01 October 2008

Fractional Interest Gifts of Art: Back to Stay or Going Away?

For almost 20 years, taxpayers have made fractional interest gifts of tangible property usually art or collectibles to charity, comfortable in the knowledge that they would obtain an income tax deduction for that gift. After the Pension Protection Act of 2006, P.L. 109-280 8/17/06 (the “PPA”), such gifts largely disappeared from the giving landscape. With the Tax Technical Corrections Act of 2007, P.L. 110-172, 8/29/07 (the “TCA”), Congress has removed the most glaring obstacle to fractional interest gifts. While the pre-PPA days are gone for good, there are still reasons for donors to make fractional interest gifts and they are rapidly returning to the mainstream of planned giving. It is imperative that charities interested in donations of art and collectibles be aware of the opportunities to encourage giving that such gifts offer, as well as the new limitations and reporting requirements associated with these types of gifts.

What are fractional interest gifts?

Over the years, taxpayers have tried to slice and dice their property rights in a wide variety of ways so that they can give something to charity, take an income tax deduction, and retain the property rights they value most. As a result, there now are a correspondingly large number of restrictions that must be complied with if a taxpayer wishes to obtain an income tax deduction for gifts of property to charity.1 One of them provides that a taxpayer generally cannot take a charitable contribution deduction for a gift of less than his or her entire interest in the property.2 There is an exception, however, for contributions of an undivided portion of a taxpayer’s entire interest in property (i.e., a tenants-in-common interest).3

Fractional interest gifts come of age

In 1977, James L. Winokur and his wife, Sara, donated a 10% interest in 44 works of art to the Carnegie Institute in Pittsburgh. The following year, they donated another 10% interest in the same works. In each instance, under the terms of the deed of gift, the Institute had the right to possession of the artwork for a number of days proportionate to its ownership interest.4 The Institute did not, however, take possession of any of the artworks in 1977 or in 1978. In 1979, it did take possession of five works, but only after the Winokurs donated their remaining 80% interest in those works.

The Winokurs claimed a charitable deduction for the value of the fractional interests donated. There is no deduction for the gift of a future interest in tangible personal property,5 and the IRS argued that because the charity never took possession of the donated objects, the Winokurs had made a gift of a future interest. After reviewing the relevant statutory and regulatory provisions,6 the Tax Court concluded in Winokur, 90 TC 733, 734 (1988), that:

‘Neither the statute nor the regulations require the donee organization to take physical possession of the donated property during the year immediately following the gift. In order for an undivided interest to be treated as a present interest and not as a future interest, the donee simply must have the right to interrupt the donor’s possession and the right to have physical possession of the property during each year following the donation, equivalent to its undivided interest in the property, in addition to the other rights of a tenant in common.’ 7

Once the IRS acquiesced to this decision,8 what started as a question of first impression rapidly transformed into settled law.’

After the Tax Court’s Winokur decision, it was clear that a deduction was available for a taxpayer who donated a tenants-in-common interest in tangible personal property to charity. Gifts of art or other collectibles have been the most common types of fractional interest gifts.

The deeds of gift associated with such donations typically entitled the charity to physical possession of the object for a number of days each year proportionate to its ownership interest. The object remained in the donor’s home, however, unless the charity actually exercised its right to possession. If the charity did so, it was required to pay the cost of transportation to and from the donor’s home, as well as the cost of insurance while the charity had physical possession of the object. It was also common for the donor to make a legally binding pledge to donate the balance of the object to the charity no later than his or her death.

In most instances, the charity waited patiently for the balance of the object to be donated, thereby allowing the donor to retain possession. Of course, if the charity did take possession of the object for some period and incorporated that object into an exhibition, it tended to appreciate in value. Then, when the donor donated some or all of the remaining interest, his or her income tax deduction increased accordingly.

THE PPA – Swatting flies with sledgehammers

The PPA sought to stem a number of perceived abuses in the charitable arena. Although the Service had acquiesced to Winokur and had issued confirming private letter rulings,9 fractional interest gifts were clearly one area of perceived abuse. The PPA sought to (1) narrow the circumstances under which a deduction is available for fractional interest gifts, (2) limit the size of the charitable deduction for subsequent gifts, and (3) limit how long the charity can wait before taking possession of the donated object.

A deduction is permitted for a fractional interest gift after the PPA only if, immediately prior to the gift, all interests in the donated property are held either by the taxpayer or the taxpayer and the donee.10 This means that if a fractional interest gift is given to a charity, all future gifts must be given to that same charity; otherwise neither an income tax nor a gift tax deduction will be permitted. It also means that if the taxpayer is a co-owner of the property with someone other than the donee, he or she cannot make fractional interest gifts.11 The Treasury may issue regulations establishing an exception where all co-owners make proportional contributions, but no such regulations are now in effect.12

The income tax deduction available for the initial gift to charity equals a pro-rata share of the donated property’s fair market value, assuming it is given to a charity that uses the property as part of its charitable purpose so-called “related use” property.13 Subsequent gifts, however, are a fraction of the lesser of (1) the fair market value at the time of the gift and (2) the fair market value at the time of the initial gift.14 So, even if the property appreciates in value, the donor’s charitable income tax deduction for future gifts is still limited to the value of the property when it was initially contributed. Moreover, if the property decreases in value, the donor’s future deductions decrease accordingly.

With regard to valuation, the normal appraisal rules apply to gifts of fractional interests in tangible property. If the claimed deduction exceeds $5,000, the donor must obtain a qualified appraisal with respect to each fractional interest gift.15 This is true even though, in a rising art market, his or her charitable income tax deduction will remain constant. Fractional interest gifts are reported on Form 8283, “Noncash Charitable Contributions,” which is filed along with the donor’s personal income tax return.

A major perceived abuse of fractional interest gifts involved taxpayers who made a gift and took a deduction, but continued to enjoy exclusive use of the property for a substantial period. Legally, the charity could always insist on physical possession for a portion of the year, but in practice most charities did not. The costs of transportation, the need to rearrange a collection to accommodate a short exhibit of the fractionally owned work, and the risk of offending present or future donors all weighed against enforcing such rights. To eliminate this perceived abuse, the deduction is now “recaptured” if a maximum donation period is exceeded or if an actual use requirement is not satisfied.

The maximum donation period will be exceeded unless the donee charity receives the balance of the donor’s interest in the property on or before the earlier of (1) ten years after the date of the initial fractional contribution or (2) the date of the donor’s death.16 Satisfying this requirement is relatively straightforward. The actual use requirement, however, will not be satisfied unless, within that maximum donation period, the donee charity had substantial physical possession of the property and put it to a use related to a purpose or function constituting the basis for its exemption under Section 501.17 This means that the donee must both take possession of the property and use it as part of its charitable mission before the donor dies. If it does not, the deduction will be recaptured. While many donors before the PPA preferred that the donee charity not exercise their right to possession, now the same donors are likely to insist that the charity take and use the object at least once as a condition of making a fractional interest gift.


If either the maximum donation period or the actual use requirement is violated, both the income and the gift tax charitable deductions will be recaptured. For income tax purposes, recapture means that the tax for the year of the contribution is recomputed without regard to the charitable deduction and interest is imposed on the difference between the tax due under the resulting calculation and the tax due on the return as filed.18 There is also a penalty equal to 10% of the amount recaptured.19 So, for example, suppose a taxpayer in the 35% bracket made a $100,000 donation to charity and died before the donee charity ever took physical possession of the property. The actual use requirement would not be satisfied so the donor would owe $35,000 (the deduction amount multiplied by the 35% tax bracket). He or she also would have a penalty equal to $10,000 (10% of the $100,000 deduction). In this way, the economic benefit of the original deduction would effectively be recaptured.

The phrasing of the corresponding gift tax provision is essentially the same as that of the income tax recapture provision.20 If the gift tax deduction is recaptured, the taxpayer will be deemed to have made a gift equal to the recaptured amount plus interest, thereby reducing his or her remaining gift tax exemption and possibly triggering a gift tax. In the example above, the donor’s exemption would be reduced by $100,000 plus interest. Once again there is a penalty equal to 10% of the amount recaptured,21 so an additional $10,000 of gift tax exemption will be exhausted, or gift tax will be due on that amount if the exemption already is completely exhausted.

THE PPA problem and the TCA remedy

The changes to the fractional interest gifts contained in the PPA worked as intended for income tax purposes. The estate and gift tax rules, however, created an enormous problem. For all three taxes, the charitable deduction for the initial and subsequent fractional gifts was limited to a percentage of the object’s fair market value at the time of the initial contribution.22 For income tax purposes, this merely denied the donor the benefit of a larger deduction if the property appreciated between the initial fractional gift and a subsequent gift.

For gift and estate tax purposes, however, the donor was whipsawed and could actually owe gift or estate tax. For example, a donor who gave a 10% interest in a painting worth $1 million on the date of the gift was entitled to a charitable deduction of $100,000 for income and gift tax purposes. If the donor gave an additional 10% of the painting away five years later when the painting was worth $1.5 million, the donor’s charitable deduction for income and gift tax purposes would remain at $100,000, despite the escalation in value, meaning he or she had made a $50,000 taxable gift to charity.

If, instead of making a second gift, the donor in the foregoing example died five years following the initial gift and left the remaining 90% interest in the painting to charity, the estate faced an estate tax on $450,000. That is, the value of the taxable bequest would be $1.35 million (90% of the $1.5 million value on the date of death), but the value of the estate tax charitable deduction would be only $900,000 (90% of the value of the painting on the day of the first partial gift, rather than the full date of death value of the bequeathed interest). While widely viewed as a technical flaw that would be corrected, this essentially put a halt to any future fractional interest gifts.23

The TCA retroactively eliminated this issue by allowing a gift and estate tax charitable deduction based on current market value rather than the value at the date of the initial fractional gift.24 Thus, the charitable deduction value and the tax value of partial interests once again match for gift and estate tax purposes, regardless of whether the art appreciates or depreciates, resulting in no estate or gift tax being due on subsequent gifts.

Fractional interest contributions today

Donors remain interested in fractional interest gifts for a number of reasons. First, they may not be ready to part with a work of art, but they are ready to begin the process and commit to its eventual donation. In other instances the collection may be so substantial, or a particular object so grand in scale, that an expansion of the charity’s physical facility is required to accommodate it. Such an expansion could take several years, and a fractional interest gift is one way of obtaining an immediate income tax deduction while the charity makes the required preparations. It also provides the charity with the contractual guarantee it needs to undertake the required improvements.

Even collectors who are willing to make an immediate gift of artwork may be better advised to make fractional gifts over a number of years. Under current law, the income tax deduction available for gifts of artwork is limited to no more than 30% of the donor’s adjusted gross income each year.25 Although contributions in excess of this amount can be carried forward, they must be used within five years after the original donation or they are lost.26 Fractional interest gifts provide an opportunity to stretch the charitable deduction over as many as 15 years.

For example, if a taxpayer’s adjusted gross income is $250,000 a year, the maximum income tax charitable deduction he or she can take for gifts of tangible property in any one year is $75,000. If such a taxpayer donates a painting to a museum, he or she will be able to deduct only $450,000 (six times $75,000) when combining the initial donation year and each year of the five-year carryover period. By making a series of fractional gifts, up to $1,125,000 could be deducted (15 times $75,000).

While the breadth of restrictions on charitable donations is beyond the scope of this article, an understanding of the restrictions governing gifts of tangible property is critical when discussing gifts of fractional interests. A donor can deduct the full fair market value of tangible personal property donated to a public charity only if the property will be put to a related use by the donee, otherwise the deduction is limited to basis.27 Further, the PPA instituted a penalty in the event the contributed property, originally given for a related use, is disposed of by the charity within three years of the gift.28 If the property is in fact disposed of by the charity within three years of receipt, it is presumed to have not been related use property. The penalty imposed on the donor is inclusion as income of an amount equal to the difference between the fair market value of the property at the time of donation and his basis. No interest or other penalty is imposed.

The PPA does recognize that circumstances may change and that a charity may ultimately decide it does not need the donated property, even if it was related to the charity’s mission at the time of the contribution. To account for this, the PPA provides an exception to the foregoing rule. If an officer of the donee signs the requisite statement, under penalties of perjury, the donor will be allowed to retain the full fair market value charitable deduction.29 The statement must either (1) certify that the property donated was related to the purpose or function constituting the basis for the donee’s exemption under Section 501, and describe how the property was used in furtherance of such purpose, or (2) state the intended use of the property at the time of the contribution, and certify that such intended use has become impossible or infeasible. A false certification subjects the officer to a $10,000 penalty.30 Charities are required to report to the IRS any disposition of contributed tangible property made within three years of receipt on Form 8282, “Donee Information Return.”


By clarifying the deduction available for gift and estate tax purposes when a fractional interest gift is completed, the TCA has cleared the way for gifts of fractional interests in tangible personal property to resume. Such gifts enable both the donor and the charity to plan their affairs with greater certainty. They also provide a wonderful opportunity for donors to maximize the benefit of their generosity and for charities to continue receiving donations of unique works of art. After the TCA, it seems clear that there remains a role for fractional interest gifts and they are indeed back to stay. That said, both donors and charities need to be familiar with the PPA restrictions and requirements that still apply to such gifts to ensure the most favorable tax outcome for donors.


[1] See, e.g., Section 170(f).

[2] Section 170(f)(3)(A).

[3] Section 170(f)(3)(B)(ii).

[4] “The Donee. . . is entitled to possession of the Collection for that number of days during any twelve month period after the date hereof which the value of the Interest bears to the value of the Collection.  The Donee shall have sole discretion to decide the days during which it shall have possession of the Collection.”  Winokur, 90 TC 733 (1988).

[5] Section 170(a)(3).

[6] Regs. 1.170A-5(a)(2); 5(a)(4); 7(b)(1) (see Winokur, supra note 4 at 738-40.**

[7] Winokur, supra note 4 at 740.

[8] Action on Decision 1989-008, 1989-2 CB 1.  As it is its practice, the IRS acquiesced only to exact facts of this case, so they retained the right to challenge a charitable deduction where actual possession by the donee was deferred for more than a year.

[9] See, for example, PLR 200223013 and 200223014.

[10] Section 170°(1)(A).

[11] He or she may, of course, donate his entire interest to charity and receive a charitable deduction.  See Sections 170(f)(3), 170°(4)(B) and 2522(e)(2)(C).

[12] Sections 170°(1)(B), 2522(e)(1)(B).

[13] Section 170°(3)(A)(i).

[14] Section 170°(2).

[15] See Section 170(f)(11) and Regs. 1.170A-13©.

[16] Sections 170°(3)(A)(i) and 2522(e)(2)(A)(i).

[17] Sections 170°(3)(A)(ii) and 2522(e)(2)(A)(ii).

[18] Section 170°(3)(A).

[19] Section 170°(3)(B).

[20] Section 2522(e)(2)(A).

[21] Section 2522(e)(2)(B).

[22] The Pension Protection Act of 2006, P.L. 109-280, Section 1218(a)-(c).

[23] Gifts made before the effective date of the PPA were grandfathered, so the balance of the property could safely be donated or bequeathed.

[24] The Tax Technical Corrections Act of 2007, P.L. 110-172, 8/29/07, Section 3(d).**

[25] Section 170(b)(1)(C).**

[26] Section 170(b)(1)(C)(ii).

[27] Section 170(e)(1)(B)(i).

[28] Section 170(e)(7).

[29] Section 170(e)(7)(D).

[30] Section 6720B.

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