The legal principles governing our decision are well established, and the parties focus their dispute on competing valuation methodologies. We briefly review the relevant law, addressing some factual prerequisites along the way.
The requirements for a charitable deduction are governed by statute. Taxpayers may deduct from their return the verifiable amount of charitable contributions made to qualified organizations. 26 U.S.C. § 170(a)(1). Everyone agrees that the Village of Chenequa and its volunteer fire department are valid recipients of charitable contributions as defined under section 170(c). To qualify for deduction, contributions must also be unrequited—that is, made with “no expectation of a financial return commensurate with the amount of the gift.” Hernandez v. Comm’r of Internal Revenue, 490 U.S. 680, 690 (1989). The IRS and the courts look to the objective features of the transaction, not the subjective motives of the donor, to determine whether a gift was intended or whether a commensurate return could be expected as part of a quid pro quo exchange. Id. at 690–91.
The Treasury regulations implement the details of section 170, instructing taxpayers how to prove a deduction to the IRS and how to value donated property using its fair market value. Under section 1.170A–1(c) of the regulations, fair market value is to be determined as of the time of the contribution and under the hypothetical willing buyer/willing seller rule, wherein both parties to the imagined transaction are assumed to be aware of relevant facts and free from external compulsion to buy or sell. 26 C.F.R. § 1.170A–1(c). As with the question of the purpose of the claimed gift, fair market value requires an objective, economic inquiry and is a question of fact.
We can assume, as the record suggests, that the Rolfs were subjectively motivated at least in part by the hope of deducting the value of the demolished house on their tax return. Applying the objective test, however, we treat their donation the same as we would if it were motivated entirely by the desire to further the training of local firefighters. Objectively, the purpose of the transaction was to make a charitable contribution to the fire department for a specific use. ... The Tax Court found ... that when the transaction was properly evaluated, the Rolfs (a) received a substantial benefit in exchange for the donated property and (b) did not show that the value of the donated property exceeded the value of the benefit they received. We also agree with these findings. There was no net deductible value in this donation in light of the return benefit to the Rolfs.
A charitable contribution is a “transfer of money or property without adequate consideration.” United States v. American Bar Endowment, 477 U.S. 105, 118 (1986). A charitable deduction is not automatically disallowed if the donor received any consideration in return. Instead, as the Supreme Court observed in American Bar Endowment, some donations may have a dual purpose, as when a donor overpays for admission to a fund-raising dinner, but does in fact expect to enjoy the proverbial rubber-chicken dinner and accompanying entertainment. Where “the size of the payment is clearly out of proportion to the benefit received,” taxpayers can deduct the excess, provided that they objectively intended it as a gift. Id. at 116–18 (...). In practice then, the fair market value of any substantial returned benefit must be subtracted from the fair market value of the donation.
This approach differs from that of the Tax Court in Scharf v. Comm’r of Internal Revenue, T.C.M. 1973-265, an earlier case that allowed a charitable deduction for property donated to a fire department to be burned. In Scharf, a building had been partially burned and was about to be condemned. The owner donated the building to the fire department so it could burn it down the rest of the way. The Tax Court compared the value of the benefit obtained by the donor (land cleared of a ruined building) to the value of the public benefit in the form of training for the firefighters, and found that the public benefit substantially exceeded the private return benefit. Thus, the donation was deemed allowable as a legitimate charitable deduction, and the court proceeded to value the donation using the established insurance loss figure for the building. The Scharf court did not actually calculate a dollar value for the public benefit, and if it had tried, it probably would have found the task exceedingly difficult. Although Scharf supports the taxpayers’ claimed deduction here, its focus on public benefit measured against the benefit realized by the donor is not consistent with the Supreme Court’s later reasoning in American Bar Endowment. The Supreme Court did not rely on amorphous concepts of public benefit at all, but focused instead on the fair market value of the donated property relative to the fair market value of the benefit returned to the donor. 477 U.S. at 116–18. The Tax Court ruled correctly in this case that the Scharf test “has no vitality” after American Bar Endowment. 135 T.C. at 487.
With this background, the decisive legal principle for the Tax Court and for us is the common-sense requirement that the fair market valuation of donated property must take into account conditions on the donation that affect the market value of the donated property. This has long been the law. SeeCooley v. Comm’r of Internal Revenue, 33 T.C. 223, 225 (1959) (“property otherwise intrinsically more valuable which is encumbered by some restriction or condition limiting its marketability must be valued in light of such limitation”). ...
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