The 2018 Tax Reform lowered taxes across the board for most Americans. Now that we’ve had a couple years of experience under this new tax code, we’re beginning to see how the tax cuts played out, specifically when it comes to charitable gifting. After the tax code change, the number of taxpayers who needed to itemize fell from 46.5 million to 18 million meaning nearly 90% of taxpayers can use the higher standard deductions ($12,400 for individuals and $24,800 for couples in 2020).
One unintended consequence charities feared was that without a specific tax benefit for making donations, people would lower their gifting since they are eligible for the same standard deduction whether or not they make a charitable contribution. Surprisingly, and thankfully, this is not what has actually happened. While there was a small dip in 2018, American charitable donations in 2019 marked the highest contributions ever, with individual donors leading the way. This tells us that people donate when they have more after-tax income and when the economy is strong, not when they are induced to do so because of the tax rate. Even though the primary motivation for gifting isn’t tax-driven, it’s still wise to consider all avenues of gifting as you make your plans for 2021.
The CARES act provided some temporary perks for charitable contributions and on 12/27, the second stimulus package was enacted and extends many of the charitable gifting provisions to 2021. There is an allowance for up to $300 of a taxpayer’s charitable contributions ($600 for Married Filing Joint) to qualify as an above the line deduction. This means you don’ have to itemize in order to claim this deduction, but it is for cash donations only. Also, for 2021, the 60% of AGI limitation for cash donations is temporarily raised to 100% of AGI. I’d like to highlight some additional gifting strategies in this memo that you may not know about.
Qualified Charitable Distributions (QCDs): Most of you are aware that beginning at age 72, 70 ½ if you turned 70.5 prior to 2020, you are required to start taking withdrawals from your IRA. But some of you may not know that there’s a way to satisfy your required minimum distribution (RMD) while giving directly to a qualified charity, avoiding taxes in the process. Such distributions are called Qualified Charitable Distributions (QCDs) and they are a win-win since the donated dollars never hit your adjusted gross income (AGI). These can only come from IRA’s, not 401ks and the max per year is $100k. For inherited IRAs, you must be over the traditional RMD startging age (70.5 or 72) to make a QCD. There are certain charities that are not eligible to receive QCDs so it’s important to check IRC Section 509 (a)(3) if you are unsure.
Bunching: If your charitable gifting for one year is not enough to get you over the threshold of the standard deduction, you may benefit from combining 2 years’ worth of contributions in one year. This helps you give more to the charity and save taxes. Here’s an example. If you have no mortgage, your state and local taxes are $12,000 and you typically give $10,000 charities, you will choose the standard deduction of $24,800 since there is a $10k cap of state and property taxes. However, if you were to give $20k to charities in one year, you would itemize deductions for a total of $30k.
Donating Appreciated Securities: Contributing appreciated securities to a charity continues to be an invaluable tax strategy. Donating appreciated securities means you don’t have to use your after tax income for gifting. It’s important to note that you would only donate securities that have increased in value that you have owned for more than a year. By gifting the shares rather than selling and donating the cash proceeds, you avoid paying the capital gains tax. If you itemize deductions, you can claim a charitable deduction equal to the stock’s fair market value. You are allowed to deduct contributions of appreciated assets up to 30% of your AGI for public charities and most private foundations.
Donor Advised Funds: These are charitable accounts set up in your name but held by large non-profit organizations. These organizations invest and manage the assets until you direct them to make donations to specific charities. You are able to contribute cash, securities or other assets such as real estate and you are eligible for an immediate tax deduction. After you’ve funded the account, you can recommend grants to any IRS-designated 501(C)(3) charity at any time. This is one way to apply the bunching strategy to get over the itemized deduction threshold. You can contribute to funds without having to choose which charity right away, but take advantage of the tax deduction. The tax deduction limit is up to 60% of AGI. It’s important to pay attention to fees and investment options when choosing a donor advised fund.
As you make plans for charitable gifting in 2021, I hope this helps you understand the implications of the deduction rules. Of course tax codes are constantly changing and with a shift in power at the White House, we’ll be sure to keep you up to date. As always, please let us know if you have any questions about the right gifting strategy for you.