For as long as we’ve had a federal income tax (1913), Congress has used the tax law to encourage and discourage certain behaviors. One behavior that Congress has highly encouraged since 1917 is charitable giving. Many people know that charitable contributions can be used as an itemized deduction for federal income tax purposes, but what some people do not realize, however, is that there are multiple ways to give to charity. And thanks to changes made by the Tax Cuts and Jobs Act in December 2017, how you choose to give may have never had a greater impact on your ultimate tax bill!
The Tax Cuts and Job’s Act Impact on Charitable Planning
One of the Tax Cuts and Jobs Act’s most important changes related to charitable giving was the increase of the standard deduction. For 2018, the standard deduction was increased to $12,000 for single filers, and to $24,000 for married couple filing joint returns. There is also an additional amount added the standard deduction for each filer 65 or older, and for those who are legally blind ($1,300 each for 2018).
The standard deduction is a “freebie” deduction the government gives you. Alternatively, if the total of your itemized deductions, such as your state and local taxes (currently limited to $10,000), mortgage interest, deductible medical expenses, and charitable contributions are greater than your standard deduction, you can deduct that higher amount from your adjusted gross income (AGI), instead of the standard deduction.
Having said that, since state and local tax deduction are now limited to no more than $10,000, and mortgage interest is generally paid monthly with little flexibility – and it’s few people intentionally try and “rack up” medical expenses, charitable contributions become the focal point when trying to maximize the government’s “gift” of the standard deduction.
Example: Married Couple with $14,000 in Charitable Deductions in 2018 versus the Standard Deduction
$10,000 State and Local Taxes
$14,000 Charitable Deductions
$24,000 Itemized Deductions
$24,000 Standard Deduction
If every year, you and your spouse have $10,000 in deductible state and local taxes, and another $14,000 in charitable contributions, your total itemized deductions would equal $24,000. Since the government would give you the greater of your itemized deductions ($24,000) or a $24,000 standard deduction, your charitable contributions in the example above would generate zero tax savings. In other words, you could have given absolutely nothing to charity and your taxes would have been the same.
That, of course, certainly doesn’t mean that you shouldn’t give to charity… if you’re charitably inclined, you should do that regardless of whether or not you receive a tax benefit, but… if you’re going to give to charity no matter what, you might as well do so in a tax-efficient way, right? With that in mind, here are a few “simple” strategies to consider.
One strategy to help take advantage of the increased standard deduction is to “lump”, or bunch, your charitable contributions. For example, suppose instead of donating $14,000 to charity in 2018 and another $14,000 in 2019, you wrote a $14,000 check to charity in January 2019 (right at the start of the year) and another $14,000 check to charity in December 2019 (at the end of the year). The delayed contribution would likely have only a minimal impact on your charity of choice, but the tax benefit to you could be significant.
Assuming you had the same $10,000 of state in local taxes for 2019, your total itemized deductions for 2019 would be $38,000, compared to the $24,400 inflation-adjusted standard deduction for 2019. The end result of this maneuver is that you would have the same $24,000 deduction for 2018 as if you gave “normally”, but in 2019, instead of taking “only” a $24,400 standard deduction, you’d have $38,000 of itemized deductions!
Example: "Bunching" in 2019 instead of donating in 2018 and 2019.
$10,000 State and Local Taxes
$10,000 Itemized Deductions
$24,000 Standard Deduction
$10,000 State and Local Taxes
$28,000 Charitable Deductions
$38,000 Itemized Deductions
$24,400 Standard Deduction
Your total tax deductions over the two years would be $62,000 instead of $48,400 simply because you wrote next year’s check at the end of this year.
Gifting Appreciated Stock
As noted above, adjusting the timing of your charitable contributions can be a powerful tax planning tool, but so too can adjusting what you give to charity. For example, many people would be better off gifting appreciated stock or other investments to charity instead of giving them cash.
Consider, for a moment, the stock market’s performance in the last ten years. Given the market’s rise, you may be holding some positions with large, long-term unrealized gains (a.k.a. “paper gains”). If you sell off those stocks, you will owe tax on the appreciation, which could be up to 23.8%, depending on your level of income… and that’s just for federal income taxes!
What if, however, instead of selling some of your stock with long-term capital gains, you gave it to your charity of choice? Doing so could get you a double tax savings, by not only getting a deduction for the full fair market value of the donated stock, but by also by avoiding the capital gains taxes you would have otherwise paid when selling it.
But what if you really like the investment and don’t want to get rid of it? In many cases, it still makes sense to use this strategy, and to simply buy the stock right back with the cash you would have otherwise given to charity.
The end result of such an approach? You avoid capital gains tax on the gain in your donated investment, you get a deduction for the full value of the investment, and you now own the same investment (by virtue of the repurchase) with a basis equal to what you paid for it today!
And in case you’re wondering… yes, you can use this strategy in conjunction with bunching!
Why Don’t More People Do Stuff Like This?
One big reason why some people don’t use strategies like those outlined above to give to charity is that they are simply not aware that they exist. They may be relying on their CPA or other tax professional to guide them, but frankly, during the chaos of tax season, most tax preparers are more concerned with tax preparation than they are with planning.
Some people also shy away from bunching because they want to give their charity on a recurring annual or monthly basis, instead of via a large one-time gift. With some additional planning, however, such as potentially incorporating the use of a donor-advised fund, this is an obstacle that can be overcome.
Another limiting factor to consider is that the value of the appreciated property, like stock, cannot be deducted beyond 30% of your adjusted gross income (AGI). For many, this is not an issue, but those looking to donate large amounts of appreciated stock should be mindful of the limit.
At the end of the day, the key point is this… if you’re going to give to charity, you might as well do it in a way that is tax efficient. So, if your total itemized deductions are near the new increased standard deduction amount, you should place increased importance on exploring strategies like gifting appreciated assets or, at a minimum, bunching deductions, to yield a bigger tax benefit from your charitable donations.
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