Charitable Contribution?

[KarenMM]

I have a new client - sch c consignment gallery - collects items on consignment from the public - contract says if unsold after so many days, consignor has 30 days to pickup and all items not picked up become the property of my client. My client then donates them to the local goodwill store. Should she be allowed to take a charitable contribution on those items? My gut says no, but I can't find anything that specifically forbids it? Obviously, the FMV would be small (smaller than the price they tried to sell items at her store, anyway), and would not be a business deduction but go on her sch a, instead.
Agree, or disagree?

[commonstalk]

Disagree

She never acquired the items. She simply held them for consignment and reaped a profit if sold.

[TXEA]

No charitable contribution. This is ordinary income property with a basis of -0-.

It would be the same as a fully depreciated computer. It has value, but its basis is -0-. No charitable contribution.

[ATSMAN]

Let's think this through.

After 30 days in default the contract says it becomes the property of the business. If that is held valid under state or Federal law then title is passed on and the residual basis may be the cost of holding the property and cost of selling it.

Your thoughts.

[taxea]

no deduction for donation but be sure to check local law for whether the receipt for the donation has to go to the original owner of the property. In some states if the property is sold due to the owner not collecting it the money gained goes to the owner, not the seller.

[Kram BergGold]

My Take

The items in question were put up for sale and did not sell. Therefore, their FMV is zero. Deductions for items that have decreased in value are limited to the lesser of cost or FMV. So the deduction is zero.

[Roland Slugg]

Good question! The rule for non-cash (i.e. property) donations is that if the property were sold and any of the gain on its sale would be taxed as other than a LTCG, then the charitable contribution deduction is limited to the excess, if any, of the property's FMV over that gain. In the case at hand, if the property is "inventory," then its sale would result in ordinary income, and the above rule would apply, serving to eliminate any charitable contribution deduction.

However, the goods are not really "inventory" at all. The store's owner doesn't purchase the goods she sells on consignment. Instead she creates a bailment and charges a commission for each item sold. Her store's income is not based on the gross profit from the sale of purchased inventory, but instead derives in the form of commissions earned from the service of selling merchandise owned by others. In a sense it is similar to a realtor who earns commissions from his efforts to sell other people's real estate. Ownership of the property remains with the consignors until sold or reclaimed/picked-up by them. An item only becomes the store owner's property when the consignment period ends, plus 30 days. At that time it becomes her property, but it isn't inventory ... it is a capital asset. If she then donates it to a qualified charitable organization, she is making a contribution of a capital asset.

Even then the rule would still deny a charitable contribution deduction, because if the item were sold, it would give rise to a STCG, not a LTCG. However, if she holds the item for one year after title passes to her (i.e. after the consignment period plus 30 days) and donates the item after that, then she will be donating property which, if sold, would give rise to a LTCG, and a charitable contribution deduction would be allowed ... assuming the other rules are also met.

Your client may not have the storage space or the patience to hold forfeited property that long, but if she does, it might be something she'd like to consider doing for selected items.

[Gary2]

What is the foundation for saying that it's not inventory? Just because the bulk of the business is based on commission for selling items belonging to others doesn't mean that part of the business can't be selling items that have transferred by contract.

[commonstalk]

commission vs. consignment

I believe there is a difference and it's one of relationship. When two people enter into a consignment agreement the gallery owner calls the shots and presents the agreement/contact. Typically a 60-40 split in favor of the artist/craftsperson. When two people enter into a commission agreement the roles are reversed and the manufacturer/distributor presents the agreement/contract.

In addition, if she took ownership would that be taxable income to her? Usually there is an agreed upon selling price made between the artist and gallery owner to the general public. Perhaps it's in her best interest to donate the items for that reason alone.

[ATSMAN]

I like Roland's explanation.

[TXEA]

Roland provided an excellent lesson on non-cash donations; however, I tend to differ slightly on the "acquired items" as being capital assets.

IRC Sec. 1221

(a) In general
For purposes of this subtitle, the term “capital asset” means property held by the taxpayer (whether or not connected with his trade or business), but does not include—

(1) stock in trade of the taxpayer or other property of a kind which would properly be included in the inventory of the taxpayer if on hand at the close of the taxable year, or property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business;

emphasis on "property held by the taxpayer primarily for sale to customers" - Would the fact the property was held out to be sold by the store to customers make the property in essence inventory?

If we change the story and the taxpayer immediately sold the items on clearance, how many would report that as a short term capital gain and how many would report as ordinary business income? I would say ordinary business income.

[KarenMM]

Thanks ALL!

This has been a very good discussion on a very specific topic - so I appreciate the thought that went into your responses.