Although many deductions were eliminated with the new tax reform law, the charitable deduction remains largely unchanged. Still, a doubling of the standard deduction is raising questions among taxpayers about how to handle charitable donations if they choose not to itemize.
The new higher standard deduction could potentially have a negative impact on charitable donations. It is estimated that only 10% of taxpayers will itemize under the new law, down from the 30% who itemize today. Since more taxpayers will choose to use the new standard deduction and not itemize, this may reduce the number of smaller charitable gifts. People may be less likely to donate small amounts because if they do not itemize deductions, they will not realize a specific tax benefit for those gifts.
At the same time, the tax law eliminates some caps on deductions in general. In the past, under the Pease rule, itemized deductions for higher income taxpayers (for example, couples with adjusted gross income over $313,000 in 2017) were phased out gradually up to a maximum of 80% of those deductions. Since the new tax law repeals the Pease rule, there are no phaseouts at higher income levels. While there are fewer deductions available in the new law, higher-income filers would not be phased out for the deductions that remain, including charitable contributions.
Here are some charitable giving strategies that may help some investors benefit from tax advantages.
Wealthier investors may want to “lump” charitable contributions into one year. Instead of giving regularly each year, combining three to five years’ worth of gifts into one year may allow investors to itemize deductions for that particular year. The deductions would have to be greater than $24,000 for a married couple (higher than the standard deduction). For the other years, they would take the standard deduction of $24,000 for couples. In general, fewer taxpayers are expected to itemize since the cap on the deduction for state/local income, sales, and property taxes is $10,000 in aggregate. A strategy to manage this challenge is to invest in a donor-advised fund (DAF) in one year to claim the charitable tax-itemized deduction and then make periodic gifts out of the DAF over the course of several years.
Retirees may consider using a provision of their individual retirement account (IRA) to direct money to charity. Eligible retirees, age 70½, may choose to direct up to $100,000 annually tax free from their IRA to a qualified charity.
Considering the changes to the tax code being implemented in 2018, it is important to meet with a financial advisor or tax professional with an understanding of your personal financial situation, and how the deductions and strategies fit in with your overall financial plan. To understand the details of the new law, read Putnam’s investor education piece, “Examining the Tax Cuts and Jobs Act.” Additionally, advisors may want to discuss other strategies with investors highlighted in “Ten income and estate tax planning strategies for 2018.”