Image courtesy of Flickr user frankieleon
The celebration of a New Year is followed closely by the start of tax season. This year, and going forward, tax time will be a little less oppressive for food donors. At the very end of 2015, Congress gave businesses that donate excess food inventory a reason to remain cheerful as they work on their taxes. In December 2015, as part of the fiscal year 2016 omnibus budget, Congress finally made the enhanced tax incentive for food donations more robust, equitably available, and easy to claim.
The enhanced tax deduction for food donations allows a business to deduct the smaller of (a) twice the basis of the donated food or (b) the basis of the donated food plus one-half of the food’s expected profit margin, if it were sold at its fair market value. The recent modifications to the food donation tax deduction made four significant changes: 1) the enhanced tax deduction for food donations has been permanently extended to all businesses, regardless of corporate form; 2) the cap on the deduction amount has been increased to 15% of the donor’s net income; 3) certain taxpayers have been given the option of using a new formula to calculate the enhanced deduction; and 4) the formula for determining fair market value (FMV) of food inventory has been updated. Read on to learn more about these changes and how they promote food recovery.
#1: Permanent Extension
Language in the FY2016 omnibus permanently extended the enhanced tax deduction, previously available only to C-corporations, to all business entities. Typically, large players in the food sector are organized as C-Corporations, but many smaller, independent food entities, including farmers, ranchers, value-added food producers, restaurants, and specialty food purveyors are not. The size and corporate form of a food business have little bearing on whether the business generates excess food or whether that food is suitable for donation. However, for smaller, lower-margin food businesses, the availability of an enhanced tax deduction for food donation – as opposed to the more modest general deduction for charitable contribution that is limited to basis value (the cost to the of acquiring the product) – can make all the difference in terms of a food recovery program’s financial viability.
Non-C-corporation donors of food have benefited from the enhanced deduction in years past. In 2005, Congress passed the Katrina Emergency Tax Relief Act (KETRA), which aimed to encourage more charitable giving; specifically, it promoted food donation by making the enhanced deduction available to all business entities. Available data indicates that it was successful: during the first year of the KETRA expansion, food donations increased 137%. Unfortunately, the KETRA expansion applied only to donations made until the end of 2005. Thereafter, Congress repeatedly renewed the expansion each year, often waiting until the last days or hours of the year to retroactively authorize the expanded enhanced deduction. Short term, last-minute expansions of the enhanced deduction generated considerable uncertainty and made it impossible for non-C-corporations to rely on the enhanced deduction in their budgeting, discouraged advanced planning. Thus, it failed to sufficiently incentivize long-term investments in food donation. The 2016 omnibus budget finally accomplishes what charitable food providers and food waste fighters have, for years, called on Congress to do: it extends the enhanced tax deduction to all businesses on a permanent basis for all future years (and retroactively for 2015). The broad, reliable availability of the enhanced deduction ends years of “will they or won’t they” anxiety. It should encourage businesses of all types and sizes to establish long-term food donation programs, build relationships with community partners, and promote the highest and best use of excess healthy, wholesome food.
#2: Higher Deduction Cap
Congress also raised the annual limit on deductible food donations. The enhanced deduction previously capped the total deductions for food donations at 10% of a business’ total taxable income for the year. Starting in 2016, however, businesses will be permitted to claim food donation deductions up to 15% of the donor’s net income. Increasing the cap from 10 to 15% will allow food businesses to realize greater financial benefit each tax year and may encourage businesses to donate even more surplus food, not just the “low hanging fruit.” Generously, after 2015, the businesses will also be allowed to carry forward any food-donation related deductions in excess of the 15% of income limitation for up to five years. This provides a way to realize future benefits of food donation even if a business has a year in which income is disproportionately low or its donation value is especially high.
#3: Clearer Formula for Calculating the Deduction
Beginning in 2015, certain donors to will be allowed to calculate basis value, the cost of acquiring the donated food, in a simplified manner. (This change applies to taxpayers who legally do not account for inventories and are not required to capitalize indirect costs.) Basis value is necessary to calculate the deduction enhancement. Under the old formula, businesses that used the cash balance method of accounting (tracking cash in and cash out) rather than the accrual method of accounting had a hard time determining basis value for their food donations. The new law allows for basis to be calculated as 25% of a product’s Fair Market Value. Now, donors who use different accounting methods can easily claim the enhanced deduction by choosing to use a fixed basis value for their goods.
4. Fair Market Value Determination
Donors have also been perplexed about how to determine the Fair Market Value (FMV) for wholesome but non-conforming or unmarketable food products, those that they are unable to sell because the products do not meet internal brand standards, lack a market, are past a quality date, or are missing labeling information. In the past, it was not clear that such food was still worth its original FMV for purposes of claiming the deduction or whether its FMV had decreased because of the market-facing defect. Some businesses were disadvantaged because they had to calculate the deduction for unsalable food based on a significantly reduced FMV. The diminution in the recognized value of the donated food and the reduction value of the resulting deduction often made donation uneconomical.
To avoid this unintentional disincentive, the new legislation clarifies that the FMV of such food can be calculated with reference to the price of the same or substantially similar food items sold by the business. This updated, more accurate FMV standard will encourage businesses to recover and donate food that is unsalable yet wholesome and safe by helping to defray the costs of separation and donation.
The Food Recovery Project (FRP) is very encouraged by the passage of this new legislation, with is undoubtedly progress towards the development of a more comprehensive body of food conservation policy. FRP Director, Nicole Civita, along with many other food recovery leaders, advocated for changes to the tax incentives for food donations akin to those recently passed. For the past several years, the Food Recovery Project, in partnership with the Harvard Food Law & Policy Clinic (FLPC) has brought attention to the benefits and shortcomings of prior food donation-related tax policy. In November 2015, the FRP & FLPC co-published a legal guide to the Federal Enhanced Tax Deduction for Food Donation. Indeed, in the guide, we pointed out that the deduction was not as powerful as it could have been because, at the time of publication, it was only permanently authorized for C-corporations. We are gratified that our efforts at education and advocacy in this arena may have, in some small ways, contributed to this important step forward.
The FRP & FLPC are presently working on updates to our legal guide to the Federal Enhanced Tax Deduction for Food Donation. We will co-publish a revised version this winter.