Partial and eligible charitable donation of a residence
Our partial gift goal here, which tends to be relatively simple, is to transfer an interest in a residence to a qualified charity after your death or after a certain number of years.
Assuming a couple, the retained interest could reflect both lives. Multiple lives in actuarial calculations, of course, reduce the initial charitable deduction measured by remainder valuation (Sec. 170(f)(3)(B)(i), Regs. 1.170A-7(b) (3 )).
The extent of the deduction is affected by the IRS monthly rate under Section 7520. As we write mid-year, this rate has increased in the final months of 2022. The increase in the Section 7520 rate reduced the charitable donation deduction, although it is still in the high interest category (see “Section 7520 Interest Rates,” IRS.gov).
This type of donation will also involve the involvement of a lawyer, but the agreement will likely be a one-time proposition – no annual filings etc. Our topic also does not involve a separate trust, the appointment of trustees and annual tax filings.
Particularly important aspects of our topic are:
- The transfer is not in trust, although the transfer involves less than the full interest of the donor.
- There is an intentional contribution from the partial residual interest (the endorsement).
- The residence can be a co-op apartment if it is used as the donor’s primary residence.
Fair market value measure of deduction depends on age or number of years (Sec. 170(f)(4), Regs. 1.170A-7(c’), Regs. 1.170A-12) . The older person who donates a residual interest gets a larger deduction than the younger donor.
Less common scenarios
The typical arrangement is the remainder to charity after the death of the surviving spouse. It is also possible to make the donation effective at an even later date; for example, not before the death of the couple and one or more children or all the children.
The charitable deduction in such a case is less. Such an arrangement is rare, and the practical arrangements are more delicate given the very long time for transfer to the charity. But less than typical arrangements are possible.
Most donations of this nature donate all of the remaining interest to charity. However, an interesting planning possibility is to split the rest between family and charity. See, for example, an IRS decision where there was a 10% residual interest in a public charity as one of the tenants in common (Rev. Rul. 87-37, 1987-1 CB 295, Sec.170(f)(3)(B)(ii)).
It is possible that significant improvements made to a residence after the donation will result in an additional charitable contribution at that time (PLR 8529014, 4/16/85, found that the installation of a new heating and of air did not result in tangible personal property).
Circumstances involving serious illness may justify an increased tax deduction; that is, the actuarial assumption of life expectancy is not taken into account. The tax rules not only consider this possible scenario, but provide details on when this rule may apply:
“The mortality component prescribed under section 7520 cannot be used to determine the present value of an annuity, income interest, residual interest or survivor’s interest if a person which is a measure of life is terminal at the time of the transaction. For the purposes of this paragraph (b)(3), a person known to be suffering from an incurable disease or other deterioration in physical condition shall be considered terminally ill if there is a likelihood of at least 50% that she dies during the year.
However, if the person survives eighteen months or more after the date of the transaction, that person is presumed not to have been terminally ill at the time of the transaction, unless the contrary is established by clear and convincing evidence. (Reg. 1.7520-3(b)(3); see “Example 2 Terminal Illness”, see also Reg. 25.7520-3(b)(3) regarding gift tax).
Final point of view
Keep in mind the interplay with other planning considerations, including the justification rules governing home valuation.
Many consider itemizing alternate years and concentrating itemized deductions in one particular year. Plan your other itemized deductions, including other charitable donations, with this atypical charitable deduction in mind. Charitable contribution limits and contribution deferrals may affect calculations.
It may also be necessary to consider the property tax rules affecting the transfer. The property tax assessment may not drop immediately despite the (partial) introduction of a charity.
A possible planning opportunity, assuming a sufficient amount of other assets, would be to donate a residual interest in the residence currently, and then also donate the income tax savings from the charitable donation. This could be considered a double “prepayment” assuming the residence will go to his favorite charity on death anyway.