In Bargain Sales, Whither Basis?

• DOI: http://doi.org/10.1002/npc.30320
• Published date: 01 May 2017
• Date: 01 May 2017

Bruce R. Hopkins’ NONPROFIT COUNSEL

May 20176THE LAW OF TAX-EXEMPT ORGANIZATIONS MONTHLY

Bruce R. Hopkins’ Nonprofit Counsel DOI:10.1002/npc

After reducing their gross unrelated business income

by deductions, about one-half of all exempt organiza-

tions that were required to file Form 990-T for 2012

reported unrelated business income tax liability. This liabil-

ity increased in 2012 by nearly 18 percent to $429 million.

Charitable organizations represented 35 percent of

all organizations that filed Form 990-T for 2012. These

organizations reported 66 percent of all gross unrelated

business income for the year, claimed nearly 68 percent

of deductions, and accounted for 58 percent of all unre-

lated business income tax liability.

Traditional individual retirement accounts totaled 24

percent of filers, coming in second. Business leagues,

chambers of commerce, and real estate boards (11 per-

cent) and social clubs (11 percent) round out the list of

top filing entities.

More specifically, of the 46,168 unrelated business

tax returns filed for the 2012 tax year, 16,261 were filed

by charitable organizations, followed by 10,872 by indi-

vidual retirement accounts, 5,033 by business leagues

and similar entities, and 4,978 by social clubs. Other

filers were war veterans’ associations (1,643), labor and

agricultural groups (1,495), social welfare organizations

(1,366), state-chartered credit unions (1,199), fraternal

beneficiary societies (1,029), pension and like plans

(821), voluntary employees’ beneficiary associations

(374), benevolent life insurance associations and certain

mutual companies (323), Roth IRAs (284), and title-

holding corporations (275).

Looking at these returns from the standpoint of

unrelated business activity, the primary activities were

real estate rental (8,756 returns), professional and

technical services (7,959), and entertainment and rec-

reation activities (3,799). Other categories of note were

accommodation and food services (2,727), investment

activities of social clubs and the like (2,127), “retail

trade” (1,621), unrelated debt-financed activities other

than real estate rental (952), administrative services

(929), other services (666), passive income activities with

controlled organizations (425), mining (375), exploited

exempt activities (311), agriculture and hunting (215),

and manufacturing (201).

Returns reflecting gross unrelated business income

of $5 million or more (376) accounted for $5.4 million

in deductions. Of the deductions reported as being

directly connected with unrelated business income, the

largest was salaries and wages ($792,383), followed by

advertising costs ($346,706), expenses allocable to debt-

financed income ($299,054), contributions to employee

benefit programs ($266,757), net operating losses

($200,437), interest ($120,182), taxes and licenses

($116,873), and expenses allocable to exploited exempt

activity (other than advertising) income ($65,071).

Deductible charitable contributions totaled $227,492.

Tax-exempt organizations that paid taxes at the

corporate rate filed about 73 percent of all Forms 990-T

filed for 2012. Traditional IRAs; voluntary employees’

beneficiary associations; and pension, profit-sharing,

and stock bonus plans accounted for more than 81 per-

cent of the 13,455 exempt trusts that filed Form 990-T.

For 2012, corporate filers reported $10.7 billion in

gross unrelated business income, $11 billion in deduc-

tions, and $279 million in unrelated business income

tax. Corporate filers reported an increase in gross unre-

lated business income of 4 percent; trust filers reported

a comparable increase of 32 percent. Investment income

represented 90 percent of gross unrelated business

income reported by trusts, compared to less than 12

percent for corporations. [2.1, 24.1] ◆

IN BARGAIN SALES,

WHITHER BASIS?

An S corporation owns business properties through

qualified subchapter S subsidiaries. This corporation

plans to have several of these subsidiaries contribute

certain business properties to a charitable organization.

Some of these properties may be subject to mortgage

debt. The question posed to the IRS was computation

of basis in these properties.

The IRS first noted that a qualified subchapter S

subsidiary is not treated as a separate corporation; all

assets, liabilities, and the like are treated as tax items

of the S corporation (IRC § 1361(b)(3)). If a charitable

deduction is allowable by reason of a sale, the adjusted

basis for determining the gain from the sale is that por-

tion of the basis that bears the same ratio to the basis

as the amount realized bears to the fair market value of

the property (IRC § 1011(b)).

If property is transferred subject to an indebtedness,

the amount of that indebtedness must be treated as an

amount realized for purposes of determining whether

there is a sale or exchange to which the basis rules apply,

even though the transferee does not agree to assume or

pay the indebtedness (Reg. § 1.1011-(a)(3)). Therefore,

on contribution of an encumbered property to a charity,

the transfer is treated as a bargain sale.

The IRS then answered the question: The computa-

tion of basis under the bargain sale rules is determined on

a property-by-property basis if the S corporation donates

business property subject to a mortgage to a charitable

organization (Priv. Ltr. Rul. 201709001). [9.19] ◆

FORM 1023-EZ INFORMATION

NOW AVAILABLE ONLINE

The IRS announced, on February 22, that publicly

available information from approved applications for