Assignment-of-Income Doctrine Precludes Taxpayer's Charitable Deduction

(Parker Tax Publishing July 2022)

A district court held that a couple could not deduct the contribution of a 4 percent partnership interest to a nonprofit because the donation was an anticipatory assignment of income. The court also concluded that a donor advised fund packet submitted with the taxpayers' return did not qualify as a contemporaneous written acknowledgement because it was a pre-donation document. Keefer v. U.S., 2022 PTC 187 (N.D. Tex. 2022).

Background

Kevin Keefer and his wife, Patricia, filed for a refund of 2015 income tax they jointly paid. The alleged overpayment resulted when the IRS disallowed the Keefers' charitable deduction for the donation of a 4 percent interest in a limited partnership, Burbank HHG Hotel (Burbank), to the Pi Foundation (Pi), a non-profit corporation. Burbank owned and operated a hotel (the Hotel) and Kevin was a limited partner.

On April 23, 2015, Burbank and Apple Hospitality REIT (Apple), exchanged a nonbinding letter of intent (LOI) for Apple's purchase of the Hotel. On June 5, 2015, Pi sent Kevin a 12-page packet of materials related to establishment of the "Keefer Donor Advised Fund" (the DAF Packet). Kevin signed the DAF Packet on June 8, 2015. The DAF Packet stated that "Kevin . . .hereby transfers as an irrevocable gift to [Pi] . . . the property described in Schedule A attached here to and incorporated as part of this Document." Schedule A described the property as a 4 percent interest in Burbank.

On June 18, 2015, Kevin assigned a 4 percent limited partner interest in Burbank to Pi for the purpose of establishing a donor advised fund (DAF) at Pi. As of that date, Burbank had tentatively agreed on the sale of the Hotel to Apple for $54 million. On July 2, 2015, Burbank and Apple signed a contract for Apple to purchase the Hotel. The contract provided for a 30-day review period for Apple to evaluate the property. The sale closed on August 11, 2015.

To substantiate their donation, the Keefers commissioned an appraisal of the donated partnership interest as of June 18, 2015. The appraisal was performed by Katzen, Marshall & Associates, Inc. (KM) and was prepared and signed by David Marshall (Marshall), a Principal of that firm. The appraisal indicated that its purpose was to estimate "the fair market value of a 4.000% limited partnership interest, subject to an oral agreement, ... in Burbank ... , owned by Kevin." Attached to the appraisal was a "STATEMENT OF LIMITING CONDITIONS" describing the referenced oral agreement as follows: [KM] ha[s] been informed that the Donor and Donee have an agreement that the Donee will only share in the next proceeds from the Seller's Closing Statement. The Donee will not share in Other Assets of the Partnership not covered in the sale.

The Keefers explained that before Kevin transferred the 4 percent partnership interest to Pi, the partnership owed money to the pre-existing partners for undistributed pre-donation earnings as a result of the partnership's responsibility to maintain cash reserves to comply with loan and franchise obligations. Kevin testified that the "oral agreement" referenced in the appraisal was an agreement between the pre-assignment partners. The cash reserves in question, Kevin testified, were reflected on the partnership's balance sheet as "equipment reserves" and "working capital reserves." According to Kevin, the reason for keeping these reserves was so if the Hotel sale didn't go through, the partnership would have the money to make future renovations to the Hotel as required by the franchise agreement.

KM's appraisal concluded that $1,257,000 reasonably represented the fair market value of a 4 percent limited partnership interest in Burbank as of June 18, 2015, with all estimates of value subject to the Statement of Limiting Conditions. The appraisal estimated a 5 percent probability of no sale. On or around September 9, 2015, Kevin received a letter from Pi acknowledging the donation (the Acknowledgment Letter).

The Keefers deducted $1,257,000 as a charitable contribution on their 2015 federal income tax return. Attached to the Form 1040 was Form 8283, Noncash Charitable Contributions, signed by Marshall and listing KM's tax identification number. The Keefers also attached the appraisal, the DAF Packet, and the Acknowledgment Letter. The IRS disallowed the Keefers' charitable contribution deduction. According to the IRS, the Keefers did not have a contemporaneous written acknowledgment (CWA) from the donee organization showing that the DAF had exclusive legal control over the assets contributed. The IRS also pointed out that the appraisal did not include the identifying number of the appraiser.

The Keefers disagreed with the IRS but, in October of 2019, they paid the $507,965 assessment. They filed for a refund of all or part of the $507,965, arguing that their 2015 tax return and its attachments satisfied the CWA and appraisal requirements. The IRS disallowed their refund claim as untimely and the Keefers filed suit in a district court.

In court, the government argued for the first time that the donation was not a charitable donation because it was an anticipatory assignment of income. Applied to a gift of earnings derived from an income-producing asset, the crucial question in assignment-of-income cases is whether the asset itself, or merely the income from it, has been transferred. If the taxpayer gives away the entire asset, with accrued earnings, the assignment of income doctrine does not apply. But it does apply if the taxpayer carves income or a partial interest out of the asset. In Humacid Co. v. Comm'r, 42 T.C. 894 (1964), the Tax Court held that it would respect the form of a donation of appreciated stock shares 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 Keefers argued that their assignment satisfied both these Humacid prongs because there was some uncertainty that the Hotel's sale to Apple would occur and because Kevin assigned to Pi a 4 percent partnership interest including "all rights and interest pertaining" to that interest. The government urged the court to find that the anticipatory assignment doctrine applied because the Hotel sale was "practically certain" by the time Kevin assigned the partnership interest to Pi and the Keefers carved out and retained a portion of the partnership asset by oral agreement.

Analysis

The district court held that the Keefers were not entitled to a refund. The court concluded that the donation was an anticipatory assignment of income and that, independent of the anticipatory assignment of income analysis, the IRS properly rejected the charitable deduction because the Keefers did not obtain a statutorily compliant CWA. However, as a threshold matter, the court found that the IRS erred in denying the Keefers' claim for refund as untimely because the claim was made within two years from the time they transferred the $507,965 to the IRS.

In reviewing the government's argument, the court looked to the second Humacid prong which focuses on whether a legal right to income vested before the donor transferred ownership and control of the asset. The court noted that Keefers executed the agreement to assign the partnership interest to Pi on June 18, 2015, before the Hotel was even under contract. The court found that, even after the contract with Apple was signed, it provided Apple a 30-day review period and until that review period elapsed, Apple had no binding obligation to close and the deal was not "practically certain" to go through. Thus, the court rejected the government's argument that there was no uncertainty about the sale.

The court then considered the first Humacid prong: whether by assigning the 4 percent interest "subject to an oral agreement" the Keefers carved out a partial interest. The Keefers' position, the court observed, was that the partnership's payment of a pre-existing liability to its pre-existing partners was not a "carving out" from the 4 percent partnership interest to Pi any more than the partnership paying a pre-existing light bill is a 'carving out' from some partnership interest. The court rejected this analysis and agreed with the government that because the Keefers' own appraisal took into account their side oral agreement, it showed that they did not donate a true partnership interest but instead gave away 4 percent of the net cash from the sale of one of the partnership's assets - i.e., cash the Keefers would have otherwise received from the Hotel. According to the court, this is a classic assignment-of-income situation.

Finally, the court held that the Keefers did not obtain a statutorily compliant CWA as required by Code Sec. 170(f)(8). The court looked to the Tax Court's decision in Bruce v. Comm'r, T.C. Memo. 2011-153, the only case it could find that dealt with whether a pre-donation document can serve as a CWA. In that decision, the Tax Court held that the document at issue was not a CWA because it did not substantiate a completed donation or one that was legally obligated to occur. The court found that, while the time gap between the pre-donation "acknowledgment" and Kevin's assignment of the interest was not that large, the principle was the same. Based on the plain text and the contemporaneous common meaning of the term "acknowledgment," the intended function of the substantiation requirement, and the text of Code Sec. 170(f)(8), the district court concluded that a CWA must acknowledge a completed contribution or one that is legally obligated to occur and the "acknowledgment" that the Keefers included with their return did not meet those requirements.

For a discussion of the assignment-of-income doctrine, see Parker Tax ¶70,105. For a discussion of the contemporaneous written acknowledgement required for property contributions, see Parker Tax ¶252,510.

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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