The tow-away tax break: why car donation programs benefit everyone but the charities they're intended to help.

PERHAPS YOU'VE SEEN THE FLYERS or heard the ads on the radio: Donate your used car to charity and we'll arrive at your home, arrange the title transfer, and tow away your old clunker, giving the proceeds to your favorite charity. Over the past few years, hundreds of popular charities have launched such programs as a way to raise money, including the Red Cross, MADD, Big Brothers/Big Sisters, Easter Seals, and the United Way. To most people, it sounds like a great deal. Getting rid of an old car is a hassle. Giving it to charity, on the other hand, leaves you with a warm feeling--and a nice tax deduction, too, since the government allows those who donate a used car to deduct its full "fair-market value." So it's no surprise that car donation drives are increasingly popular, especially with civic-minded upper-middleclass types. Who ever said coddled yuppies don't have hearts?

Unfortunately, there's a catch, though you're unlikely to hear about it from television ads, phone operators, or tow-truck drivers. Just because Uncle Sam gives you a $1,000 tax deduction for donating your car doesn't mean that Easter Seals will receive a check in the same amount. The problem with car donation programs is that most of the benefits accrue not to the charity, but to the person who donates a car. So popular are these programs that I didn't have to look far for an example to demonstrate how badly they're flawed. In early March, the editor-in-chief of this magazine, Paul Glastris, bid farewell to his broken-down 1991 Volkswagen Jetta, and donated it to the good folks at the American Cancer Society. Like millions of Americans, Paul liked the idea of helping a charity, and didn't mind the tax break, either. The Jetta was, he admits, "undrivable." It had a burned-out engine, more rust that Michael Jordan's knees, and "what you might call `ever-expanding head and leg room'--the interior molding was perpetually disintegrating onto the passengers and driver," he told me. Paul's mechanic told him that the car was junk.

So he picked up the phone, dialed the American Cancer Society's "Cars for a Cure" program, and arranged for a pickup. Shortly after, he received a receipt listing the car's mileage (80,000) but saying nothing of its woeful condition or estimated worth. (Under federal law, tax deductions are do-it-yourself.) Paul followed the charity's instructions to visit either the Kelley Blue Book or the National Automobile Dealers Association (NADA) Web sites to determine the fair-market value of a '91 Jetta, which in turn determines the size of his tax deduction (for people in the 28-percent tax bracket it's about one-third the value of the car). NADA offers a three-tiered system--High, Medium, Low--to determine the quality and value of a used car. Even a car that rates "low" must be able to pass local inspection standards and run safely. But the giver is the sole determinant of the car's value, so there's nothing stopping Paul, or anyone else, from claiming the low estimate ($2,475), the medium one ($3,425), or even the high one ($4,150). For Paul, that corresponds to a tax break of anywhere from about $700 to about $1,200.

So how close are these figures to the actual value of Paul's dilapidated Jetta? There's no category for "heap of junk," so to find out just what price his car might fetch, I called Insurance Auto Auction, the company that will auction Paul's car. (For cost and convenience, most used cars aren't resold to customers, but auctioned for scrap.) They estimated that a '91 Jetta in the condition described would bring about $100 to $200. In other words, Paul stands to receive a tax deduction approaching $1,000 for a car worth, at best, $200.

But the scandal doesn't end there, because not all of that sum will go to the Cancer Society. That's because most charities don't have the resources to run car donation programs themselves, and instead rely on private fundraising companies to run their program. These companies enjoy a virtual monopoly that lets them extract an exorbitant chunk of the car's value: From that $200, deduct the towing fee, the title-transfer fee, advertising fees, and employee salaries--all before the company even takes its share of the profit. By the time the check for Paul's car reaches the charity's coffers, the American Cancer Society will be lucky to get $100.

Accounting Only Enron Could Love

For all their seeming practicality, donated car programs are one of the least efficient ways to help charities raise money. They also drain much-needed tax revenue. The federal government doesn't track just how much revenue is forfeited in this way--nor do most states--but a study from the California attorney general's office provides a glimpse of just how wasteful this system can be. The study revealed that of the $37 million raised by commercial fundraisers in 1991 through the sale of donated vehicles, only $11.5 million reached charities. The remainder went to the fundraisers. And keep in mind that that $37 million is the money raised by selling the cars--it's a fraction of the amount taken in tax deductions by those who were able to deduct the full Blue Book value of their cars. So the problem is twofold: Charities are victimized by fundraisers to which they're beholden, while the IRS offers tax deductions to raise money that charities never see. Extrapolate California's example across all 50 states and the amount of tax revenue lost is staggering. The federal government is forfeiting hundreds of millions of dollars in tax revenue in order to allow charities to collect a fraction of that sum. It's the practical equivalent of the Pentagon's $600 toilet seats.

That hasn't stopped the programs from flourishing. These days, ads for car donation programs are everywhere--radio, television, newspapers. The American Kidney Foundation's "Kidney Car Program," the largest such program in the country, collected 72,000 vehicles last year, a 78 percent increase just in the last five years. Several years ago, the Better Business Bureau estimated that the average metropolitan city donates between 8,000 and 10,000 cars a year (that equates to $4 million to $5 million dollars in revenue)--a figure industry experts consider extremely conservative and outdated. Today, an educated guess would put the national figure at around two million cars donated to charity annually, with a value of around $1 billion.

According to Bennett Weiner, chief operating officer of the Better Business Bureau's Wise Giving Alliance, there is no single factor for the sudden proliferation of car donation programs, but a confluence of several factors: consumer convenience, cash-strapped charities, and old-fashioned greed. Like any competitive industry, charities must vie with each other for a limited pool of donations. When first introduced in 1978 by the Davis Memorial Goodwill, which serves the greater Washington, D.C. metropolitan area, car donation drives were an intriguing new way to add to this pool. In its first year, Davis Memorial received only five vehicles (compared with 4,063 cars last year), but this was enough to begin a national trend. Before long, private fundraising companies cropped up and began marketing their services to charities. By taking care of the logistical problems that were often difficult for charities to handle--towing and transfer of title--these companies made car donation programs not only profitable, but easy to implement. Their message, says Weiner, was appealingly simple: nonprofits "don't have to put up any money ... don't have to do anything but sign a contract." In exchange for lending their name to these private fundraising companies, charities receive a welcome infusion of new funds, which Weiner says is considered "found money," since the charity does little more than cash a monthly check. Coupled with the public's inherent loathing of used car dealers, it's easy to see why there has been a national surge both in charities participing in these programs and people donating cars to them.

Vehicle Vultures

Because most charities rely on private companies to facilitate their car donation programs, they're essentially helpless to prevent fundraisers from keeping the bulk of the proceeds. To understand why this system yields so little for charities, it's necessary to understand how private, for-profit fundraising companies operate. Fortunately, some states, such as California, require fundraisers to detail their annual expenditures and gross income. These reports offer the best glimpse of where the money actually goes and how third-party agents often gouge charities with exorbitant commissions and fees.

One such company is Car Program LLC, which operates America's Car Donation Charities Center and has contractual relationships with 178 different charities, from the American Life League to the New England Shelter for Homeless Veterans. In 1999 it raised nearly $5.2 million in the name of Agape Village, Inc., a shelter for homeless children in Pleasanton, Calif. But by the time the company had deducted its $4.6 million in expenses (including nearly $600,000 in fees and $686,000 in salaries) only $566,713 remained for the homeless shelter--or about 11 cents for every dollar collected. Put another way, for every used car that sold at auction for $400 (a typical sum), Agape Village collected just over $40.

This is hardly an isolated example. The same year, Sterling Star Company, another private fundraiser in San Francisco, managed to raise $525,053 in the name of Shiloh International Ministries. But after collecting $85,000 in fees, $77,000 in salaries, and $332,000 in expenditures, Shiloh was left with a mere $30,001.

Raising revenue through donated cars is difficult even when charities don't depend on intermediaries. Consider the case of another California charity, the Cerebral Palsy Center for the Bay Area, which contracted with a fundraising company called Vehicle Donation Processing Center. Of the $72,000 the company raised, it kept only $12,000 in commissions and salaries. Yet after other expenses--mainly, the $41,800 it spent on advertising to encourage donations--the charity received just $9,124. So it's no surprise that, on average, California charities that contracted with private fundraisers received only 31 percent of the gross revenue that the funds raised.

Don't Ask, Don't Tell

Private fundraisers are only half the problem. The government also forfeits a huge chunk of tax revenue to a much less conspicuous group: people who donate their cars to charity and take a deduction. To be sure, it is perfectly legal to deduct the full "fair-market value" of a donated car. But as a means of raising money for charities, that doesn't make much sense.

Even car dealers admit that a car's Blue Book value is inflated, even for vehicles in good condition. Most couldn't be sold for the figure listed. A donated car's value also drops practically from the moment it leaves your driveway. This stems from the circumstance in which donated cars are sold. For the sake of ease, most fundraisers put the cars up for auction, rather than selling them to individual buyers, which would yield more money, but consumes too much of a fundraiser's time to be profitable. With few exceptions, auctioned cars tend to sell in the $400 to $500 range, even if their fair-market value is estimated to be much higher. So even those who stringently follow IRS guidelines overestimate the value of donated vehicles, which, by definition, is highly inflated.

Just how many millions of dollars in tax revenue is lost through inflated car donation deductions is a mystery. The IRS doesn't track the figure. Except in cases where laws are clearly violated, it gives jurisdiction over professional fundraisers to state attorneys general. But in practice, this amounts to no oversight at all. As one former Treasury official told me, "They make it a point not to be spying on charities."

Nor are fundraisers eager to publicize the figure and draw attention to their sweetheart deal. Michael Nilsen, a spokesman for the Association of Fundraising Professionals, conceded that records for car donation programs are "kind of a loosey-goosey type of thing right now" and couldn't put a figure on it. The fundraisers I contacted for this article all declined as well, one even citing fear of competition as a reason he couldn't offer specifics.

The biggest revenue losses in vehicle donation programs, then, don't stem from swindles or scams or even tricky accounting, but from the millions of dollars the IRS willingly forfeits each year on cars that are donated according to the letter of the law.

Constitutional Pile-up 

The best way to fix the problem of unscrupulous fundraisers would to be set legislative limits on how big a slice of the pie they can take. But efforts to do so have been thwarted by the courts. Belinda Johns, who serves as California's deputy attorney general and president-elect of the National Association of State Charitable Officials, echoes the frustration of many state lawmakers when she says "there is nothing that can be done about it."

Several states have made unsuccessful attempts. Two early efforts wound up in the U. S. Supreme Court. Both Schaumburg v. Citizens for a Better Environment (1980) and Secretary of State of Maryland v. Joseph H. Munson Co. (1984) sought to protect citizens and charities from fraud and abuse by establishing an acceptable percentage of revenue that fundraisers could retain. Both were overturned on the grounds that using a percentage-based "litmus test" infringes on the rights of charities to seek contributions and stifles free speech.

In 1985, the North Carolina state legislature tried again, attempting to enact a law that could withstand the court's decisions. Acting on a study which showed that fundraisers regularly withheld fees and commissions that accounted for well over half of the charitable money they collected, lawmakers passed the North Carolina Charitable Solicitations Act, which prohibited fundraisers from retaining "unreasonable" or "excessive" fees. On its face, the law was a model of good sense. It created a three-tiered system to determine if a fundraiser's fees were reasonable, and required fundraisers to disclose to potential donors what percentage of proceeds they had raised in the previous year had been passed on to charities.

And while it granted nonprofit fundraisers the privilege of soliciting without a license, it required all professional fundraisers to obtain one. The law's opponents sued, and in the 1988 case of Riley v. National Federation of the Blind, the Supreme Court declared all three of the law's provisions unconstitutional. In effect, this established the limits to government regulation of fundraisers. A state cannot impede fundraisers' soliciting; fundraisers cannot be compelled to disclose their financial status to potential donors; and nonprofit and for-profit fundraisers must be afforded equal rights and privileges in licensing. In effect, a charity can conceal practically anything it wants. As a result, the most states can do to curb aggressive fundraisers is go at the problem in roundabout ways, such as mandating that fundraisers submit their financial reports to state officials for public release, or requiring fundraisers to register as used car dealers. Though such legislative mandates are steps in the right direction, they do little to solve the problem. According to Taron Reeves of Car Program LLC, such laws pose little more than administrative hurdles.

Fixing the Flat

Since the Bush administration has shown itself willing to squeeze most federal programs to the limit, it's worth revisiting this outsized tax break. The car donation tax break is yet another whose benefits accrue largely to the most fortunate (poorer folks tend not to itemize). But the system is sustained mainly by inertia. One way Congress could curb the loss of revenue would be to limit the size of the used-car tax deduction to the actual sale price--not the Blue Book value--of a vehicle. California passed similar legislation in 1998, but stopped short of requiring donors to use the figure in determining their itemization--they are expected only to take it into account. Since most people donate their cars for charitable purposes, such a measure would not likely have a chilling effect on the level of donation.

It's also worth noting that while about 95 percent of fundraisers are for-profit entities, there are several good nonprofit ones, such as Charity Cars of Altamonte Springs, Florida, and the National Kidney Foundation's Kidney Cars program, which can be counted on to at least keep charities' interests in mind. Additionally, there are a few for-profit fundraisers that offer relatively fair returns to their charities, such as the National Vehicle Donation Company, which passes along 63 to 79 cents of each dollar collected depending upon the program.

With each car towed in the name of charity, donors benefit greatly, fundraisers obscenely, charities slightly, and the poor only occasionally. Charities that can't run their own program make do with a small check (which is better than no check). Taxpayers who donate their car are pleased to avoid the hassle and take their deduction. And fundraisers who feed on the system thrive. The only losers are the federal government, the taxpayers who finance it, and the needy who depend on charities--in theory, the very people this is supposed to benefit.

TYLER CABOT is an intern for the Washington Monthly.