Internal Revenue Service
Revenue Ruling
Rev. Rul. 68-174
1968-1 C.B. 81
Sec. 163
Sec. 170
Caution: Distinguished by Rev. Rul. 78-38
IRS Headnote
A debenture bond or a promissory note issued and delivered by the obligor
to a charitable organization represents a mere promise to pay at some
future date and is not a `payment' for purposes of deducting a contribution
under section 170 of the Internal Revenue Code of 1954. However, a
deduction is allowable under section 170 of the Code for the payment made
to redeem the bond or for the required face amount payments made to the
holder of the note irrespective of whether the payments are made to the
charitable organization or to a subsequent transferee.
Full Text
Rev. Rul. 68-174
In addition, a deduction is allowable under section 163 of the Code for the
interest paid on the obligations only if they are enforceable. If the
obligation is not enforceable, any payment of `interest' is allowable as a
charitable contribution.
Advice has been requested whether a deduction is allowable under section
170 of the Internal Revenue Code of 1954 in the situations described below
and, if so, in which year the deduction is allowable.
Situation 1: The taxpayer, a solvent corporation using the accrual method
of accounting, in 1965 issued and delivered without consideration its
registered six percent debenture bond to an organization described in
section 170(c) of the Code. The bond is redeemable in 1968 and is freely
transferable without the taxpayer's approval. However, under local law, it
is not an enforceable obligation in the hands of the charitable
organization.
Situation 2: The taxpayer, a solvent individual using the cash receipts and
disbursements method of accounting, in 1965 issued and delivered without
consideration to an organization described in section 170(c) of the Code
his negotiable promissory note for 50 x dollars bearing interest at six
percent per annum. The terms of the note called for payment of one-half of
its face value plus interest in 1966 and the remaining one-half with
interest in 1967. Upon default of the first payment or of the interest, the
full amount of the note and interest becomes immediately due and payable.
The charitable organization discounted the note at a bank in 1965, at the
discount rate of six percent, for 47 x dollars. The bank, as transferee of
the promissory note, qualifies under local law as a holder in due course so
that the obligation to pay is enforceable. Payments were made by the
taxpayer to the bank, not an organization described in section 170(c) of
the Code, in the years 1966 and 1967 as required by the note.
In both situations 1 and 2 all payments (of principal and interest) were
made when scheduled.
Section 170(a)(1) of the Code provides that in computing taxable income
there shall be allowed as a deduction (within the limitations of subsection
(b)) any charitable contribution (as defined in subsection (c)) payment of
which is made within the taxable year.
Section 1.170-2(a)1() of the Income Tax Regulations provides that a
deduction is allowable to an individual under section 170 only for
charitable contributions actually paid during the taxable year, regardless
of when pledged and regardless of the method of accounting employed by the
taxpayer in keeping his books and records. With an exception not here
relevant, this provision is also applicable to comtributions made by a
corporation.
In the case of Norman Petty, et ux. v. Commissioner , 40 T.C. 521 (1963),
the Tax Court of the United States denied a deduction claimed as a
contribution for the value of a negotiable demand promissory note
transferred to a charitable organization. In a concurring opinion Judge
Atkins stated:
The general rule has always been that, under the cash method of accounting,
there must be actual payment as a prerequisite to a deduction, that is,
there must be an outlay of cash or property, and that the giving of a
promissory note does not constitute actual payment. See Eckert v. Burnet ,
283 U.S. 140; Helvering v. Price , 309 U.S. 409; and Baltimore Dairy Lunch
v. United States , (C.A. 8) 231 F.2d 870. It was the purpose of Congress,
in enacting section 23(o) and (q) of the Revenue Act of 1938 (which first
employed the language now appearing in section 170(a)(1) of the 1954 Code),
to put accrual method taxpayers in the same position, insofar as deductions
for contributions are concerned, as cash method taxpayers, and to require
in the case of either type of taxpayer that the contribution be actually
paid .
Since the passage of the Revenue Act of 1938, the income tax regulations
have consistently required that a charitable contribution be actually paid
as a prerequisite to the deduction, regardless of the taxpayer's method of
accounting. See also Lewis C. Christensen v. Commissioner , 40 T.C. 563
(1963), and House Report No. 1860, Seventy-fifth Congress, C.B. 1939-1
(Part-2), 728, at 741.
Accordingly, in situations 1 and 2 the issuance of the debenture bond and
the prmissory note represents a mere promise to pay at some future date,
and the delivery of the bond and note in 1965 to the charitable
organization is not a `payment' within the meaning of section 170 of the
Code. Therefore, no deduction as a charitable contribution is allowable for
such year.
However, when the payment was made to redeem the bond in 1968 in situation
1 , and when the required face amount payments were made to the holder of
the note in 1966 and 1967 in situation 2 , a gift or contribution was
`actually paid' at such times. Accordingly, subject to the limitations of
section 170 of the Code, a deduction is allowable to the taxpayer in
situation 1 for the amount paid in 1968 to the charitable organization to
redeem the bond, and in situation 2 for the payments made to the bank in
1966 and 1967 of the face amount of the note (50 x dollars).
Section 163 of the Code provides that there shall be allowed as a deduction
all interest paid or accrued within the taxable year on indebtedness. In
order for an `indebtedness' to exist, there must be an enforceable
obligation to pay.
Accordingly, the amount designated `interest' on the debenture bond in
situation 1 is not deductible as interest under section 163 of the Code
since the bond was not enforceable in the hands of the charitable
organization. However, the amount paid as `interest' is, subject to the
limitations of section 170 of the Code, deductible as a charitable
contribution in the year in which it was paid.
The amount designated `interest' under the terms of the note in situation 2
is deductible as interest when paid to the transferee of the charitable
organization since at such time the promissory note was an enforceable
obligation.
