If you itemize your deductions, charitable contributions reduce the amount of your income subject to taxation, which can save you money or increase your tax refund. But the Internal Revenue Service doesn’t just take your word for it, or care that the check you wrote to your friend’s cause was meant to do good works. Disallowed deductions can cost you money in increased taxes owed – or sometimes, more serious consequences.
Disallowable charitable contributions can come in many forms. For starters, you can only deduct what you’ve already donated. If you signed a pledge card promising to give $100 to your favorite charity over a specified time period and you haven’t done it yet, that pledge by itself isn’t deductible. Your charity actually has to be a charity, meaning it has its 501(c)(3) certification -- or be an organization not required to get one, like many religious groups. You can only deduct fair market value for items or property donated, not what the item originally cost. You also need written documentation of all donations of non-cash contributions totaling more than $500 and all vehicle donations over that amount. Cash donations require a receipt, so that $5 bill you dropped in the collection basket for the United Way at work won’t get you a deduction.
Fix it Yourself
Should you catch the error before the IRS does, you can pre-empt negative consequences by filing an amended return. Fill out a 1040X, document the changes and pay takes on the charitable contributions in question. The IRS also asks for an explanation of why you needed to file an amended return. Inform them that you made a charitable deduction in error.
Answer the Mail
If you file a return with charitable deductions that the IRS doesn’t like, it will let you know. For many, this takes the form of a letter. The letter might request receipts for a particular deduction or series of deductions, or it might disallow one altogether. For example, if you donated money to an organization that bills itself as a charity but doesn’t have that 501(c)(3) certification, the IRS will send you a letter that lets you know and gives you a bill for the new amount of tax owed. Do not ignore this letter. It doesn't make the situation go away, and the sooner you take care of the situation, the sooner it's behind you.
If you can't support the deduction, send the IRS what you owe to end the audit. But if you disagree with the decision, you can attempt to prove your case. Just because the IRS disallows a deduction doesn’t mean you won’t eventually get it, but it does require more work for you. Find all the paperwork regarding the disallowed donation if you think it was rejected in error. Written acknowledgement from the charity, credit card receipts or canceled checks can all prove that funds were transferred. If it’s donated goods at issue, information about their value can help your case, though an appraisal is necessary for high-value items.
When Things Get Serious
Your disallowed deduction may cost you more than the amount of the extra income in your tax bracket. If the IRS decides that you took the disallowed deductions out of ignorance or negligence, you can be subject to a penalty of 20 percent, as well as interest charges dating back to when the original return was filed. If the IRS thinks you intended to defraud it in order to pay less tax, the consequences can be much more severe, with larger penalties, fines and potential jail time if the amount at issue is high enough.
- Jupiterimages/Creatas/Getty Images