IRS May Tax Political Donations as Gifts

The Internal Revenue Service has begun sending letters to political donors asking why they didn’t report their 2008 donations on their gift tax forms.

The letters have gone out to at least five political donors, according to The New York Times, asking about donations to 501(c)(4) tax-exempt organizations, named after the relevant section of the Tax Code. Groups like these have become an increasingly popular vehicle for political donations in recent years, as their donor lists do not have to be publicly exposed. They include groups on the right like Crossroads GPS, Americans for Prosperity, the American Action Network, the American Future Fund, and Americans for Job Security, and on the left like the recently formed Priorities USA.

Some of the groups played an important role in steering funds toward Republican candidates in the 2010 midterm election cycle, and are expected to be even more influential in 2012. In the wake of the Supreme Court’s Citizens United decision, corporations are expected to steer more donations towards the 501(c)(4) groups.

However, unlike the Section 527 political groups that received donations in 2004, donors to 501(c)(4) organizations are not exempt from paying gift taxes, and the IRS’s Exempt Organizations Division has begun taking a closer look at them.

Gifts of over $13,000 from individuals, or $26,000 from couples, are subject to a 35 percent tax. Deep-pocketed donors also have a $5 million lifetime exemption on gifts they make after 2010, which goes down to $1 million for gifts after 2013.

While the 527 groups are required to disclose their donors, the 501(c)(4) organizations are not, as Politico.com noted. That has made them more attractive to wealthy donors, who do not like to read news reports about their campaign donations. The 501(c)(4) groups are allowed to engage in political debate, but are not supposed to advocate for specific candidates or spend most of their money on political campaigns. However, in the last election cycle, the 501(c)(4) groups arguably have been doing exactly that.

The specific donors who received letters were not identified in news accounts, but an IRS spokesperson confirmed to various news organizations that the letters had been sent. According to an attorney who posted a redacted version of one of the letters online, quoted by the Associated Press, it states, “Your 2008 gift tax return (Form 709) has been assigned to me for examination. The Internal Revenue Service has received information that you donated cash to [redacted], an IRC Section 501(c)(4) organization. Donations to 501(c)(4) organizations are taxable gifts, and your contribution in 2008 should have been reported on your 2008 Federal Gift Tax Return (Form 709).”

The IRS has said the letters were sent by “career civil servants,” and not at the behest of the White House or the Obama administration. They are not part of some agenda to discourage donations to political rivals, according to the IRS, and the IRS’s Exempt Organizations Division actually drew up a work plan last year to shift its attention in 2011 from examining Section 501(c)(3) charitable and religious organizations to 501(c)(4), (5) and (6) groups as part of a broader effort at tax compliance. The 501(c)(5) groups are mainly run by labor unions and agricultural organizations, while the 501(c)(6) groups are run by business trade organizations.

However, that hasn’t stopped critics, especially on the right, from accusing the IRS of targeting the groups as part of an effort to stem the flow of money to political campaigns. Some of the 501(c)(4) groups may even file suit against the IRS, saying it failed to give notice that it would begin enforcing the gift tax on donations to the groups. The gift tax has mostly been applied in conjunction with the estate tax to prevent the wealthy from giving away most of their money tax-free to their heirs before they die, as The Wall Street Journal pointed out.

However, most of the groups are relatively new and the increasing tide of political donations to the 501(c)(4)s has been on the upswing since the Citizens United decision. Then too, campaign finance watchdog groups like Campaign Accountability Watch, Democracy 21 and the Campaign Legal Center have been pushing for the IRS to investigate the groups and whether they properly operate according to 501(c)(4) guidelines.

Whatever happens, the IRS will be on the firing line, even if it’s just trying to make sure the groups and their donors are complying with the existing laws.