The last quarter of each year is traditionally peak season for charitable giving. And while most people are familiar with the corporate and individual income tax incentives associated with charitable donations, sales and use tax policy also has implications for retailers who donate items from their inventory of merchandise and goods.
The tax treatment of inventory donations varies greatly among states. Since most retailers do not pay sales tax when purchasing items for resale, as such purchases are largely exempt, the withdrawal of items from inventory generally requires the remittance of use tax. This remittance offsets the non-collection of tax at the initial time of purchase. However, some states make exceptions to this rule. For example, Vermont exempts inventory withdrawals made for the purpose of donating to organizations that qualify for exempt status under 26 U.S.C. §501(c)(3) (as well as agricultural organizations under §501(c)(5)). This federal standard establishes eligible donees as those who organize and operate exclusively for enumerated purposes—namely religious, charitable, scientific, testing for public safety, literary, educational, and prevention of cruelty to children or animals; whose earnings may not benefit a personal or private interest; and who are not an “action” organization. California offers a similar exemption, though it narrows the scope of qualified religious organizations to those located within its borders.
However, not all states are as inclusive. Illinois applies use tax anytime inventory is gifted, “regardless of the type of entity to whom it [is] donated,” including organizations that are otherwise offered tax-exempt status by the state. Oklahoma has a comparable policy, though it provides a limited exception for items donated to aid tornado relief. Earlier this year, Arkansas attempted to add a provision classifying donations of inventory to charity as having been “sold” for purposes of resale, effectively bypassing the use tax hurdle. Though ultimately unsuccessful, the accompanying Legislative Impact Statement provided information that could be useful for future efforts, such as the projected sales tax revenue loss upon implementation—approximately $1 million for its first year. Currently, Arkansas only exempts withdrawals from inventory when donated to disaster relief efforts.
It is also important to remember that an accurate determination of use tax liability requires a look at the state’s sales tax base. That is to say, if an item is not subject to sales tax in a state, it will generally be exempt from use tax as well. Accordingly, retailers who donate food have an advantage over those who donate other tangible personal property. Many states either exempt sales of grocery items or offer reduced rates. As a result, supermarkets are often able to donate these items to food banks and other organizations without incurring use tax liability. Prepared food, on the other hand, is generally subject to sales tax, and thereby—use tax. That means donations of prepared food by retailers will require remitting use tax, unless the state provides an exemption.
Retailers in states without exemptions in this area who seek to avoid remitting use tax will have to stick to old-fashioned cash donations, or new(er)-fashioned e-gift cards, for now.
Continue the discussion on Bloomberg BNA’s State Tax Group on LinkedIn: Do you think more states should exempt donations of inventory to charitable organizations?
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