Fractional donations are not widely used but present a powerful, flexible option for donors who wish to give artwork (or, in some cases, land or buildings). Because it can benefit donors and charities within a particular set of circumstances, it’s worth understanding this unique giving technique.
How does it work?
• The donor enters into a detailed written agreement with a qualified charity willing to accept the asset and use it for its charitable exempt purpose.
• The donor divides ownership in the asset and donates portions of ownership over time.
• The charity physically possesses the asset for a specified amount of time each year (at a minimum, proportionate to the charity’s ownership percentage).
• This provides the donor with greater flexibility in spreading out the charitable income tax deduction.
• The fractional donation can occur along with a bargain sale (for example, the charity might receive 75% of the ownership as a donation and pay for the remaining 25%).
What does this type of donation look like?
Let’s say Don has a painting that has been passed down in his family and has substantially appreciated over the years. He wants to use it to make a charitable gift, so he makes an agreement with a local museum to share ownership as a fractional donation. This allows him to spread out the charitable deduction over time instead of having to claim it all within the standard five years allowed under Federal tax law for the carryover of charitable deductions.
What type of donor is a good fit for a fractional donation?
For those who own artwork or real estate they wish to donate, this is an option to consider if they want to:
• Maximize their tax benefits by spreading out deductions over a longer period of time
• Pass on a cherished asset slowly (particularly those who are not quite ready to give up a cherished asset completely and immediately but want to share it with the world)
• Offset some of the capital gain generated from the cash influx from a bargain sale
Are there caveats?
Yes, there are a few important things to keep in mind when discussing a fractional gift with a donor:
• The charity must have physical possession of the asset at least in proportion to their ownership stake. This means fractional donations are often paired with permanent loans to let the charity display the artwork (or utilize the land or building) for the entire gifting period.
• An asset that already has divided ownership typically requires all owners to give proportional fractional donations. If a painting has two equal owners, for example, they must each participate in the fractional gift.
• The fractional donation arrangement establishes the donation value of the asset, which is used to calculate the charitable deduction over the entire length of the agreement. If the fractional donation takes place over six years and the asset appreciates in value over that time, the donor does not receive any increase in the deduction. (The same principle holds true for depreciation.)
• The gift must be completed within ten years of the initial charitable contribution (or at the donor’s death)—otherwise, the donor faces a penalty plus the recapture of any deductions already taken.
Can I have a couple more examples?
Example one: Theresa owns two buildings in downtown Chicago. As she is retiring, she wants to sell one and give the other to charity. The sale of the first building will create a significant increase in income, so she wants to maximize the deduction created by the donation of the second building. To do this, she works with a local charity that needs a new physical space and creates an agreement for a fractional donation. As part of the arrangement, she gives the charity an immediate 50% ownership and spreads out the donation of the remaining 50% ownership equally over the next 10 years. The agreement specifies that the charity can use the space the entire time via a permanent loan. This frontloaded donation offsets her immediate surge in income from the sale and spreads out the rest of her deduction over time.
Example two: Jordan recently inherited a valuable sculpture his ancestors brought to the United States when they immigrated from Greece. Jordan has no children of his own and wants to donate the piece to a museum. However, it was recently appraised at $5 million—far more than Jordan can take as a charitable deduction over the allowed five-year span. Instead, he enters into an agreement with the museum for a fractional donation, giving them a 33% interest in the sculpture every three years. This way, Jordan benefits from the full deduction spread out over a longer time.
