Atheist Group Warns Against Regs on Payments to Charitable Entities

January 31, 2020

Ms. Mon Lam
Attorney
Department of the Treasury
Internal Revenue Service
1111 Constitution Avenue NW.
Washington, DC 20224

Re: Comment from American Atheists Concerning Treatment of Payments to Charitable Entities in Return for Consideration (IRS REG-107431-19)

Dear Ms. Lam:

On behalf of American Atheists, I write to offer comments on the proposed IRS regulation concerning Treatment of Payments to Charitable Entities in Return for Consideration (Docket No. REG-107431-19).¹ Specifically, American Atheists commends the steps the Treasury Department has taken to curtail taxpayers' ability to profit when they fund private schools through state tuition tax credit programs. Existing regulations closed the door on taxpayers and religious schools who exploited the federal charitable deduction at the expense of state and federal budgets, preventing the funding from reaching public schools. However, we are concerned with one aspect of the proposed regulation that could open the door to inappropriate tax avoidance opportunities for taxpayers who donate to certain school voucher programs. We ask you to clarify the examples and the proposed rule to ensure that these loopholes remain closed.

American Atheists is a national civil rights organization that works to achieve religious equality for all Americans by protecting what Thomas Jefferson called the “wall of separation” between government and religion created by the First Amendment. We strive to create an environment where atheism and atheists are accepted as members of our nation's communities and where casual bigotry against our community is seen as abhorrent and unacceptable. We promote understanding of atheists through education, outreach, and community-building and work to end the stigma associated with being an atheist in America. As advocates for religious liberty and equality, American Atheists opposes efforts to divert public money to support private religious education.

The proposed change would allow owners of passthrough businesses to circumvent the $10,000 State and Local Tax (SALT) deduction cap by recharacterizing nondeductible portions of these tax payments as deductible business expenses. In the proposed regulation, Example 2 provided in 1.162-15(a)(2)(ii) states that a business partnership (P) may deduct a $1,000 payment to a charity as a business expense even if it “expects to receive a $1,000 income tax credit on account of P's payment, and . . . the credit can be passed through to P's partners.” This example affords the business a $1,000 increase in their business expense deductions even though their “expense” was entirely offset by a state income tax credit. This leaves open the possibility that these partners can increase their business expense deductions even in situations where their SALT deductions will remain unchanged because, both before and after the payment to the school voucher program, they will continue deducting the maximum allowable amount of state income tax ($10,000).

By redirecting a mandatory $1,000 payment away from their state government and toward a school voucher program instead, they have avoided the SALT cap limitation and have engaged in behavior that could prove profitable for the business based on the federal income tax consequences alone. Tax accountants, private schools, and others in many states with tuition tax credit programs have long marketed these school voucher programs as tools for exploiting the federal charitable deduction. Therefore, the language in this proposed regulation may embolden some businesses to attempt to circumvent the SALT deduction cap by donating to school voucher programs because it fails to adequately delineate between using a state income tax credit to offset taxes that would have been deducted for federal purposes versus using that credit to offset taxes that would have been nondeductible.

Currently, this potential loophole would allow twelve states to structure their programs to allow wealthy Americans to financially benefit from their contributions to educational scholarship or voucher programs. The federal charitable tax deduction is meant to reward genuine philanthropy, not the development of tax shelters for wealthy Americans to avoid federal taxes. This is what happened immediately following the passage of “The Tax Cuts and Jobs Act.”² States like Arizona and Alabama, who have these voucher programs saw spikes in the promotion and exploitation of these accounting practices. American Atheists thanks for the IRS for swift regulatory action to prevent such exploitation.

We also highlight that the majority of donations through these tax loophole programs, as well as more traditional school voucher programs, are used to fund private religious education at taxpayer expense. For example, although Indiana's Choice Scholarship Program does not benefit directly from the tax loophole eliminated by the agency's regulation, state data shows that school voucher programs in general benefit religious educational institutions disproportionally. According to the report Exploring Indiana's Private Education Sector³ prepared by the Friedman Foundation for Education, which synthesizes information collected by the U.S. Department of Education and the Indiana Non-Public Education Association (INPEA), approximately one-third of the private schools in the state (33 percent; 317 of 969 schools) are registered with the Indiana Department of Education to participate in the state's Choice Scholarship Program. Among those schools, more than 90% are religious in nature (421 of 461 schools). This means that less than 10% of the private schools publicly funded through this program are nonsectarian private schools, representing a total of only 40 education institutions in the whole state. Overall, the statistics in Indiana demonstrate how school vouchers programs, including those funded through these tax loopholes, do not contribute to strengthening the public education system but rather divert public funds to religious education.

American Atheists asks the IRS to clarify its examples regarding donations and state or local tax deductions and reaffirm that the SALT deduction cap cannot be circumvented for businesses that donate to school voucher program in this manner as it revisits its treatment of donations benefiting from state or local tax credits. We also ask the IRS to defer to the comments submitted by the Institute on Taxation and Economic Policy for additional explanation on how this loophole could be avoided. If you should have any questions regarding American Atheists' comments on the proposed regulation, please contact me at 908.276.7300 x309 or by email at agill@atheists.org.

Sincerely,

Alison Gill, Esq.
Vice President, Legal & Policy
American Atheists
Cranford, NJ