Statement of Harry L. Gutman, JSY Foundation

I appreciate the opportunity to submit a statement for the record on behalf of the JSY Foundation in connection with the Subcommittees’ examination of H.R.7, the Community Solutions Act of 2001.

H.R.7 is designed in part "to provide incentives for charitable contributions by individuals… [and] to improve the effectiveness and efficiency of government program delivery to individuals and families in need." In this statement I address three additional items that, if adopted, would further the objectives of H.R.7. The three items are:

1.    Permit a fair market value deduction for charitable contributions of marketable securities to private   foundations;

2.    Accord "public charity" status to certain medical research organizations whose principal purpose is the support and coordination of research into rare/orphan diseases; and

3.    Repeal or extend the five year limitation period on the carryforward of excess annual charitable contributions.

Section 170(e)(5) of the Internal Revenue Code ("the Code"), in general, permits a fair market value deduction for contributions to a private foundation of stock of a corporation for which, as of the date of the contribution, (1) market quotations are readily available on an established securities market or from at least 5 dealers, and (2) the donor would have realized long-term capital gain had the stock been sold for fair market value. The Code, however, does not permit a full fair market value deduction for contributions to private foundations of securities other than stock, even if the contributed securities are regularly traded on an established market.

To encourage additional charitable contributions to private foundations, section 170(e)(5) should be amended to include securities for which, as of the date of the contribution, (1) market quotations are readily available on an established securities market or from at least five dealers, and (2) the donor would have realized long-term capital gain had the securities been sold for fair market value.

Section 301 of the Deficit Reduction Act of 1984 added Code section 170(e)(5). Prior to enactment of paragraph (5), section 170(e) generally limited the deduction for contributions of appreciated capital assets to private foundations to adjusted basis. Section 170(e)(5) was enacted "to encourage donations to charitable private foundations." E.g., S. Rep. No. 104-281, at 43 (1996), reprinted in 1996 U.S.C.C.A.N. 1474, 1517; H.R. Rep. No. 105-148, at 370 (1997), reprinted in 1997 U.S.C.C.A.N. 678, 764. The market quotation requirement was intended to limit deductibility to "situations in which the potential for abuse, including overvaluation, is minimized." H.R. Rep. No. 98-432, pt. 2, at 1464 (1984), reprinted in 1984 U.S.C.C.A.N. 697, 1107.

The legislative history of section 170(e)(5) does not provide any reason why the provision was limited to corporate stock. Given the expressed congressional intent to encourage donations to private charitable foundations, the provision should be expanded to include other actively traded securities (such as U.S. Treasury and agency issuances) securities, so long as there is no opportunity for valuation abuse.

II. Accord "public charity" status to certain medical research organizations whose principal purpose is the support and coordination of research into rare/orphan diseases.

Section 170(b)(1) of the Code limits the deduction for charitable contributions to 50 percent of the donor’s contribution base in the case of "public" charities and certain private foundations described in section 170(b)(1)(A) and to 30 percent of the donor’s contribution base in the case of other private foundations.

The 50 percent contribution limitation applies with respect to contributions to a "medical research organization directly engaged in the continuous active conduct of medical research in conjunction with a hospital, and during the calendar year in which the contribution is made such organization is committed to spend such contribution for such research before January 1 of the fifth calendar year which begins after the date such contribution is made." Section 170(b)(1)(A)(iii). (emphasis added.) The 50 percent limitation also applies with respect to contributions to an organization "which normally receives a substantial part of its support….. from direct or indirect contributions from the general public." Section 170(b)(1)(A)(ii). Finally, the 50 percent limitation applies to contributions to "private operating foundations." Section 170(b)(1)(A)(vii).

Certain organizations whose principal purpose is the support and coordination of research into rare/orphan diseases may fail to meet the technical requirements for qualification under sections 170(b)(1)(A)(iii), (vi) and (vii), because (1) their research is primarily conducted indirectly, (2) a substantial portion of the contributions they receive comes from one or a small number of donors, or (3) the research cannot realistically be conducted by the organization itself.

To encourage efficient research into rare/orphan diseases, section 170(b)(1)(A)(iii) should be amended to include organizations whose principal purpose is to directly or indirectly engage in the continuous active conduct of medical research into rare/orphan diseases, as defined in section 45C(d)(1), without regard to the five year expenditure rule.

Individuals are most likely to make charitable contributions in support of medical research if they, a family member, or a friend has suffered from the disease or condition that will be the subject of the research. Thus, research into diseases that strike large numbers of people is typically better funded, by a broader range of contributors, than so-called "rare/orphan diseases." This limited donor base creates both practical and tax barriers to effective research into rare/orphan diseases.

In part as a result of fewer research dollars being available, fewer researchers are exclusively involved in the study of a particular rare/orphan disease. Further, the few researchers who are at least partially involved are more likely to be scattered among a number of hospitals or other institutions, rather than gathered together at a single institution. The disease being researched is not usually sufficiently common to warrant a specialty practice within any given hospital.

Effective coordination of research activities into rare/orphan diseases requires a "virtual institution" to direct the work being done in various places. Current income tax rules discourage the creation of such "virtual institutions" because the 50 percent charitable contribution limitation is available under section 170(b)(1)(A)(iii) only where research is done directly, in the MRO’s or hospital’s own designated facilities. The "virtual institution", by its nature, must reach across a number of hospitals and institutions to conduct, coordinate and consolidate the necessary research. This practical reality should be recognized and the beneficial treatment accorded other medical research organizations extended to virtual research institutions as well.

The fact that there are many fewer contributors to research into a particular rare/orphan disease than contributors to research into more common conditions also means that any individual contributor is more likely to represent a significant percentage of the funds contributed for such research. Consequently, the organizations funding this research cannot usually qualify for the increased contribution limitation as publicly supported charities.

The proposal accommodates the policy objective of providing realistically targeted incentives to conduct effective, efficiently supervised and funded research into rare/orphan diseases. However, one additional feature of existing law must also be changed to reflect the reality of rare/orphan disease research. Under current law, medical research organizations must be committed to spending 3.5% of assets annually plus all contributions within five years. Expenditures to fund effective rare/orphan disease research do not fit neatly into limited time periods. Research progresses erratically and the largest expenses, high throughput screens and drug trials, take place late in the process, many years after the initial experiments. While it may be the case that a five year expenditure requirement does not alter the research agenda in some cases, in most cases it surely will. In any event, there is little perceived danger in permitting a rare/orphan disease research organization to determine the most effective expenditure schedule for its contributions, so long as they are ultimately used for that purpose. Thus, the proposal includes a provision that would eliminate the five year expenditure requirement in the case of "virtual" medical research organizations.

Section 170(d)(1)(A) provides that contributions to charities described in section 170(b)(1)(A) ["public charities"] in excess of 50 percent of the tax payer’s contribution base may be carried over to each of the five succeeding taxable years pursuant to a specified ordering rule. The five year carryforward limitation has the effect of disallowing charitable contribution deductions in some cases, despite the fact that the charity has received the total contributed amount.

Repeal or extend the section 170(d)(1)(A) five year limitation period.

The five year carryover period was enacted as part of the Revenue Act of 1964. Prior to its enactment, charitable contributions that exceeded the annual limit were wasted (while excess corporate contributions could be carried over to future years). The 1964 Act created a carryover provision for excess individual charitable contributions in part to put individuals in parity with corporations but, in the words of the Senate Finance Committee:

More important, however, this will make it unnecessary for taxpayers desiring to make contribution of a substantial nature to a charitable organization to carefully divide the gift into parts, contributing each in a separate year, or perhaps giving undivided interests in a property, up to their applicable limitation, to the charitable organization in each of a series of years. Not only is the present practice complicated for the donor but it also creates problems for the charitable or educational organization. Where they are given undivided interests in a property over an extended period of time, they may find it impossible either to sell or to use the property over this same period of time while their interest in it gradually increases from year to year. S. Rep. No. 88-830, at 61 (1964), reprinted in 1964 U.S.C.C.A.N. 1673, 1733-34.

Similar problems continue to exist today, particularly with respect to gifts of appreciated property as to which a donor cannot bifurcate the contribution without risking future loss of value. More fundamentally, there can be no objection in principle to an unlimited carryover. After all, the charity has received the property. Administrative concerns may dictate some limit on the carryover period, but there is no reason to confine it to five years.