Under the Tax Cuts and Jobs Act of 2017, the approximate doubling of the basic standard deduction amounts, along with major restrictions on many itemized deductions, will likely hurt the tax benefits of charitable giving for many individuals. The individual charitable contribution deduction is allowed only as an itemized deduction, and many individuals who previously itemized will now choose the larger standard deduction. Yet a number of planning opportunities are still available to help individual taxpayers receive tax benefits from their charitable contributions. Here’s a look at some of the possibilities.
BUNCHING DEDUCTIONS
The bunching of deductions, which involves timing the payments of tax-deductible items to maximize the itemized deductions in one year (rather than spreading the different payments across multiple tax years), is a planning idea that was common under prior tax law and now takes on added importance. While there are a number of practical constraints on the ability to bunch deductions, it should be relatively easy to at least time the charitable contribution itself. As a simple example, consider a married couple who each year has $15,000 of charitable deductions and $8,000 of other itemized deductions and who would probably choose the $24,000 (inflation adjusted) basic standard deduction each year rather than itemizing. If they could simply bunch two years of charity into one year, they could claim $38,000 of itemized deductions for that year and still take the standard deduction in the other year, increasing their total deductions by about $14,000.
Essentially the taxpayers are giving two years’ worth of contributions in one year and nothing in the other. But as a practical matter, social pressures and ongoing fundraising solicitations from the charities may make that awkward. So how do you bunch multiple years’ contributions into one year while doling out the money to the charities more evenly each year? Very wealthy individuals might create a private foundation or some other more exotic vehicle. For most taxpayers, however, the answer is a donor advised fund (DAF).
DONOR ADVISED FUNDS
DAFs are available through many charitable organizations, including charities that were created for this purpose by various financial organizations, such as Fidelity, Vanguard, and Schwab. While DAFs impose various restrictions and generally charge fees, they can provide valuable benefits.
Suppose an individual taxpayer sets up a DAF at a brokerage firm’s public charity and makes contributions to the charity to be held in the DAF. Deductions are generally subject to the percentage of adjusted gross income (AGI) limits that apply to public charities (including the new 60% limit for cash contributions, where applicable). The money belongs to the charity once the contribution is made, and the taxpayer can’t get it back. The money is usually invested in an investment fund selected by the taxpayer and grows on a tax-free basis. The taxpayer typically has the right to recommend grants to any IRS-qualified public charity. Thus, the taxpayer could bunch many years’ worth of charitable contributions into the DAF in one year, claim a giant deduction (subject to the deduction limits), and then grant out the money to many different charities over many years.
Bunching deductions using a DAF can be done with contributions of certain appreciated long-term capital gain property to create very powerful results. For example, a taxpayer contributes stock that has been held long-term for investment. It has an adjusted basis of $10,000 and a fair market value of $30,000. The taxpayer deducts the full $30,000, subject to the 30% of AGI limit that applies to such contributions. The charity will generally sell the stock—with nobody ever paying tax on that $20,000 gain—and deposit the proceeds in the designated investment account under the taxpayer’s DAF to be held until the taxpayer recommends that they be granted to another charity. This may be particularly handy when a taxpayer wants to donate small amounts to various charities but a bunch of small stock contributions would be cumbersome.
QUALIFIED CHARITABLE DISTRIBUTIONS
To receive tax savings from charitable giving while taking the standard deduction (including the additional standard deductions for elderly or blind taxpayers), an individual with an IRA who has attained age 70½ might be able to use a qualified charitable distribution (QCD) to have an otherwise fully taxable IRA distribution go directly to charity. This would keep the amount (up to $100,000 per year) off the individual’s return altogether. It achieves the equivalent of a charitable deduction without itemizing.
The QCD is counted toward meeting the required minimum distribution rules, and it offers various other advantages. For example, by keeping the distribution out of gross income, in some circumstances the QCD may reduce other taxes, such as income taxes on Social Security benefits, the Medicare contribution tax on net investment income, and even some states’ income taxes.
In addition, the lower modified AGI resulting from the QCD might result in lower Medicare Part B and Part D monthly premiums for some higher-income taxpayers. And there are many means-tested programs where a QCD, if respected in determining income, could improve some taxpayers’ eligibility. For example, it might affect property tax relief, subsidized senior housing, and prescription drug assistance.
LEAVE-BASED DONATION PROGRAMS
Under leave-based donation programs, employees forgo vacation, sick leave, or personal leave in exchange for payments by the employer to eligible charities. This might offer the opportunity to benefit a charity while keeping the contribution out of the taxpayer’s income, thus saving income and employment taxes. Unfortunately, the IRS has indicated that amounts forgone under such programs are generally income to the employee. But it has issued favorable guidance on these programs in limited circumstances for limited time periods, specifically, ones related to September 11 and relief for victims of specified emergencies and disasters. A recent example is Notice 2017-70, which addresses leave-based donation programs to aid California wildfire victims.
Most of these planning opportunities involve other detailed rules and restrictions that will require further consideration. A lot depends on the particular circumstances and the combination of numbers, including the possible impact of the alternative minimum tax. But planning can often lead to significant tax savings from charitable giving, even with the new increased standard deduction.
© 2018 A.P. Curatola
May 2018
