The Leader Magazine

DEC 2017

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I n 1917, The U.S. Congress passed into law and into the IRS code what is currently known as Section 170. This section of the IRS code allows for and defines how the deduction of charitable gifts work, whether cash, goods, stock, art, or … real estate. We all recognize the altruistic part of donating something to people and charities that can use the help, but there is also a self-interest aspect to this. You get a valuable tax deduction! One of the requirements for getting the tax deduction for real estate donations over $5,000 in value is a "charitable contribution appraisal," which might be different from a bank appraisal, liquidation appraisal, insurance appraisal, etc. The IRS outlines the requirement for the appraisal (done by a qualified appraiser), but, in general, it attempts to ascertain the property's full and fair market value (FMV), not necessarily the value defined by the sales price. The appraiser must assume that neither the buyer nor the seller are under any compulsion to act and have no urgency to buy or sell. Most commercial properties, however, are listed with some level of urgency to sell within six, nine to 12 months. However, the IRS encourages appraisers to value the property as if the seller had no artificial time frame for the ideal buyer to show up. That might mean a prolonged marketing time for as long as three to five years. Most sellers aren't willing to wait that long due to their own reasons of urgency and, therefore, are willing to sell it below its FMV. The appraisal also allows for property to be valued at highest and best use and allows the necessary time and money to locate an ideal buyer without limitation. The appraiser also takes into account replacement cost similar to an insurance appraisal. As such, this "charitable" valuation may outstrip the price at which a property is currently marketed. In general, there are three main approaches to the valuation of real estate: • comparable sales, • capitalization of income, and • replacement cost. An appraisal might require the combined use of two or three methods rather than one method only to establish the FMV. As opposed to a bank appraisal, an FMV appraisal for charitable purposes also includes uses and zoning not permitted currently; permits the assumption that the property is "fully" occupied (depending on the asset class); permits replacement cost as new (less observable depreciation and functional obsolescence); and permits sales comps outside the asset area and outside the typical six- to 12-month time frame if there are no appropriate sales comparatives within the area or recent past. As such, the FMV valuation may also outstrip broker opinions of value, list prices and bank appraisals. This often creates opportunity for 501c3 organizations (charities) to be a buyer of real estate via an associated, but different, mechanism called a "bargain sale." The IRS calls it a bargain sale, not a great name, and it implies that someone is getting a deal; in this case, it is the charity that buys and/or receives the donation. There are two parts of "consideration" in a bargain sale: a cash portion that is typically much less than market price, and a charitable deduction. The deduction, the second part of the consideration (e.g., the difference between any cash received and the appraised value), can be substantial. Subsequently, the combination of cash and a potentially significant deduction can be higher than a list price. In other words, the overall financial benefit of a bargain sale might be in line with, or more than, the after-tax proceeds the seller might receive from a traditional cash deal. Let's be honest; money saved is the same as money earned, and isn't it the bottom line that matters? So, this is a powerful tool whereby corporations and other owners of real estate can 1) make a difference in people's lives via a charitable act (the IRS requires the seller to have a "donative intent"), and 2) get a financial benefit to their bottom line similar to what they may be expecting from a cash deal after taxes. b argain sale vs. donation Since the bargain sale includes a cash component, the value of the donation deduction is determined by calculating the difference between the cash component and the fair market value of the donation (FMV – cash = deduction). For this article's sake, if the cash portion of a bargain sale is less than or equal to the adjusted basis, there should be little or no tax exposure (see IRS Publication 544 for details). t he process All large transactions typically require some form of the following: • Meeting of the minds on value • Purchase and sale agreement • Due diligence • Closing Where a bargain sale differs from the above is the consideration (or payment in kind) at closing. In a traditional closing, whether financing is involved or not, the consideration is usually cash funding. In a bargain sale, it's a combination of cash and IRS Form 8283 completed by the appraiser and provided by the charity. IRS Form 8283 is essentially your tax-deductible receipt that makes possible additional cash in the form of tax savings. Understand the benefits IRS Section 170, or Bargain Sale, has been in existence for 100 years and has undergone several reviews by Congress. It is a recognized and valuable tool with multiple benefits: 1. Promoting the general welfare: The proceeds from these types of sales support many charities and other purposes the government cannot support. 2. Benefitting the seller: A seller is permitted to gain a financial benefit through a bargain sale while simultaneously performing a charitable act. Add this tool to your toolbox and not only will you and others benefit financially, but you will be a success in your organization for finding and completing a unique and altruistic transaction. Add this tool to your strategic-disposition toolbox by Mattias Graff Mattias Graff has extensive real estate experience as a manager and executive for institutional investors, real estate developers and asset-management firms. He is market analysis director for Welfont, a commer- cial brokerage firm. th E l E a DER DECEMBER 2017 49 A longer version of this article is available on the Knowledge Center at http://www.corenetglobal.org/KCO/content.aspx?ItemNumber=36800.

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