For S corporations, partnerships, sole proprietorship and limited liability companies any charitable donations are reflected on their owners personal income tax returns and not on their business tax return. This discussion focuses on the tax impact of charitable contributions made by C corporations and not the above types of companies.

Nowadays businesses are bombarded with requests from charitable organization for donations. These requests come from the small local charities such as the local schools or scholarship funds and from large national organizations such as the American Heart Association. Being a good corporate citizen requires that you assist non-profits in carrying out their purposes. However, being a good corporate citizen doesn't mean that you should ignore any business benefit which can arise from making these contributions.

The simplest form of contribution is cash. Your write a check and the charity cashes it. Assuming that the charity is a qualified 501(c)(3) organization, which means that the IRS has given its blessing that the charity may receive tax deductible contributions, then you have a potential tax deduction. If you give $1,000 to charity, then your federal tax savings is somewhere between $0 and $390 and your Massachusetts tax savings is either $0 or $95, depending upon your net income.

This is a good place to explain what is meant by potential tax deduction. A corporation may only deduct qualified charitable donations up to 10% of the corporation's net income. Thus if your corporation has a net taxable income of $20,000 before deducting your charitable contributions, then you may deduct up to $2,000 in donations. If your actual donations were $3,000 then you could carry the excess $1,000 over to your next tax year. There are some other adjustments to net income which would require you to consult with your CPA or tax preparer if you have significant charitable contributions.

Watch out if the business owner or the owner's family receive a benefit from the charitable donation. If that happens, the donation is treated as a dividend to the owner and is taxed at the both the corporate and personal tax level. If you give a $20,000 corporate donation to the college which your child attends and your child receives a $20,000 scholarship from that college, then you could be faced with a personal tax liability for that donation.

Your gift does not have to be in cash. You could give that computer, excess inventory or office desks to a charity and get a tax deduction for it. Generally the amount of the deduction is the fair market value of the item given. However, this must be adjusted in certain circumstances.

The deduction for a gift of inventory, real or personal property used in your business is its fair market value less any ordinary gain which would have resulted if the inventory had been sold. This provision essentially makes the deduction equal to the cost of the inventory. However, there is a special provision for gifts to organizations which will use the donation to serve the ill, needy or infants. The deduction is the lesser of (we now descend into tax jargon): (A) The basis of the property plus one-half of the ordinary income that would have been recognized if the property were sold for fair market value on the contribution date; or (B) twice the basis in the property.

How's that for complicated? This is another of those "consult your CPA or tax advisor" points in the discussion.

The charity which receives this donation must use the items in its charitable activities and may not sell them to realize cash for the organization. There is a provision in the new tax law which provides the same benefit for contributions of computer technology to primary and secondary schools (K-12). The law becomes effective for donations made in 1998 and 1999.

The charitable contribution of tangible personal property must be adjusted if the charity's use of the property is unrelated to its purpose. The donation's fair market value must be reduced by the amount of long term capital gain which would have been realized if the asset had been sold. This basically limits the deduction to the assets basis (cost less depreciation). This provision was put into the law to minimize the deduction when a charity sells a gift.

The gift of property which has gone up in value can be an enormous benefit to the donor. If the property has been owned for over 12 months (18 months under the new tax law) the amount of the deduction is usually the fair market value of the gift on the date it is given. Thus if your company owns Microsoft stock which cost it $1,000 and which is worth $90,000 today. It may be beneficial to give the stock to a charity rather than making a $90,000 donation in cash. The deduction would be the same but the corporation would avoid paying taxes on the $89,000 gain.

Again, consult your CPA or tax advisor before trying this yourself.

For many small corporations, the above discussion is moot. Their net income is so small that the charitable deduction is lost in the limit imposed by the IRS that donations can only be 10% of net income. What's a company to do?

When is a charitable deduction not a charitable deduction? When it is a deductible business expense. A transfer to a qualifying charity which is directly related to the taxpayers business and is made with a "reasonable expectation of financial return" may be deductible as a business expense. The most obvious example of this is the payment for an ad in a non-profit's publication.

If you provide services to a charity and make a donation to that charity to maintain your business relationship, then you probably can deduct the cost of the donation as a business expense rather than as a charitable donation. If you make a donation to a local charity which will provide you with the opportunity to meet with and sell your product or services to the non-profit or other businesses and you expect to realize a reasonable return on the investment, then the cost could be deductible. These rules are best used when you are giving cash to a charity. Your general donations to the local scholarship fund or the Pop Warner football team would be hard to classify as a business expense.

As you can see, even the check for $100 you give to the local charity can be a complex tax transaction. If your donations are large enough or if you have some non-cash items to give away, it would pay to learn how to make these donations in a tax smart way.