marked-down price tags of purchased items, and receipts from Goodwill. A Goodwill employee had marked the date and location of the donation, the general types of items donated (e.g., clothing), and his signature on the Goodwill receipts. Grainger had also provided a spreadsheet she had prepared, but the court dismissed it as lacking any evidentiary value.
The Tax Court concluded that Grainger had fallen "far short of substantiating noncash charitable contributions in excess of the amount respondent has allowed as a deduction." The court found that because all of her donations were of similar items of property (i.e., clothing), they must be grouped together for purposes of determining the contribution's value, and because she claimed a deduction of $34,401, the substantiation requirements for contributions of property valued at over $5,000 applied.
The court found that she did not meet those requirements because she had not obtained a qualified appraisal, had not included a properly completed Form 8283 with her return, and had not obtained a valid CWA. The court found that her Forms 8283 were not properly completed because they were not executed by an official of Goodwill, the donee organization. The receipts that Goodwill gave her were not a valid CWA because they merely stated that she had donated clothing and did not indicate what specific items of clothing she donated or the number of items she donated on any particular visit.
Although the court denied Grainger any additional deduction based on her failure to meet the substantiation requirements, it found that, if she had, it would have sustained the IRS's determination because she failed to employ a legitimate methodology to determine the donated clothing's FMV. It explained that the familiar willing buyer-willing seller test applied, and that her method of valuing the clothing failed because "[n]o rational buyer having knowledge of the relevant facts would have paid for these items a price higher than the price Talbots was then charging" for the clothing.
As the Tax Court pointed out in a footnote, even if Grainger had been able to prove that under the willing-buyer/willing-seller test that the clothing was worth more than what she paid (and she met the applicable substantiation requirements), it would not have helped her. Sec. 170(e)(1)(A) reduces the allowable deduction by "the amount of gain which would not have been long-term capital gain . . . if the property contributed had been sold by the taxpayer at its fair market value (determined at the time of such contribution)." Because she donated all the clothing to Goodwill shortly after she purchased it, any gain she would have realized by selling the clothing would have been short-term gain, which would have reduced her charitable deduction for the clothing to her cost basis.
Grainger, T.C. Memo. 2018-117