Improper Appraisal Disqualifies Income Tax Charitable Deduction
Mohamed, TC Memo 2012-152, RIA TC Memo ¶2012-152, 103 CCH TCM 1814 .
In Mohamed, 1 the Tax Court denied a charitable income tax deduction because the taxpayer failed to obtain a qualified appraisal even though the taxpayer was an appraiser and had valued the contributed property conservatively.
Joseph Mohamed was a real estate broker and a certified real estate appraiser. Joseph and his wife Shirley formed a charitable remainder unitrust (CRUT), and Joseph was the trustee of the CRUT. In 2003 and 2004, the Mohameds donated six properties to the CRUT. To value the real estate contributed, Joseph used an appraisal of the properties that he prepared. This appraisal valued the six properties at approximately $18.5 million, and the court noted that Joseph had valued the properties conservatively. Joseph filled out the couple's tax return himself and included the Form 8283, Noncash Charitable Contributions. Joseph admitted that he had not read the instructions to the Form 8283.
During the audit, the Mohameds hired independent appraisers to value the properties contributed, and the properties were valued at approximately $20.2 million. The IRS initially disputed the value of the properties but later amended its answer to assert that the Mohameds had made several mistakes in filing the Form 8283 for 2003 and 2004, and that these mistakes required that the income tax deduction claimed by the Mohameds be denied in its entirety.
The Regulations under Section 170 provide that with respect to contributions of property greater than $5,000, the taxpayer must obtain a qualified appraisal, attach to the tax return a fully completed appraisal summary, and maintain certain information regarding the property contributed. 2 The Regulations further define a “qualified appraisal.” The most important requirement is that the appraisal be performed by a qualified appraiser who is neither the taxpayer claiming the deduction nor the donee of the property. 3 The court stated that Joseph was not a qualified appraiser as required by the Regulations because he was both the donor of the property and, as trustee of the CRUT, he was also the donee.
The court also held that Joseph had not attached an appraisal summary to the tax returns, nor were the statements that Joseph did attach to the returns an appraisal summary. The Regulations provide that if a taxpayer does not attach an appraisal summary to the return, the taxpayer nevertheless is entitled to a deduction if he or she provides an appraisal summary to the IRS within 90 days of the request. 4 However, the underlying appraisal must still be a qualified appraisal completed before the due date of the return, and the appraisal summary must still contain the required information. Joseph could not avail himself of this regulatory relief because he had not obtained a “qualified appraisal” until well after the due date of the returns.
The Mohameds challenged the validity of the Regulations. They contended that the Regulations disallow deductions for verified and substantiated donations, whereas the statute permits the IRS to disallow only unverified donations. The Mohameds claimed that this is arbitrary and capricious because it lets a taxpayer keep some of the deduction if the taxpayer follows the procedure but overvalues the donation, but takes away the entire deduction of a taxpayer who accurately values the donation but fails to follow the procedure. The court held that the Regulations were valid and a reasonable interpretation of legislative intent and not arbitrary or capricious.
In upholding the validity of the Regulations, the court held that clear legislative intent can be found in section 155 of the Deficit Reduction Act of 1984 (DEFRA). This provision specifically commanded the IRS to issue regulations under Section 170(a)(1) to require taxpayers to get a qualified appraisal and attach an appraisal summary to the first return on which the deduction is claimed for all donations of property for which the claimed value exceeds $5,000. It also specified that the appraiser be someone other than the taxpayer or the donee.
Next the Mohameds argued that even if the regulation is valid, and even if they did not strictly comply with the regulation, they still should be entitled to the deductions because they substantially complied with the statutory and regulatory requirements. After reviewing some of the cases involving substantial compliance and charitable contributions, the court stated that these cases make clear that substantial compliance requires a qualified appraisal because a qualified appraisal is statutorily required by DEFRA and its legislative history. The court noted that the cases involving substantial compliance have held that a taxpayer cannot substantially comply if he or she fails to comply with an “essential requirement” of the governing statute. The court held that an “essential requirement” of Section 170(a)(1) and DEFRA section 155 is that the taxpayer obtain a qualified appraisal, so the court could not excuse the Mohameds' failure to do so as substantial compliance.
Finally, the Mohameds argued that the 2003 and 2004 versions of Form 8283 did not indicate that a taxpayer had to get an independent appraisal for contributions worth more than $5,000 and did present conflicting messages about what could be filled out by the taxpayer and what required an appraiser's signature. Although the court was sympathetic to the Mohameds' cause, the court stated that it could not hold the form's failings against the IRS because the authoritative sources of federal tax law are found in the statutes, regulations, and judicial decisions—not in such informal publications.
Having exhausted the taxpayers' arguments without avail, the court held that the Mohameds were not entitled to any charitable deduction for 2003 or 2004. The court recognized that its holding was harsh—a complete denial of charitable deductions to a couple who did not overvalue, and may well have undervalued, their contributions. The court recognized, however, that the problems of misvalued property are so great that Congress was quite specific about what the charitably inclined are required to do to defend their deductions. The court could not undermine those rules, even in a single sympathetic case.
This case reminds us of the necessity of obtaining a qualified appraisal and the dangers of not doing so. It is also a cautionary tale of the risks of not understanding and complying with regulatory requirements and the limits of the doctrine of substantial compliance.
1TC Memo 2012-152, RIA TC Memo ¶2012-152, 103 CCH TCM 1814 .
3Regs. 1.170A-13(c)(5)(iv)(A) and (C).
This article originally appeared in the December 2012 edition of Estate Planning, a monthly periodical directed to estate planning professionals that offers readers the newest and most innovative strategies for saving taxes, building wealth, and managing assets.