In light of COVID’s devastating impact on many not-for-profit groups and organizations, the IRS included a provision in the 2020 CARES Act (and more recently extended through 2021) that taxpayers can deduct 100% of cash contributions to qualifying charitable organizations. This means a charitably minded taxpayer could conceivably give so many gifts as to reduce his/her taxable income to $0 and eliminate any taxes due that year. Prior to passage of the CARES act, cash contributions were limited to 60% of your AGI, or Adjusted Gross Income (gross income less deductions.) Note that further restrictions on deducting these cash contributions is whether you itemize deductions on the tax return rather than claiming the standard deduction, and to which type of charity you are gifting.
What could this strategy look like?
Here’s a hypothetical examplei:
Genevieve (files single) had an AGI of $400,000 in 2021, putting her in a high tax bracket. Instead of being taxed at a marginal tax bracket of 35%, Genevieve could make a Qualified Contribution of $400,000 to reduce the amount she would owe in taxes for 2021 to $0.
Before you alter your current charitable giving plan, though – consider the following:
1. Does the charity you have in mind satisfy the restrictions?
As stated above, only qualified charities are eligible for this 100% AGI deduction. These types of charities are public charities (such as a community foundation, a church, etc.) or certain private foundations (such as a domestic fraternal society) See the IRS websiteii for more information about which organizations qualify. A popular choice for many taxpayers making large charitable gifts is to direct the gifts into a Donor Advised Fund to receive an immediate tax deduction, and issue charitable grants from this fund later. However, Donor Advised Funds do not qualify for this 100% AGI charitable gifting deduction.
2. Do you have cash available to gift?
While gifting cash is often the easiest way to contribute to a charitable organization (especially for small gifts) it is rarely the most tax efficient, especially if you must sell securities to raise the cash in the case of a large gift.
Giving a security that is currently at a long-term capital gain saves the taxpayer from having to sell to raise cash – in fact, taxpayers may specifically target these types of securities for giving to avoid having to pay a large tax bill themselves.
Hypothetical Examplei: Charlie plans to make a $50,000 contribution to the local animal shelter. He doesn’t have this much cash on hand, so donates $50,000 worth of securities with a cost basis of $20,000. This saves Charlie paying taxes on $30,000 of capital gains ($50,000 value less $20,000 basis). The caveat is that giving securities to a public charity is limited to 30% of a taxpayer’s AG
3. Is it worth taking the entire deduction in one year?
Assuming that the taxpayer’s intention is to ultimately give the gift, albeit in a way that’s also tax efficient, the taxpayer would be receiving a lesser tax benefit by reducing their taxable income to $0 today than spreading the gift out over a couple years to reduce the taxation at the highest tax brackets. Remember our tax system is based on marginal tax brackets, which are essentially a staircase up where additional income is taxed at higher rates, compared to one tax rate applied evenly across all income. In reverse (as the taxpayer descends) the additional tax benefit percentage diminishes.
If the taxpayer is normally in a high tax bracket, such as the 37% bracket, and reduces her taxable income into the 35%, 32%, 24%, 22%, 12%, and 10% tax brackets, this means with every additional dollar she gives, she receives less of a tax benefit.
Consider instead of saving taxes at the 10% or 12% bracket, the taxpayer could decide to spread this gift out over a few years – while the taxpayer would still have a tax bill, she would likely fall in a lower tax bracket resulting in savings at a higher marginal tax rate.
When could this 100% AGI strategy be effective?
If this year of high income is a unique occurrence, and the taxpayer both expects to be in a lower bracket going forward and has the means to make a charitable contribution large enough to offset her taxable income now, taking advantage of the increased deduction in 2021 is beneficial.
Hypothetical Examplei: Betty recently sold her business Even after additional planning measures, Betty will recognize $500,000 in income for the year. However, Betty has always had a goal to create an endowment for her alma mater, so decides to use this opportunity to fund using the cash on hand. This endowment offsets her income for the year, bringing her tax owed to $0.
4. What if I want to make the charitable gift, but don’t want to deduct 100% against my income?
Another option for taxpayers who wish to make the full charitable contribution immediately but don’t want to offset their total income that year is to treat the charitable giving as an otherwise typical charitable contribution eligible for deduction up to 60% of AGI. Without making the special election to deduct gifts up to the full AGI level, excess charitable gifts can be carried forward and claimed within the next 5 years. The election of how to treat a charitable gift is made on the tax return, so taxpayers have some time to consider how to treat any cash gifts made during 2021.
While the primary objective of most charitably minded individuals is giving for the sake of supporting causes close to their hearts, many taxpayers are also keen to benefit from any associated tax benefits. We recommend developing your charitable gifting strategy in conjunction with your financial advisor and CPA to ensure your gifting plans dovetail with your overall tax planning.
i The hypothetical examples listed above do not reflect the actual situation or results of any RegentAtlantic clients.
Important disclosure information
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This article is not a substitute for personalized advice from RegentAtlantic. This article is current only as of the date on which it was sent. The statements and opinions expressed are, however, subject to change without notice based on market and other conditions and may differ from opinions expressed in other businesses and activities of RegentAtlantic. Descriptions of RegentAtlantic’s process and strategies are based on general practice and we may make exceptions in specific cases.
RegentAtlantic does not provide legal or tax advice. Please consult with a legal and or tax professional of your choosing prior to implementing any of the strategies discussed in this article.