Contributions Are Deductible Business Expenses Under SALT Safe Harbors

Internal Revenue Service

The IRS has issued guidance (<a href="//s3.amazonaws.com/pdfs.taxnotes.com/2018/2018-50644_rp-19-12.pdf">Rev. Proc. 2019-12</a>) providing safe harbors for C corporations and some passthrough entities that make payments to a <a href="/research/federal/usc26/170#cpyg-0000065" resolve="/lr/resolve//cpyg#cpyg-0000065">section 170(c)</a> charity in exchange for state and local tax credits, saying the payments may be treated as ordinary and necessary business expenses. <a href="/research/federal/usc26/164#cq6x-0000041" resolve="/lr/resolve//cq6x#cq6x-0000041">Section 164(b)(6)</a>, added to the code under the Tax Cuts and Jobs Act, includes a provision that caps at $10,000 an individual’s deduction for state and local taxes paid during the calendar year. As taxpayers began looking for ways to avoid the limitation, Treasury and the IRS have issued guidance on whether some approaches correctly apply the code and related regulations. As part of that guidance, a list of frequently asked questions (<a href="/lr/resolve//28dgq">prior coverage</a>) provided that a business taxpayer making a payment to a charitable or government entity may deduct the payment as an ordinary and necessary business expense under <a href="/research/federal/usc26/162" resolve="/lr/resolve//cnq9">section 162</a> if the payment is made with a business purpose. Rev. Proc. 2019-12 concludes that these payments bear a direct relationship to the taxpayer’s trade or business and can be considered ordinary and necessary business expenses under <a href="/research/federal/usc26/162#cnq9-0000002" resolve="/lr/resolve//cnq9#cnq9-0000002">section 162(a)</a>. Specifically, Rev. Proc. 2019-12 provides that it is reasonable to conclude that a C corporation’s receipt of a state or local tax credit in return for a <a href="/research/federal/usc26/170#cpyg-0000065" resolve="/lr/resolve//cpyg#cpyg-0000065">section 170(c)</a> charitable organization donation provides a direct benefit to the C corporation’s business in the form of a reduction in the state or local taxes the C corporation would otherwise have to pay. Thus, there is a reasonable expectation of financial return to the C corporation commensurate with the amount of the transfer. The same is true for a passthrough entity that is operating a trade or business within the meaning of <a href="/research/federal/usc26/162" resolve="/lr/resolve//cnq9">section 162</a>. However, under the principles of <a href="/research/federal/usc26/702" resolve="/lr/resolve//cqhl">sections 702</a> and <a href="/research/federal/usc26/1366" resolve="/lr/resolve//cqf7">1366</a>, the deductibility of the payment must be determined at the level of the individual owners of the entity if the credit received or expected to be received will reduce a state or local income tax subject to the limitations in <a href="/research/federal/usc26/164#cq6x-0000041" resolve="/lr/resolve//cq6x#cq6x-0000041">section 164(b)(6)</a>. The safe harbor for C corporations states that if a business makes a payment to or for the use of a <a href="/research/federal/usc26/170#cpyg-0000065" resolve="/lr/resolve//cpyg#cpyg-0000065">section 170(c)</a> organization and receives or expects to receive a tax credit that reduces a state or local tax imposed on the C corporation in return for such payment, the C corporation may treat such payment as meeting the requirements of an ordinary and necessary business expense for purposes of <a href="/research/federal/usc26/162#cnq9-0000002" resolve="/lr/resolve//cnq9#cnq9-0000002">section 162(a)</a>, to the extent of the credit received or expected to be received. The revenue procedure describes the requirements a business must meet to be considered a specified passthrough entity and the applicable safe harbor. If a specified passthrough entity makes a payment to or for the use of an organization described in <a href="/research/federal/usc26/170#cpyg-0000065" resolve="/lr/resolve//cpyg#cpyg-0000065">section 170(c)</a> and receives or expects to receive a tax credit that the entity applies or expects to apply to offset a state or local tax other than a state or local income tax, the specified passthrough entity may treat the payment as meeting the requirements of an ordinary and necessary business expense for purposes of <a href="/research/federal/usc26/162#cnq9-0000002" resolve="/lr/resolve//cnq9#cnq9-0000002">section 162(a)</a>, to the extent of the credit received or expected to be received. The revenue procedure, which applies to payments made on or after January 1, 2018, should not be construed as permitting a business using the safe harbors to treat a payment amount as deductible under more than one provision of the code or Treasury regulations.

The IRS has issued guidance (Rev. Proc. 2019-12) that provides safe harbors for C corporations and some passthrough entities that make payments to a section 170(c) charity in exchange for state and local tax credits, saying the payments may be treated as ordinary and necessary business expenses.

The IRS has issued guidance (Rev. Proc. 2019-12) providing safe harbors for C corporations and some passthrough entities that make payments to a section 170(c) charity in exchange for state and local tax credits, saying the payments may be treated as ordinary and necessary business expenses. Section 164(b)(6), added to the code under the Tax Cuts and Jobs Act, includes a provision that caps at $10,000 an individual’s deduction for state and local taxes paid during the calendar year. As taxpayers began looking for ways to avoid the limitation, Treasury and the IRS have issued guidance on whether some approaches correctly apply the code and related regulations. As part of that guidance, a list of frequently asked questions (prior coverage) provided that a business taxpayer making a payment to a charitable or government entity may deduct the payment as an ordinary and necessary business expense under section 162 if the payment is made with a business purpose. Rev. Proc. 2019-12 concludes that these payments bear a direct relationship to the taxpayer’s trade or business and can be considered ordinary and necessary business expenses under section 162(a). Specifically, Rev. Proc. 2019-12 provides that it is reasonable to conclude that a C corporation’s receipt of a state or local tax credit in return for a section 170(c) charitable organization donation provides a direct benefit to the C corporation’s business in the form of a reduction in the state or local taxes the C corporation would otherwise have to pay. Thus, there is a reasonable expectation of financial return to the C corporation commensurate with the amount of the transfer. The same is true for a passthrough entity that is operating a trade or business within the meaning of section 162. However, under the principles of sections 702 and 1366, the deductibility of the payment must be determined at the level of the individual owners of the entity if the credit received or expected to be received will reduce a state or local income tax subject to the limitations in section 164(b)(6). The safe harbor for C corporations states that if a business makes a payment to or for the use of a section 170(c) organization and receives or expects to receive a tax credit that reduces a state or local tax imposed on the C corporation in return for such payment, the C corporation may treat such payment as meeting the requirements of an ordinary and necessary business expense for purposes of section 162(a), to the extent of the credit received or expected to be received. The revenue procedure describes the requirements a business must meet to be considered a specified passthrough entity and the applicable safe harbor. If a specified passthrough entity makes a payment to or for the use of an organization described in section 170(c) and receives or expects to receive a tax credit that the entity applies or expects to apply to offset a state or local tax other than a state or local income tax, the specified passthrough entity may treat the payment as meeting the requirements of an ordinary and necessary business expense for purposes of section 162(a), to the extent of the credit received or expected to be received. The revenue procedure, which applies to payments made on or after January 1, 2018, should not be construed as permitting a business using the safe harbors to treat a payment amount as deductible under more than one provision of the code or Treasury regulations.

Sec. 162 Trade or business expenses

Sec. 164 Taxes

Sec. 170 Charitable, etc., contributions and gifts

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Contributions Are Deductible Business Expenses Under SALT Safe Harbors