No Tax Deduction for Self-Serving Charity

CHICAGO (CN) - A Wisconsin couple who wanted to demolish their home, but instead let the fire department burn it down for a training exercise, cannot claim a tax deduction, the 7th Circuit ruled.

Theodore Rolfs and his wife, Julia Gallagher, bought a 3-acre property in Chenequa, Wis., but wanted to demolish the existing house and build anew. The couple donated the house so a local fire department could burn it down for a training exercise.

The Rolfs wrote off the transaction as a charitable donation on their 1998 tax return, claiming a $76,000 deduction. But the Internal Revenue Service raised a red flag, finding that the value of the donation did not exceed the substantial benefit they received - demolition of the unwanted house.

Ultimately the tax court found that the Rolfs would have had to pay between $10,000 and $15,000 to bulldoze the house. The Rolfs appealed to the 7th Circuit but found no sympathy.

"The decisive legal principle for the tax court and for us is the common-sense requirement that the fair market valuation of donated property must take into account conditions on the donation that affect the market value of the donated property," Judge David Hamilton wrote for a three-member panel.

The Rolfs appraiser utilized a "before-and-after" method of evaluation in determining the deduction value. Their appraiser found that the property with house totaled $675,000 in value. The land alone represented $599,000 of the price. Calculating the value of the house alone when donated to the fire department at $76,000 and at zero once burned, the Rolfs arrived at their deduction figure.

This approach was less persuasive than the "comparable sales" evaluation method proposed by the IRS. Comparable sales would be best estimated by looking at house purchases where a buyer wanted the house moved to another piece of land, the court said. Expert house movers determined that the home would be of little to no value if moved, because of its modest nature in an otherwise wealthy neighborhood.

"The IRS argued that since the house would have had negligible value if sold and moved away, the house must also have negligible value if sold under the condition that it be burned down," Hamilton summarized.

Though all parties agreed that the house had a $76,000 value before it was burned down, no portion of that value was transmitted to the fire department in the donation because of the burn-down condition, the court ruled.

"By deciding to destroy the house and then making that demolition a condition of their gift, the taxpayers themselves became responsible for that decrease in value, even if the fire department provided the mechanism to accomplish it," Hamilton wrote. "None of the value of the house, as a house, was actually given away."

The Rolfs also donated $1,000 to the fire department to help cover training costs, which could possibly be treated as payment for demolition services and further disqualify the donation, the court noted. Since the IRS declined to raise that issue, however, the 7th Circuit ignored the question as well.

"We ascribe no sinister motives to the Rolfs in seeking this deduction, who could reasonably rely upon [circuit precedent] to conclude that their proposed valuation might be allowed," Hamilton wrote. "A brief look at Google uncovers news stories about similar donations and attempted donations by an ESPN commentator, a former Oregon gubernatorial candidate, and a New York investment banker."

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