Wednesday, September 28, 2016

The Trump tax-exempt foundation story

I was among many tax people who spoke to David Farenthold as he researched his Washington Post story on diversion of income from Donald Trump to his tax-exempt foundation.  In case you haven't seen the story, the key reveal is that "companies that owed money to Trump or one of his businesses ... were instructed to pay Trump's tax-exempt foundation instead, according to people familiar with the transactions."  An example is the $400,000 appearance fee that Comedy Central reportedly paid to the foundation, rather than to him.

In some instances, what then would happen is that the foundation would make charitable or other payments on Trump's behalf to settle his business liabilities. These payments might well have been deductible by Trump himself, had he made them, whether as business expenses (where compelled to settle a dispute) or as charitable donations.

In a pure case, diversion of income is tax fraud plain and simple. Think of the characters in The Wolf of Wall Street taking suitcases full of $100 bills to Switzerland, so they could be secretly depositedd in a Swiss bank account without ever being declared as U.S. taxable income. That is an illustration of what is absolutely the canonical, core case of criminal tax evasion.  So the question is, to what extent was something similar going on here?

First point against equating the two: no net tax saving for Trump in any case where inclusion and deduction of the same amount would have occurred in the same year, but for the use of the foundation as an intermediary.

Second point against equating the two: reflecting that equivalence, there is a common practice, when people such as entertainers or politicians, want to help a charity, of their providing services for a fee or other profits (such as gate revenues) that are paid to the charity, rather than to them.  Sometimes it's legally unclear whether what they've done should be classified as (a) donating services for the charity, which is tax-free or (b) making money that they then donate to the charity, which would require express inclusion plus deduction.

The main reason it can make a difference is that charitable deductions generally are limited to 50 percent of adjusted gross income (AGI).  Thus, suppose my AGI is otherwise $1 million, but that I want to provide services that will cause the charity of my choice to earn $3 million.  If this money is deemed to have been paid directly to me, then my AGI is $4 million and I can only reduce it to $2 million via the charitable deduction.  (The extra $1 million deduction can be carried over to the next taxable year.)  But if it's outside my income altogether, then I get to report only $1 million of income, which is arithmetically equivalent to having been allowed the excess deduction after inclusion.

Though I am not an expert on tax practice in the charitable area, I have the sense that practice and enforcement can be a bit flexible and accommodating in this scenario, even though the "donation of services" rubric can be used (where what actually happened is better viewed as receipt followed by donation) as a means of evading the AGI limit on charitable deductions.  I believe that the reason is not just that the line can be hard to draw in some cases, and more reliant on careful planning than on true differences in substance or intent, but also that devising a workaround with respect to the 50 percent AGI limit is considered far less of a malum in se than classic Wolf of Wall Street-style evasion.  One isn't lining one's pocket, relative to the case of simply not providing the services, and as it happens the rationale for the 50 percent of AGI limit may not be all that strong to begin with.

A third ambiguity, raised by a Trump advisor who is quoted in the Farenthold story, pertains to a different set of facts than I have assumed so far.  Suppose I decline to be paid for something I have done, but suggest that the donor instead pay the amount to the charity of his or her choice.  Then there is authority for classifying this as a tax-effective renunciation by me of income that I would otherwise have earned. This, however, would be inapplicable to the facts that Farenthold reports unless it was the donor's idea, rather than part of the deal's terms, to donate the money to the Trump Foundation in particular.

When one puts all this together, including suggestions that some of the Trump Foundation's outlays were not just for Trump's benefit but would not have been deductible by him (e.g., paintings of himself, or a Tim Tebow helmet), then one is definitely inching closer to Wolf of Wall Street territory. But admittedly the facts are still unclear, and establishing criminal intent would require more than has yet become known.

What would the requisite criminal intent here involve? In a Wolf of Wall Street scenario, it pretty much speaks for itself. You don't really put money in suitcases (or taped to your body) that you smuggle through Customs unless you are knowingly engaged in tax evasion. But suppose it were to be established, through the testimony of people working for Trump, that he considered the Trump Foundation's money to be his, hence available to pay for anything he liked. Then telling people to pay the Trump Foundation, rather than to him personally, would become harder to explain innocently. So a finding of self-dealing by the Trump Foundation, in violation of the charitable rules, would also, in this context, tend to strengthen the case for fraudulent assignment of income upfront.

One last point: even if it was just a matter of avoiding the AGI limit on charitable deductions, rather than of using the Trump Foundation as an untaxed piggybank for personal inurement, there's every reason to believe that actual tax dollars were at stake. After all, while we haven't gotten to see Trump's tax returns, there are widespread suspicions that he regularly drove his AGI and taxable income so low that the 50 percent limitation might well have been a serious constraint, even though there is evidence suggesting (despite his frequent protestations to the contrary) that he does not actually give much to charity, other than to settle liabilities of his business organization.

UPDATE: One further aspect that I forgot to include the first time through is SECA tax liability. This is the self-employed individual's analogue to the Social Security and Medicare FICA taxes for employees.  It might be raised as an issue by the Comedy Central fee, although presumably not for the amounts that Farenthold reports Richard Ebers paid to the Trump Foundation for tickets and the like.  How large the stakes would be here depends on whether Trump already had sufficient reported income from self-employment to place out of the Social Security piece.  (This would only take about $100,000, depending on the tax year as it's indexed to inflation, but who knows how he was structuring things?)  The SECA tax rate stands at 15.3% until one gets above the Social Security ceiling, whereupon it declines to 2.9% for just Medicare.  The latter rate would amount to $11,600, if applied to a $400,000 fee (like the amount reportedly paid by Comedy Central).  Chump change for Trump? You tell me.

Also, for gifts to private foundations, the AGI limit is 30 percent, not 50 percent.


Stuart Levine said...

I just checked Publication 78 and the Donald J. Trump Foundation, Inc., is a private foundation subject to the 30% limitation. Additionally, you missed a "private inurement" issue: A good deal of the Trump Foundation's expenses were for goods and services provided by Trump and Trump-related entities.

Finally, there's another issue: the 5% rule. I think that that rule comes into play as follows: The TF, absent the following transactions, does not utilize 5% or more of its assets in pursuing its charitable purposes. I think that this may have been behind the contribution of property (athletic contest tickets, etc.) by third parties to the Foundation. The property was likely overvalued. Thus, when it was "re-contributed" by the TF, the TF easily met the 5% rule.

Daniel Shaviro said...

Agreed that there's a private inurement issue, but I was focusing on the issue of up-front tax fraud via assignment of income. Private inurement on the back-end doesn't necessarily strengthen the case for diversion of income on the front end, as it's surely best of all to use other people's money for that.

Eric Rasmusen said...

Would any of the allegations lead to a criminal prosecution by the IRS in ordinary circumstances? I would think not---it's hard to imagine them prosecuting someone for deducting donations of 35% of his income to charity instead of the allowed 30%. It all seems like civil penalty stuff, with intent unimportant, and maybe not very big penalties either----certainly not big relative to Trump's income.

In the painting donation example, as I think the post said, there was no loss of tax revenue, because Trump would have taken it as a business expense if his business had paid for it instead of the Foundation. What is truly an offense is that he used Foundation money to benefit his private business, but the amount of the misuse was not the painting's $20,000 price, it was the painting's market value. This was a charity auction, remember, so most of the price was a charitable contribution, which is a proper use of Foundation money. In fact, since the second-highest bid was $0, you could even argue that the market value of this speedy painting of Donald Trump was $0, though I'd pay at least $50 for it myself.