Don’t Discard Your Surplus, Donate It

By Dave Owens

Tucked away in the internal revenue code are great tax

deductions that are rarely used. One of them is code section 170(e)(3) —

Special Rule for Certain Contributions of Inventory and Other Property. Your

company’s excess, slow-selling inventory can become a tax-advantage deduction

when you donate it to a qualified charity. It’s called gifts-in-kind, and it

favors companies that contribute new, unused products. The value of these gifts

can be inestimable to charitable organizations. Inventory donations help

organizations stretch tight budgets and do more for the people they serve.

The deductibility of each donation varies according to a

company’s accounting systems. The basic tax deduction will be the cost value

currently carried in the company’s books. Under code section 170(e)(3), a

company can deduct more than its cost for the donated inventory. The write-off

is equal to the lesser of:

• Twice the cost of

the inventory as carried on your company’s books or,

• Your company’s

cost, plus one-half of the difference between cost and the inventory’s fair

market value (generally, the lowest price at which the goods have been offered

for sale).

There’s no dollar limit on how much property you can get a

deduction for under these rules, other than the overall corporate limit on

charitable contributions (under which any charitable contributions in excess of

10 percent of taxable income must be carried forward to future tax years). For

example, assume a corporation donates a pen that has a basis of $1 and sells

for $2. The deduction is $1.50: cost ($1) plus half the difference between cost

and fair market value ($.50) equals $1.50. To get the deduction, the company

must remove the pens from its opening inventory for the year; this is designed

to prevent a double deduction. The company is usually responsible for paying

for the shipping on the inventory, but the shipping cost will also be

considered a charitable contribution.

S corporations, partnerships and sole proprietorships earn a

straight cost deduction (check with your accountant or financial advisor to

determine your status). The amount of the deduction for a charitable

contribution of inventory by an S corporation is the tax basis of the

inventory.

The largest organization in the country helping collect and

distribute excess inventory from corporations is the National Association for

the Exchange of Industrial Resources (NAEIR), a not for profit organization.

The donation process is simple. NAEIR asks you (the donor) to submit a written

proposal that includes a short description of the inventory, quantities, and a

wholesale or cost value. NAEIR’s donation review committee then approves the

proposal and sends you a confirmation letter, labels, and shipping

instructions.

NAEIR solicits donations from manufacturers, wholesalers and

retailers all across the United States. While many products are offered as

donations, NAEIR only accepts donations of items that members want and need for

the administration of their schools and nonprofit organizations. Only brand new

products are accepted.

Companies donating merchandise to NAEIR often receive tax

deductions, clear out warehouse space, and receive the philanthropic benefit of

knowing that their products are going to be used at deserving schools and

nonprofit organizations.

Under Internal Revenue Code Section 170(e)(3), materials

received through NAEIR are to be used for the care of the ill, needy or minors,

and may not be bartered, traded or sold. The products may be used to further

the recipient organization’s mission, and in its everyday operations.

While most large corporations use a company like NAEIR to

donate their inventory, smaller corporations can give directly to local

charities and still claim the deduction. The corporation would be responsible

for all administrative costs but the benefit would be to see your inventory

used locally. Churches, hospitals, shelters, nursing homes, private and public

schools, camps, or social services are all charitable organizations eligible to

receive your company’s donation. Also, any corporation that is classified as a

501(c)(3) (a tax deductible, not-for-profit) organization would qualify for the

deduction. One industry in Southwest Florida that might benefit from this

deduction would be construction. Builder’s with excess materials can donate

them to local charities and claim the section 170(e)(3) deduction. Items to

look at include the small quantities left over from jobs, discontinued models,

styles or colors, cancelled orders, undamaged returns, and slow-selling items.

While the tax deduction is the major incentive for donating

inventory, there are other benefits, including freeing up warehouse space.

Non-moving inventory takes up space and does not produce cash flow. Also,

buybacks or customer-cancelled orders are considered excess inventory and are

eligible for the deduction.

To encourage corporate charitable activities, Congress made

a special provision for corporations giving inventory and certain other

property to charity. The corporations may be eligible for an enhanced deduction

equal to the cost of the property plus one-half of any appreciation in the

event that the fair market value of the property is higher than cost. This

enhanced deduction is limited to no more than two times the cost of the

property.

Because of the manner in which the Internal Revenue Service

chose to have these charitable gifts reported, the tax compliance and

accounting is different from the situation where the donor gives cash or cash

equivalent. However, the additional paperwork is not burdensome. It involves

filing one additional form (Form 8283) or an additional statement with the

corporate income tax return. And in some instances it requires additional

bookkeeping entries.

Compared to the sale of inventory, the contribution of

inventory will never benefit the corporation from a cash-on-cash point of view.

Nevertheless, a corporation can benefit more from making a charitable gift than

from abandonment of excess goods. Furthermore, by giving away property the

corporation benefits from the goodwill generated and will avoid being perceived

as disposing its inventory under fire sale conditions.

Dave Owens is a CPA and owner of Island Financial Services,

an accounting firm located on Sanibel.