As you might have heard, the Tax Cuts and Jobs Act (TCJA) passed at the end of last year and is now effective for your 2018 taxes (the ones due in April 2019). While there are individuals, families, and companies who benefit from the new tax plan, Non-profits and charities unfortunately take a hit. The TCJA did impose additional taxes on non-profits/charities, but the big hit I will be addressing here is the reduced tax-incentives for those giving to these organizations. This major change inevitably affects your tax bill and philanthropic giving strategies and may require strategy adjustments.
On a very simple level, taxes work like this:
Step 1) Calculate your income.
Step 2) Take deductions to lower your income.
Step 3) Calculate your taxes based on this “lower” income number (Your Taxable Income).
Deductions Under Previous Tax Law
There are two main types of deductions that can be taken to lower your taxable income. Standard deductions refer to the automatic $12,700 deduction applied to your taxes regardless of income (upper tax brackets do not receive as much). Itemized deductions refer to deductions applied based on the ways your money is spent. Itemized deductions include: your charitable contributions, state and local taxes, property taxes, mortgage interest, and more, but for the remainder of the article we will only assume you have charitable deductions (for simplicity’s sake).
If the total of your itemized deductions is less than $12,700, the standard deduction of $12,700 will be applied instead of itemized deductions. However, if your itemized deductions exceed $12,700, your itemized deductions will be applied instead of the standard deduction. In other words, the deduction (standard or itemized) that provides the greatest benefit will be applied in each case.
The graph below further explains tax deductions. Along the bottom of the graph you'll see the amount given, and the bars represent the tax deduction for that amount. The colors of the bars in the graph change at the point where itemized deductions exceed the standard deduction.
The TCJA almost doubled the standard deduction amount. Now, married taxpayers have a standard deduction of $24,000 and single individuals have a standard deduction of $12,000 (as opposed to $12,700 for married taxpayers and $6,350 for individuals). This means that fewer taxpayers will itemize their deductions due to the standard deduction being so high.
Under previous law, if you gave $20,000 to a charity, you would apply this as an itemized deduction since it exceeds the previous $12,700 standard deduction. Now, if you gave $20,000 (assuming that it is your only itemized deduction), you would still take the standard deduction ($24,000). From a tax perspective, this change lowers incentive for charitable giving since you will not receive an additional deduction unless your giving exceeds $24,000.
The graph below shows the new tax law. You can see that more bars are red indicating that at even higher giving levels, many individuals will still be taking the standard deduction.
How Does This Affect your Charitable Giving Strategies?
In a previous blog post, I discussed non-deductible giving and concluded that as Christians, our giving should not be motivated by the opportunity for a tax deduction. Giving motives should not be the benefits that we reap from the gift (tax deductions), but rather, a natural response to the radical generosity of the Father toward us. Ultimately, the tax deductibility of your gift should not determine how much or whether or not you give. However, in order to steward our generosity wisely, here are some considerations regarding the new tax law:
If you give more than the standard deduction and therefore benefit from charitable giving deductions, you might choose to give back the amount that you save on taxes. Your financial advisor or CPA can help you calculate your tax savings, so you know how much is available to give away. Over time from this, your giving will exponentially grow.
For example, assume that you made $100,000 and you gave away $50,000. Because you are itemizing your deductions and not taking the standard deduction you might save about $2,000 on your tax bill (lots of assumptions being made in this calculation). Because you saved $2,000 on your taxes because of your giving, you could give $52,000 the next year instead of $50,000.
While your itemized deductions may be limited due to the large standard deduction, there are other ways to gain a tax benefit from your giving. Generally, you pay taxes when you sell an investment that has grown during the period that you held it. You can avoid paying taxes on this growth if you do not sell the investment, but you donate it to a non-profit.
As an example, suppose you have an investment that you bought for $50,000 and is now worth $75,000 instead of selling it, paying around $4,000 in taxes, and donating $71,000 to charity, you can donate the full investment to charity without selling it. The charity receives $75,000 and you do not own any taxes from the growth. Whether you itemize or take the standard deduction, this is still available to you.
Additional, complex options are out there for those looking to make the most impact with the finances they are stewarding. These include: giving from certain retirement accounts if you are over 70.5 years old, opening Donor Advised Funds, or tax-efficient giving accounts, and others. These are too complex to discuss in this short post, but if you are interested in learning more, please feel free to reach out.
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