This Insights article was contributed by Chris Massey, CPA (NC License Number 39147), a senior team member at Adam Shay CPA, PLLC.
Taxes have long been used to achieve certain societal goals, or at minimum incentivize acting in a certain manner. For example, in 1698 Peter the Great implemented a “beard tax” in order to modernize Russian society. During this time Russian citizens could either shave their beards or pay the tax which was ultimately based on their facial hair status.
Similarly, the charitable contribution deduction was introduced with the War Revenue Act of 1917 to encourage taxpayers to continue making charitable donations despite significant increases to the marginal tax rate system (the top tax rate being 67 percent).
Fast forward 100 years and the U.S. Tax Code has undergone some of the most significant changes in its history with the passing of the Tax Cuts and Jobs Act (“TCJA”), including changes to the charitable contribution deduction. Note that many provisions within the TCJA are set to sunset in 2026. In other words, these sunsetting provisions (which includes charitable contribution deduction provisions) are only effective through tax year 2025.
The purpose of the remainder of this article is to highlight the key changes to charitable contribution deductions and offer some basic tax planning strategies as a result.
Generally speaking, charitable contributions are allowable as deductions when a taxpayer is claiming itemized deductions. Itemized deductions should only be claimed if they are greater than the taxpayer’s standard deduction (the floor, if you will).
The TCJA increased the standard deduction (the floor) for married filing jointly taxpayer’s to $24,000 ($12,700 in 2017), married filing separately and single taxpayer’s to $12,000 ($6,350 in 2017), and head of household taxpayer’s to $18,000 ($9,350 in 2017). As a result, many taxpayer’s are now claiming the standard deduction which means fewer taxpayer’s are able to deduct their charitable donations.
Historically, the charitable contribution deduction has had several limitations on the ability to deduct them. Before the TCJA, the limitation on cash donations was 50% of a taxpayer’s adjusted gross income. For example, if a taxpayer’s 2018 adjusted gross income was $300,000, generally up to $150,000 of cash donations would be allowed as a charitable contribution deduction. Following the TCJA, this limitation is now 60 percent of adjusted gross income for cash donations. Any amount that is nondeductible is allowed to be carried forward up to five years.
Non-cash contributions, however, have different limitations. Deductions for gifting long-term capital gain property (e.g. stock that has been held greater than a year) generally is limited to 30 percent of adjusted gross income. Furthermore, deductions for charitable gifts of tangible personal property (e.g. donating an organ to a church) must first be reduced by the appreciation of the asset. Note that the rules may differ if the property contribution doesn’t serve the charity’s purpose.
Considering the above limitations on deducting different types of charitable donations and the increase in the standard deduction, there are still several tax planning opportunities to get the optimal tax benefit of making charitable donations.
For taxpayer’s that are claiming the standard deduction in 2018 when they historically have taken itemized deductions (including charitable contribution deductions), they may want to consider “bunching” their donations every other year. For example, instead of donating $10,000 to a church or charity each year consider donating $20,000 in year one, foregoing any donations in year two, and making another $20,000 in year three may prove to be more tax advantageous. Note that in the “bunching” years, consider also bunching property donations in addition to the cash donations. For example, donate clothing and other household items to charities in year one along with the $20,000 cash donation.
Assuming the same facts, another strategy would be to set up a Donor Advised Fund (“DAF”). These are not as burdensome as one might assume. It is typically a $5,000 minimum to set it up and the administration is relatively easy. A DAF is essentially a charitable investment account whereby you contribute cash or other property into the account and take an immediate income tax deduction (if itemizing). Subsequently, those funds can be invested for tax-free appreciation and you can recommend grants to virtually any qualified public charities.
Taxpayers who are 70 ½ or older may consider transferring to charities out of their taxable IRA accounts (called a qualified charitable distribution) up to $100,000. Doing so counts towards your required minimum distributions which means the amount contributed would not be subject to income tax. You do not get a tax deduction for it but the effect is the same (both reduce your taxable income).
For taxpayer’s that are using investments to fund charitable donations, consider donating appreciated securities directly to the charities instead of cashing them out. This is doubly beneficial as you pay capital gains tax on stock sales, whereas donating the stock directly avoids capital gains tax and also the appreciated value is generally deductible (not just what you paid for it). Conversely, consider selling loss securities and using the cash proceeds to make a cash donation. This would provide up to a $3,000 deduction for net capital losses as well as provide an income tax deduction for the cash donated if the taxpayer itemizes.
The above is only intended to address federal income tax issues without regards to state income tax implications. Each state has its own rules around deducting charitable donations. The team at Adam Shay CPA, PLLC feels strongly that charitable giving should never be solely tax motivated. However, if you are going to donate you should try to do so in a tax efficient manner.
Chris Massey, CPA (NC License Number 39147), is a senior team member at Adam Shay CPA, PLLC. He focuses on implementing tax strategies for entrepreneurs and helping them to achieve their goals. For more information, visit http://www.adamshaycpa.com/ or email him at [email protected]. Chris can also be reached by phone at (910) 256-3456.
Caroline Montgomery, CPA (NC License Number 39017), MSA, is tax manager and partner of Adam Shay CPA, PLLC. The most rewarding part of what she does is helping business owners and individuals achieve their goals, all while working with a dynamic team that is growing quickly. The firm focuses on a proactive approach by encouraging clients to minimize taxes via income tax planning and projections, or by focusing on other areas of their business as part of the firm's Virtual CFO services. The firm also offers tax preparation, fraud and forensic accounting and tax issue resolution services. She moved to Wilmington in 2014 and started at the firm in 2015. Caroline graduated with her her undergraduate and graduate degree in 2010 from East Carolina University. She is actively involved with NourishNC as their Treasurer and enjoys volunteering with various organizations throughout New Hanover County. In her free time, Caroline enjoys spending time with her husband, Mike, and dog, Mason, as well as travelling and going to the beach.
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