#43357 - 05/16/08 10:19 AM
Donating your 529 account to charity
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Joe Hurley
Registered: 01/07/00
Posts: 2080
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In this week's 529 Pro Update newsletter, I floated the idea of donating your 529 account to a college or charitable organization if you should ever find yourself in the position of having too much money in a 529 plan. The school or charity would use the 529 account to fund scholarships for deserving individuals. You would receive a charitable tax deduction and avoid the tax and 10% penalty associated with the alternative of taking a non-qualified distribution. In other words, a win-win situation.
I'm receiving a terrific number of emails in response to the article. While there has been plenty of encouragement, I've also had a number of 529 specialists and tax experts point out some technical and practical hurdles.
As the heading of the article says, don't try this at home. You would need the blessing of a tax professional, which you probably won't get until there's been further vetting of the idea (and perhaps some federal lawmaking). I'll keep you posted on developments if it turns out there is sufficient interest.
Please feel free to add your comments here.
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#43358 - 05/16/08 11:19 AM
Re: Donating your 529 account to charity
[Re: Joe Hurley]
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Drew
Registered: 01/09/00
Posts: 2478
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I too would be of opinion that it poses a variety of issues, many of which are at a state level and that means at least 50 sets of laws to address--Why? Because state law governs most issues of property transfer and it also covers a lot of 529 issues as well. Plus under current law while there should be no income tax penality for an exempt group to unwrap a donated 529 ( absent UBIT issues) there is no provision to waive the 10% penality on income to do so when done by new owner. Of course it would take but a stroke of a pen to have Congress waive the 10% rule for 501C3's. I suppose under current law the value of my donation could be debated if the charity held it for less than 1 year after receipt and scholarship was NOT in the charities ordinary scope of activity--the same problem that occurs if I have 10 solid appraisals for a painting worth say $50,000 and I give it to my church and they put it up for quick auction on a rainy night and get but $5,000 for it. Tax Code says I gave them but $5000. If I give a 529 with face value of $50,000 and some clown unwraps it next week to realize say $48,750 did I donate $50,000 or $48,750 or lets hear it--$0?
Now I would argue that to give it to a college and if its face is $50,000 thats the value--even if they realize more or less at actual conversion. Why, because its in ordinary busines of college to engage in scholarships..AND it appears that thats what tax code says.....
Frankly I think one could pull off that move under current PA law without too much risk, perhaps in one step, even more safely in two steps depending upon the relationship of the plan owner to the current named beneficiary--by that I mean if the current beneficiary is same or younger generation on your tree if its tax free to move beneficary back to owner then for owner to donate the whole of dominion and control under state law transfer the whole--extinguishes debate of owner owns X and beneficiary holds Y components of the whole. So I consolidate all elements in my name and I give ownership to U of XYZ? Once delivery of the gift is completed its a done deal---for tax purposes it doesn't matter if they decide to burn the painting or blow the 529. Not that I recommend either.
(One could raise some complex arguements that my gift as 529 owner is not complete as to whole until my gift as beneficiary is also completed but lets assume I make sure both get done!)
One would think that a completed valid good faith transfer / gift to a charity such as an educational institution under state law would NOT be a good test case for IRS to want to debate in court.
Now if the transfer was NOT valid under state law or there was a clear quid pro quo involvd you might be a candidate for detailed review by IRS.....?
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Drew
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#43359 - 05/16/08 02:41 PM
Re: Donating your 529 account to charity
[Re: Drew]
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Drew
Registered: 01/09/00
Posts: 2478
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Disagreement as to value gifted:
Joe I fail to see a tax point that the value of the gift in your example is its basis. Lets say the 529 in question consisted of $60,000 in gifts that now had a face value of $120,000 --and had been held for at least 1 year---in virtually every other context the value of the proposed gift is $120,000 and the beauty of the gift is the free step up in basis upon gifting. I fail to see whay delivery of a 529 account worth $120,000 is treated any less favorably than if I deliver $120,000 worth of Exxon shares with a basis of $60,000 to my favorite college. (Assuming I can transfer my 529 to my college in the first place--but that does NOT appear to be a prohibited transaction in PA.)
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Drew
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#43360 - 05/16/08 03:05 PM
Re: Donating your 529 account to charity
[Re: Drew]
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Joe Hurley
Registered: 01/07/00
Posts: 2080
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Drew, that seems to be one big area of uncertainty (at least in my mind). IRS Publication 526 describes how the deduction for ordinary income property is limited to basis:
Amount of deduction. The amount you can deduct for a contribution of ordinary income property is its fair market value minus the amount that would be ordinary income or short-term capital gain if you sold the property for its fair market value. Generally, this rule limits the deduction to your basis in the property.
Is a 529 account ordinary income property or a capital asset? Certainly, the income portion of a distribution is ordinary income unless excluded as a qualified distribution. But I'm learning that doesn't necessarily make the account fall into the category of ordinary income property. I'm also thinking about the corollary of contributing your IRA to charity under the recent changes. For IRA donations, I believe your deduction is limited to basis.
I would love to see the IRS accepting a FMV deduction for a 529, but I would need to see a more definitive analysis before I suggest it to anyone.
Joe
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#43361 - 05/16/08 03:11 PM
Re: Donating your 529 account to charity
[Re: Drew]
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Drew
Registered: 01/09/00
Posts: 2478
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One more observation---to complete the safety net all it may take is the free equivalent no action letter to a 501c3 solicited by a friendly 501c3 which parallels the public sector letter rule---and written in typical federal jargon to allow the word "purchase" as a matter of public policy to include 529s which are "acquired" by any such group including but not limited to purchase or gift or bequest. And written opinion such that while not reliable for others thats exactly what it means. Clearly the Congressional intent was that exempt holders were not bound to family tree rules--so the mere act of taking if off a family tree appears entirely consistent with inthent and overall public policy? And itis clear public policy to induce donors to make gifts to further education.
A governmental holder or a 501c3 does not trigger a distribution issue or suffer a rule against moving a beneficairy designation nor is it required to designate u from the rules is upon distribution to untimate user. So a single liberal word might be all it takes for a 501c3 to unwrap a donated 529 w/o the 10% issue
See Sec 529 e 1 c Other Rules and Special Rules
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Drew
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#43369 - 05/19/08 02:20 PM
Re: Donating your 529 account to charity
[Re: Drew]
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Drew
Registered: 01/09/00
Posts: 2478
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Joe, while I see the " ordinary income " issue I sure fail to think that a 529 fits the Congressional intent of what is intended under ordinary income either here or in Sec 64. The clear intented use by Congress of a 529 is as a sale or exchange or conversion of same for educational products and services and when used in such a context there is NO income. It is also clear that Congress sought to discourage unintended uses and in that light imposed both an income and a penality upon same. However since there is NO income ordinary or otherwise when used in contect that Congress intended and that there is also Congressional intent to encourage donations of appreciated property for charitable purposes I continue to think that a few words of letter rule or equivalent is all it would take .... With some attention to short term holding periods....Therefore it seems logical and consistent with public policy that the transfer of a 529 to a exempt group for educational purposes be viewed as NOT for purposes of ordinary income.
Also in a convoluted sense there is NO market value for a 529 when held in its existing envelope! Think about it. It only has a value if it is destroyed! EG if A holds a 529 for his grandson C then excpet for some very specific intrafamily transfers wherein a new family member could step the beneficiary about on the ORIGINAL family tree the 529 lacks any value to anyone as such! How much would I be willing to pay for a 529 for your kids ---most likley ZERO? The only reason I'd pay you for it is I know I can unwrap it for a modest penality --but the instant I unwrap it is not a 529! (Or I exchange it to yet a 3d holder who does so ---ahh pity a discussion of it looking like a bearer bond and next thing we will want to adresss is some state like New Jersey wanting to grab 529s under the state laws for escheating! Don't laugh--NJ is quite aggressive about escheating anything---OID's, bearer bonds and God knows what else ----
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Drew
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#43373 - 05/20/08 10:37 AM
Re: Donating your 529 account to charity
[Re: Drew]
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Joe Hurley
Registered: 01/07/00
Posts: 2080
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Drew, very good points. I'm in Washington DC tomorrow and plan to launch this balloon in front of some people who may be in position to do something about it.
Joe
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