You enjoy making charitable donations for two reasons. One, it feels good to help someone in need. And two, you’re helping yourself at the same time on your taxes.
The problem? You may be tempted to pad a legitimate tax deduction, or perhaps you claim deductions that the IRS doesn’t allow. Either way, the reality is that there are Internal Revenue Service, or IRS, penalties for overstating deductions.
Here’s a rundown on what overstating charitable deductions looks like and what underpayment penalty you can expect to face if you’re caught committing this serious act.
Rules Regarding Charitable Tax Deductions
According to the IRS, you are allowed to deduct charitable contributions that you make only to qualified organizations. These organizations include churches, veteran organizations, and fraternal societies, among others. In addition, you must make your contributions prior to the end of the tax year before you can deduct it for that tax year.
When you donate non-cash property to an approved organization, you are allowed to deduct the property’s fair market value. If that property’s value has appreciated, some adjustments might be necessary.
Furthermore, you can deduct your charitable contributions to specific private foundations and public charities up to half of your adjusted gross income. However, that amount decreases to 30% when you donate to a cemetery organization, fraternal society, or veteran organization, for example.
Finally, the IRS requires you to prove all of your cash donations with receipts, statements or canceled checks from the organizations to which you are donating. This is designed to discourage taxpayers from exaggerating or falsifying their information to further reduce liability. If you fail to abide by these rules, you could be accused of overstating your charitable deductions.
IRS Penalties for Overstating Deductions
If the IRS determines that you have overstated tax deductions and thus understated your tax liability, you may be assessed a penalty of 20% of your total deduction amount if more than 10% of the amount is owed.
You could also face this underpayment penalty if your understated amount surpasses $5,000. However, the penalty may be a higher 75% if you fraudulently attempted to decrease your tax liability.
If you fail to pay your penalty, you can expect a 0.5% penalty for each month you are beyond the due date, with the penalty maxing out once you reach 25% of your owed amount.
Overstating Deductions and IRS Penalties: The Current Situation with Taxpayers
Over the years, taxpayers have disagreed with the IRS’s denial of their deductions in a number of instances. These instances include debates over whether the organization was a qualifying charitable organization, whether the amount of the donation represented the fair market value, and whether the donation was properly substantiated. Taxpayers have been successful in whole or in part about 20% of the time in such cases.
Lawsuits Involving Overstating Deductions and IRS Penalties
A recent example of litigation involving overstating deductions and IRS penalties is the case of Reri Holdings I, LLC v. Commissioner, 149 T.C. 1 (2017). In this case, the court denied a partnership’s $33 million deduction to charity due to the partnership’s failure to properly complete the Form 8283 document that is included with its tax return. Specifically, the taxpayer did not include the adjusted cost basis for the property donated to the University of Michigan. For this reason, the court imposed a gross overvaluation penalty of 40% on the partnership.
Another recent example of overstating deductions involves the case of the United States v. Michael Meyer, 439 F.3d 855. In this case, Meyer reportedly set up charitable organizations for clients to donate to, then inflated their purported donations’ values. Through this alleged scheme, Meyer’s clients were able to overstate charitable deductions and thus defraud the federal government. These clients’ deductions will most likely be denied, and they will probably face severe penalties as well as criminal tax evasion charges.
Protect Yourself Against IRS Penalties for Overstating Deductions
If you’re facing an underpayment penalty for overstating your charitable deductions, you don’t have to fight this alone. At Delia Law, we assess your situation and determine the best approach for your tax problem. We are especially experienced in assisting with compounding penalties and interest by the IRS.
Contact us at Delia Law to learn about your options and how we can protect your best interests, both financially and legally.