We aren’t all fortunate enough to benefit financially from giving something away, but there may be times when it’s worth exploring the tax advantages of a “bargain sale.” The charitable contribution is one of the few remaining federal tax deductions that can be worked into a real estate transaction to create a win-win situation.
And the essential elements to qualify a bargain sale as a charitable contribution are:
1) A property owner willing to sell his or her property for less than fair market value.
2) A recipient that meets certain federal tax code criteria, for instance a government entity or a qualified charitable organization.
Let’s say your house sits on a 2-acre lot adjacent to a public park. Your realtor says the total value is $400,000, but the city has expressed interest in obtaining an acre of the land to expand its park. You ask your realtor how the value would be affected if you were to split the land, and the answer is that you could sell the house and one acre for $300,000, leaving a $100,000 value on the acre the city is interested in.
After determining with your tax accountant that the sale would qualify as a bargain sale for income tax purposes, you agree to sell the acre to the city for $50,000 – half of its actual value. The $50,000 difference between the value ($100,000) and the actual sale price ($50,000) is then potentially deductible on your Schedule A as a charitable contribution.
Note the word “potentially.” There are some things to keep in mind:
- The IRS won’t just accept your realtor’s opinion of value as the starting point for the equation. They will require a written appraisal conducted by an IRS-approved appraiser, the cost of which will have to be paid by either you or the buyer.
- While the tax benefit of the bargain sale might offset any capital gains consequences resulting from the sale of the house and remaining land, there is an annual cap on how much you can deduct as a charitable contribution. If you go over the cap, however, there are carryover provisions that might allow you to spread the deduction over several years.
- When you’re dealing with a government body or a charitable organization, don’t expect things to move fast. They may need time to raise the money or allocate the funds.
- In most cases, a bargain sale will result in lower net proceeds to the seller than an arm’s length sale at fair market value. This gives the seller leverage to negotiate non-monetary provisions into the contract, and it’s your opportunity to request conditions that might otherwise benefit you, or at least increase the value or marketability of the adjacent house and lot.
For instance, you could ask for a deed restriction preventing that particular acre of the park from ever being used as a baseball diamond or football stadium – or any type of structure, for that matter. You could ask for a permanent plaque or monument memorializing your gift to the city. Or you could ask for a fence to be built on the property line. As with all negotiations, it doesn’t hurt to ask, but you can’t force them to say yes.
A bargain sale is not a journey you want to embark on lightly. To understand the full tax implications of the maneuver, be sure to talk first with a qualified tax accountant.
Guest Blog Provided By Jolenta Averill: For more information about Jolenta, please visit her Madison real estate website where you can see all Madison homes for sale. You can also learn more about Madison Wisconsin by reading Jolenta’s Madison real estate blog.