In PLR 201848005, the IRS has ruled that shares of stock indirectly contributed by Taxpayer to a private foundation constitute "qualified appreciated stock" (QAS) under Section 170(e)(5)(B).

Facts

Taxpayer is the sole trustee of a private foundation that is exempt from tax under Section 509(a), however it is not a private foundation described in Section 170(b)(1)(F) (Private Foundation). Taxpayer indirectly contributed stock of Corporation to Private Foundation. The contributed shares were held by a limited liability company (LLC), whose sole member was a trust (Trust) for which Taxpayer was also the sole trustee. Prior to the contribution, the LLC held the shares for more than one year as a capital asset. As of the contribution date, the fair market value of the shares exceeded their adjusted basis.

The stock of Corporation is regularly traded on a national securities exchange registered with the Securities Exchange Commission (SEC). Taxpayer, and entities controlled by Taxpayer, are subject to insider trading policies with respect to Corporation that require Taxpayer and such entities to conduct purchases and sales of Corporation securities pursuant to SEC Rule 10b5-1. Furthermore, in the instrument executing the contribution, LLC agreed not to take any action that would restrict the ability of Private Foundation to sell the contributed shares as a result of the volume restrictions contained in SEC Rule 144(e).

Taxpayer represented that, following LLC's contribution of the shares, Taxpayer, Trust and LLC will not have contributed in aggregate more than 10% by value of Corporation stock to Private Foundation taking into account prior gifts of Corporation stock contributed by Taxpayer, Trust and LLC to any private nonoperating foundation.

Law

Section 170 and QAS

Although Section 170(a) generally allows a deduction for any charitable contribution, Section 170(e)(1)(B)(ii) provides that the amount of any charitable contribution of property to or for the use of a private foundation, as defined in Section 509(a) (other than a private foundation described in Section 170(b)(1)(F)), shall be reduced by the amount of gain that would have been long-term capital gain if the taxpayer had sold the contributed property at its fair market value determined as of the date of contribution.

Under Section 170(e)(5)(A), Section 170(e)(1)(B)(ii) shall not apply to any contribution of QAS. Section 170(e)(5)(B) defines QAS as any stock of a corporation: (1) for which, as of the date of the contribution, market quotations are readily available on an established securities market, and (2) which is capital gain property (as defined in Section 170(b)(1)(C)(iv)).

Securities Act and SEC rules

The Securities Act, section 5, provides, in part, that it is unlawful for any person, directly or indirectly, to sell a security to the public unless a registration statement is in effect as to the security. However, section 4(a)(1) of the Securities Act provides that section 5 shall not apply to transactions by any person other than an issuer, underwriter or dealer. SEC Rule 144 sets forth a safe harbor for deeming certain persons not to be "underwriters" of securities. SEC Rule 144(e) includes a limitation on the amount of securities sold.

For insider trading cases brought under Section 10(b) of the Exchange Act and Rule 10b5 thereunder, SEC Rule 10b5-1 defines when a purchase or sale constitutes trading "on the basis of" material nonpublic information.

Analysis

The IRS stated that the shares contributed indirectly by Taxpayer to Private Foundation are stocks for which, under Section 170(e)(5)(B), market quotations are readily available on an established securities market.

The IRS determined, based on Taxpayer's representations, that the fact that Taxpayer and entities under Taxpayer's control are subject to insider trading policies (requiring Taxpayer and such entities to conduct purchases and sales of Corporation stock pursuant to SEC Rule10b5-1) does not subject the shares to any restriction that materially affects the shares' value to Taxpayer as donor or prevents the shares from being freely traded.

The IRS further concluded, based on Taxpayer's representations, that the volume limitations of SEC Rule 144(e) do not subject the contributed shares to any restriction that materially affects the shares' value or prevents the shares from being freely traded.

Accordingly, provided the requirements of Section 170 are otherwise satisfied, the IRS ruled that the Corporation shares contributed by Taxpayer indirectly to Private Foundation constitute QAS under Section 170(e)(5)(B).

Implications

This ruling represents an affirmation of the IRS's historical treatment regarding contribution of QAS to a private foundation.

Donation of QAS is an attractive method for the contribution of appreciated property to a private foundation, because the fair market value of the securities are fully deductible to the donor. This is especially true for a corporation that wants to contribute its own publicly traded stock to an affiliated private foundation. However, contributions of stock by affiliated donors are subject to additional restrictions imposed by the SEC, including Rule 10b5-1 and Rule 144(e).

Although technically subject to the insider trading and volume restrictions imposed by the aforementioned SEC Rules, the IRS has ruled in previous PLRs that contributed stock that otherwise met the criteria for QAS, and that was not subject to any other legal restrictions, was not materially restricted and would be treated as qualified appreciated stock (see PLR 9825031). A significant fact present in this PLR was a written agreement requiring the donor to refrain from any action that would inhibit the ability of the private foundation to sell the contributed shares per the volume restrictions contained in SEC Rule 144(e).

The consistent treatment of stock contributions throughout these PLRs indicates the IRS's willingness to support the classification of such contributions as QAS when the same underlying factors are present. Accordingly, donors desiring QAS treatment of contributed securities to private foundations should ensure that the following facts are present at the time of their own stock contribution:

1. The contributed stock is traded on an established exchange.
2. The contributed stock has been held by the donor for at least one year.
3. The contributed stock does not constitute more than 10% of the outstanding stock of the corporation.
4. The contributed stock is not subject to any legal restrictions governing the stock's value or future sale.
5. At the time of contribution, a hypothetical sale of the stock would meet the requirements of SEC Rule 144(e).
6. The written agreement effecting the contribution includes a clause stating that the donor will not take any action that would restrict the ability of the private foundation to sell the contributed shares per the volume restrictions as stated in SEC Rule 144(e).

A private letter ruling is a written statement issued to a particular taxpayer that interprets and applies tax laws to the taxpayer's specific, represented set of facts, and may not be used or cited as precedent by other taxpayers or by IRS personnel. Thus, although the ruling is instructive on how the IRS might rule regarding a particular matter, organizations are cautioned not to rely on the ruling as authority and to consult with their tax advisors to determine the tax consequences of their own facts and circumstances.

Please contact your Ernst & Young LLP tax professional with any questions.

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