It has become common practice for some businesses to advertise that they will donate a certain percentage of their sales proceeds to altruistic causes or charities. This practice raises some interesting tax issues, such as the following:
- Assuming the amounts that are paid to the various organizations are tax deductible, is the original customer or the business entitled to the deduction?
- Is the amount deductible as a charitable contribution or as an ordinary and necessary business expense, and how does the income tax status of the recipient organization impact this answer?
- How do lobbying expenses paid by the recipient organizations impact the deduction of the expenses?
Chief Counsel Advice 201543013 (CCA), released in October 2015, addressed many of these issues. In the particular situation addressed in the CCA, the recipient organizations were dedicated to a common cause and include tax-exempt charitable and educational organizations under Internal Revenue Code (IRC) section 170, nonsection 170(c) exempt organizations, for-profit entities, and an exempt nonsection 170(c) organization that was engaged in limited political activity.
Which Entity Is Entitled to the Deduction?
The CCA did not definitively answer this question. Instead, it indicated from the facts the taxpayer provided that the funds given belonged to and were donated by the taxpayer recipient, rather than its customers. The CCA also indicated that factual development of this issue is ongoing. In this situation, however, it did not appear that the taxpayer was simply acting as a conduit or an agent for its customers in dispersing the funds on their behalf. While the CCA did not specifically attribute the funds to the taxpayer, its answers to the other questions indicate that the funds were paid by the taxpayer rather than by its customers.
Are the Payments Charitable Contributions or Business Expenses?
The CCA examined this question as it related to each of the various recipient organizations separately rather than to all payments in total. The first category covered payments to tax-exempt charitable and educational organizations under IRC section 170; at issue was whether these payments should be deducted as charitable contributions or as ordinary and necessary business expenses under IRC section 162. A payment to a charitable organization that is directly related to the taxpayer’s business with a “reasonable expectation of financial return commensurate with” the amount paid is deductible as a business expense rather than a charitable contribution [IRC section 162(b), Treasury Regulations section 1.162-15(a), 1.170A-1(c)(5)].
In this case, the CCA concluded that the taxpayer appeared to believe that offering to donate a percentage of its sales proceeds to the various organizations would increase its sales, which would result in a commensurate financial return for its contributions. As a result, these donations would be deductible as business expenses under IRC section 162 rather than as charitable contributions.
Likewise, payments made to exempt organizations that are not IRC section 170 organizations are also deductible as ordinary and necessary business expenses rather than as charitable contributions. The CCA applied the same reasoning (that the taxpayer had a reasonable expectation of commensurate financial return from these payments) regardless of the source of the organizations’ exempt status.
Are Payments to Organizations Engaging in Lobbying Deductible?
The last category that the CCA addressed was recipient organizations that engage in lobbying. Under IRC section 162(e), no business deduction is allowed for amounts paid to influence legislation, participate in any political campaign, influence the general public or segments thereof regarding elections or legislative matters, or directly communicate with an executive branch official in an attempt to influence official actions. This includes efforts to encourage the public to contact members of a legislative body. “Influencing legislation” is defined in Treasury Regulations section 1.162-29(b) as “any attempt to influence legislation through a lobbying communication.” “Lobbying communication” is “any communication (other than those compelled by subpoena or law) with any member or employee of a legislative body or any other government official or employee who may participate in the formulation of the legislation that (i) refers to specific legislation and reflects a view on that legislation or (ii) clarifies, amplifies, modifies, or provides support for views reflected in a prior lobbying communication.”
Under IRC section 6033(e)(1), non-section 170(c) exempt organizations must provide notice to their contributors of the percentage of the donations allocable to these nondeductible expenditures. If no such notice is provided, the taxpayer is nonetheless responsible for determining its business deduction related to donations to these organizations.
Once again, the CCA did not offer a definitive answer as to whether the taxpayer’s contributions to organizations that conduct lobbying were deductible business expenses because the nature and extent of these organizations’ lobbying activities were not clear. The CCA did, however, state that the taxpayer’s contribution to these organizations was not a direct communication with government officials or members or employees of legislative bodies, and therefore was not a lobbying communication.
Simply contributing money to an organization that conducts lobbying activities is not an “activity for purposes of supporting a lobbying communication,” as per the CCA. The examples in the regulations depict more direct support such as research, planning, and coordination. Likewise, it was not clear that the taxpayer was attempting to influence the general public or segments of the public related to specific legislative matters via the recipient organizations. Ultimately, the CCA concluded that the contributions could not be construed as lobbying activities as defined by Treasury Regulations section 1.162-29(d). Furthermore, the activities performed by these recipient organizations were not conducted “on behalf of” the taxpayer, which would disallow the deduction. The contributions to these organizations were to be used as the recipients saw fit. Finally, many of the activities of these activities were not directed toward legislative members or legislative issues, and as a result did not constitute lobbying.
The Final Word
The CCA indicated that companies engaging in these sorts of activities will be able to deduct these expenditures. These expenditures will be deductible in the following ways:
- Amounts paid will be treated as paid by the organization collecting and paying the expenditures.
- These expenditures will be treated as trade or business expenses under IRC section 162.
- Even if the entities receiving these amounts engage in lobbying, amounts paid to these entities will not be treated as non-deductible lobbying expenditures.