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Senate Approves Pension Legislation (Including Charitable Contribution and Exempt Organization Provisions) Before August Recess
The Senate last night approved H.R. 4, the Pension Protection Act of 2006. The bill was approved by the House last week. After being enrolled, the legislation will be sent to the White House for action by the President.
Below is a brief summary of certain provisions of the pension legislation, including the charitable giving incentives and so-called charitable reforms. A more comprehensive discussion of these provisions will be provided in a future edition of
TaxNewsFlash-Exempt Organizations.
Charitable Giving Incentives
- Tax-Free Distributions from IRAs for Charitable Purposes: The legislation provides an exclusion from gross income for certain distributions of up to $100,000 made directly from a traditional individual retirement account (IRA) or a Roth IRA to a qualifying charity. The provision is effective for two years through 2007.
- Charitable Deduction for Contributions of Food Inventory: For certain contributions of food inventory by trades or businesses, the legislation provides an enhanced deduction equal to the lesser of (1) the taxpayer’s basis plus one-half of the difference between fair market value and basis, and (2) twice the taxpayer’s basis in the contributed food inventory. The provision is effective for two years through 2007.
- Basis Adjustment to Stock of S Corporation Contributing Property: The legislation provides that the amount of a shareholder’s basis reduction in the stock of an S corporation by reason of a charitable contribution made by the corporation will be equal to the shareholder’s pro rata share of the adjusted basis of the contributed property. The provision is effective for two years through 2007.
- Charitable Deduction for Contributions of Book Inventory: The legislation extends the current-law provision that allows an enhanced deduction for contributions of qualified book inventory by C corporations to public schools. The provision is effective for two years through 2007.
- Qualified Conservation Contributions: The legislation raises the charitable contribution deduction limit for individuals from 30% to 50% of adjusted gross income for qualified conservation contributions, provided that such contribution does not prevent the use of the donated land for farming or ranching purposes. The percentage limit is raised to 100% of adjusted gross income for eligible farmers and ranchers. The provision allows a taxpayer to carryforward the deduction for 15 years, provided that the taxpayer is a farmer or rancher in the year of the carryforward. The provision is effective for two years through 2007.
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Charitable “Reform” Provisions
- Treasury Report on Certain Life Insurance Contracts: The legislation requires organizations described in section 170(c), section 168(h)(2)(A)(iv), section 2055(a) or section 2522(a), to report to the IRS certain acquisitions of interests in certain insurance contracts for two years, beginning on the date of enactment. The Secretary is required to issue a report within 30 months after the date of enactment examining whether acquisitions of applicable insurance contracts is consistent with the tax-exempt purposes of those organizations.
- Fines and Penalties Applicable to Charitable Organizations: The legislation doubles all of the first tier excise taxes applicable to private foundations and foundation managers under sections 4941-4945. The legislation also doubles the section 4958 excise tax on managers of public charities and social welfare organizations that knowingly engage in excess benefit transactions.
- Charitable Contributions of Facade Easements: The legislation imposes additional restrictions on charitable contributions of easements on buildings located in registered historic districts. The legislation also clarifies that the charitable contribution deduction is reduced if a rehabilitation tax credit has been claimed with respect to the donated property.
- Taxidermy and Substantiation of Exempt Use Property: The legislation limits donors' basis in donated taxidermy property to the cost of preparing, stuffing and mounting an animal. The value of a donor's deduction would be equal to the lesser of basis or fair market value.
- Recapture of Tax Benefit for Charitable Contributions of Exempt Use Property Not Used for an Exempt Use: The legislation requires a donor to recapture the appreciation amount of a charitable contribution of tangible personal property if the property is not used by the donee for an exempt purpose within three years, unless the donee certifies to the IRS that the property is used for exempt purposes.
- Clothing and Household Items: The legislation provides that no deduction is allowed for charitable contributions of clothing and household items unless such items are in good used condition or better. In addition, the legislation authorizes Treasury and the IRS to issue regulations denying a deduction for clothing or household items with minimal monetary value.
- Modification of Recordkeeping Requirements for Certain Charitable Contributions: The legislation requires that no deduction is allowed for a cash, check, or other monetary contribution, regardless of the amount, unless the donor substantiates the contribution by bank record or written receipt from the donee organization showing the name of the donee, the date of the contribution, and the amount of the contribution.
- Partial Interest in Donated Property: The legislation requires that charities receiving a fractional interest in an item of tangible personal property must take complete ownership of the item within 10 years or the death of the donor, whichever occurs first. In addition, the donee must have (1) taken possession of the item at least once during the 10-year period as long as the donor remains alive, and (2) used the item for the donee's exempt purpose. Failure to comply with these requirements results in the recapture of all tax benefits plus interest and the imposition of a 10% penalty.
- Appraisal Reform: The legislation lowers the thresholds for imposing accuracy-related penalties on a taxpayer who claims a charitable contribution deduction for donated property for which a qualified appraisal is required. The provision also applies for purposes of estate tax appraisals and provides definitions of a qualified appraiser and qualified appraisals.
- Credit Counseling: The legislation imposes certain requirements on tax-exempt organizations that offer credit counseling services, subject to a four-year transition rule, to limit the allowable amount of debt management plan income to 50% of revenues. In addition, the provision imposes restrictions against certain loans, fees, and solicitation of contributions from consumers receiving counseling.
- Private Foundation Net Investment Income Excise Tax: The legislation expands the base for the private foundation gross investment income excise tax and prohibits capital loss carrybacks. The legislation also permits certain tax-free like-kind exchanges for property held for more than one year that was used for the foundation's exempt purposes.
- Convention or Association of Churches: The legislation clarifies the definition of a convention or association of churches by permitting the membership of the organization to include individuals as well as churches and to permit the individuals to have voting rights.
- Notification Requirement for Exempt Organizations: The legislation requires certain exempt organizations to file an annual notice with the IRS containing basic contact and financial information. The requirement applies to organizations that currently do not have an annual filing requirement because their gross receipts are less than $25,000. A failure to file the notice statement for a period of three consecutive years will result in the revocation of the organization’s tax-exempt status.
- Encourage IRS Information-Sharing with State Charity Officials: The legislation permits the IRS to disclose to state officials certain information, including the names, addresses and taxpayer identification numbers of organizations that have applied for recognition of exemption, organizations to which the IRS has issued a proposed or final denial or revocation of tax-exempt status, notices of deficiency for tax under section 507, Chapter 41 and Chapter 42, and returns filed by such organizations.
- Public Disclosure of Information Relating to Unrelated Business Income Tax Returns: The legislation extends the present-law public disclosure requirements applicable to Form 990 to the unrelated business income tax returns (Forms 990-T) of section 501(c)(3) organizations.
- Treasury Study on Donor-Advised Funds and Supporting Organizations: The legislation directs Treasury to undertake a study on the organization and operation of donor-advised funds and supporting organizations. The study will include an examination of requirements for determining if such organizations are operating in a manner consistent with the purposes or functions constituting the basis for their tax-exempt status.
- Improved Accountability for Donor-Advised Funds and Supporting Organizations: The legislation imposes new taxes on certain "taxable distributions" and "prohibited benefits" by donor-advised funds and supporting organizations. The taxes are imposed on the sponsoring organizations and on the fund management who knowingly agree to the acts. A taxable distribution generally is any payment from a donor-advised fund (1) to a natural person, (2) for any purpose other than purposes in section 170(c)(2)(B), or (3) to any entity other than a public charity described in section 170(b)(1)(A), the sponsoring organization, or another donor-advised fund—unless the sponsoring organization exercises expenditure responsibility with respect to such payment. A prohibited benefit is any distribution from a donor-advised fund that results in the advisor or related person receiving more than incidental benefits. The legislation also imposes excess business holdings rules on donor-advised funds and Type III supporting organizations. Transition rules apply to the present holdings of donor-advised funds and supporting organizations. Supporting organizations that are functionally integrated with their charity would not be subject to any excess business holdings rules.
Other Provisions Affecting Tax-Exempt Organizations
- The Tax Treatment of Certain Payments to Controlling Exempt Organizations: The legislation provides that payments of interest, rents, annuities or royalties received or accrued by exempt organizations from controlled organizations will not be included in the parent organizations' unrelated business taxable income except to the extent such payments exceed the amount which would have been paid or accrued if such payments met the requirements of section 482. Any such excess is also subject to an additional 20% tax. Exempt organizations are required to report certain transactions with controlled organizations. The provision is effective for two years through 2007.
- Excise Tax Exemption for Blood Collector Organizations: The legislation provides that certain blood collector organizations are exempt from certain excise taxes with respect to activities related to blood collection.
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Overview of Certain Pension-Related Provisions in the Legislation
Among the other provisions of the legislation are the following provisions:
- EGTTRA Permanent. The legislation makes the EGTRRA pension and IRA provisions permanent. The EGTRRA changes that are to be made permanent include increased IRA contribution limits and increased limits on contributions, benefits, and compensation for retirement plans.
- Minimum Funding Rules. The legislation provides certain plans with a single minimum funding calculation. The minimum required contribution to a single-employer defined benefit plan for a plan year generally depends on a comparison of the value of the plan’s assets with the plan’s funding target and the target normal cost.
- Funding Status Limitations. The legislation provides that if a plan is less than 80% funded, it is prohibited from increasing benefits unless certain contributions are made immediately. If a plan is less than 60% funded, then the plan is prohibited from making lump sum distributions and future accruals.
- Permanent Interest Rate. The legislation provides a permanent interest rate based on a modified yield-curve beginning for plan years after 2007. The legislation extends the current Pension Funding Equity Act rates through the 2006 and 2007 plan years for purposes of the interest rate permissible range and the current liability calculation.
- Hybrid Plans. The legislation provides rules for age discrimination testing for hybrid plans. The legislation prohibits “wearaway” of accrued benefits after a conversion to a hybrid plan. Hybrid plans would be required to have full vesting within three years of service.
- Diversification. The legislation allows participants in defined contribution plans to diversify out of employer securities. This provision applies to employers with publicly traded securities, and there is a three-year transition period. This provision does not apply to ESOPs that contain no elective deferrals, employee after-tax contributions or matching contributions.
- Automatic Enrollment. The legislation provides a safe harbor for nondiscrimination testing for 401(k) plans that adopt automatic enrollment. Safe harbor plans must have automatic increases of employee contributions and accelerated vesting of matching contributions. Elective contributions must begin with at least a 3% contribution and increase 1% per year until reaching 6%.
- Restrictions on Nonqualified Deferred Compensation. The legislation limits funding of nonqualified deferred compensation if either the plan’s funding status is “at-risk,” the sponsor is in bankruptcy, or during the six months before or after a qualified plan’s involuntary or distress termination. Such funding would be subject to section 409A’s additional 20% tax. In addition, if an employer attempted to “gross-up” taxes for the deferred compensation, the gross-up would be nondeductible.
Text of the statutory language of the Pension Protection Act of 2006 is available on the House Ways and Means Committee Web site:
http://waysandmeans.house.gov/ResourceKits.asp?section=2476
The Joint Committee on Taxation has prepared a technical explanation (386 pages) and a revenue estimate of the pension bill, both of which are available on the JCT’s Web site. The discussion of the charitable provisions begins on page 263 of the JCT technical explanation.
For more information, contact Rick Speizman, National Service Line Leader, KPMG’s Exempt Organizations Tax Practice (ExoTax), at (202) 533-3084 or
rspeizma@kpmg.com
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