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§ 9.3 INVENTORY“designed to reimburse the donee organization for its administrative, warehousing,or similar costs.” 66An example of the application of these rules follows:EXAMPLE 9.1A pharmaceutical company (not an S corporation) had a basis in certain products (inventory) of$1 per item. The products are normally sold for $10 each. The company donated the productsto charity for qualified purposes shortly before their expiration date; because of the imminenceof the expiration date, the products were valued at $5 at the time of the gift. The corporationclaimed a charitable deduction of $10 per item. Following an audit, however, the IRS said thatthe proper deduction was $2 per item. This conclusion was reached as follows.First, the amount of the potential deduction had to be reduced by one-half of the amount ofgain that would not have been long-term capital gain if the property had been sold by the donorat its fair market value on the date of the contribution. If the amount of the charitablecontribution that remains after this reduction exceeds twice the basis of the contributedproperty, the amount of the charitable contribution must be reduced a second time to anamount that is equal to twice the amount of the basis of the property.Under these rules, if the company had sold the property at its fair market value on the date ofits contribution, the company’s amount of gain would have been $4 per item. This gain wouldhave been ordinary income, rather than long-term capital gain. Thus, the company wasrequired to reduce the fair market value of its contribution ($5 per item) by one-half of the gain($4 per item ÷ $2 per item), leaving an amount of $3 per item. Because the amount of thecharitable deduction that remained after the first reduction (that is, $3 per item) is in excess oftwice the basis of the contributed property, a second reduction must occur in the amount of $1per item, resulting in a charitable contribution deduction of $2 (twice the basis) per item. aaRev. Rul. 85-8, 1985-1 C.B. 59. The IRS had some difficulties with this rule. A substantially similar ruling waspublished in 1983 (Rev. Rul. 83-29, 1983-1 C.B. 65), but the formula was incorrectly applied. The IRS tried tocorrect this mistake later in the year (Ann. 83-128, 1983-32 I.R.B. 30), but again misapplied the formula. The1983 ruling as permanently published correctly applied the formula. Nonetheless, the IRS clarified it in the1985 ruling by stating that “[n]o inference should be drawn [from this ruling] as to the fair market value ofany products donated by any corporation shortly before the expiration date of the products” and that the “fairmarket value of the products donated will depend on the facts and circumstances surrounding those particularproducts at that particular time.” (Rev. Rul. 85-8, 1985-1 C.B. 59, at 60). For more on this point, see thediscussion in Lucky Stores v. Commissioner, 105 T.C. 420 (1995).Here is an example of this rule as it concerns fees:EXAMPLE 9.2X is a food bank, organized and operated as a tax-exempt charitable organization. X receivessurplus food from donors out of their inventory and distributes the food to other charities, whichin turn give the food to needy persons. X charges a small fee to cover administrative,warehousing, and similar costs. X permissibly charges this fee on the basis of the total numberof pounds of food distributed to the transferee charities. X may not, however, charge a fee onthe basis of the value of the food distributed. aaRev. Rul. 85-8, 1985-1 C.B. 59.This special rule does not apply to a transfer of donated property directly froman organization to ill or needy individuals, or infants. 6766 Reg. § 1.170A-4A(b)(3)(ii).67 Id. 277