Under the Tax Cuts and Jobs Act (the “Tax Act”), the new law preserves the deductibility of charitable contributions, restructures other itemized deductions, and increases the standard deduction. It is these factors that may make it less appealing for individuals to donate to charity. However, it is still too early to tell what the impact will be on the overall level of charitable giving.
Charitable Giving: Take the Standard Deduction or Itemize Your Deductions?
For some context, here is a comparison of the increases in standard deduction between 2017 and 2018 for those who are Married Filing Jointly (MFJ) and Single individuals.
|Married Filing Jointly||$12,700||$24,000|
When you compare these increases in the standard deduction with the restructuring of itemized deductions below, many taxpayers may find it more beneficial to take the standard deductions than to itemize. In prior years, only 30 percent of taxpayers itemized their deductions. It is estimated that fewer than 10 percent of taxpayers will continue to itemize under the new law.
|Medical Deductions||Subject to a 7.5% AGI limitation||No changes. 7.5% of AGI limitation (2019 – moves to 10% of AGI)|
|State and Local Taxes||Deduct all real estate taxes and state/local income taxes||State and local taxes limited to $10,000|
|Mortgage Interest Expense||Deductible limited to $1,000,000 mortgage (“acquisition debt”)||Limited to $750,000 on post 12/15/2017 acquisition loans|
|Home Equity Interest Expense||Limited to interest on $100,000 loan||Repealed|
|Other/Miscellaneous||Subject to a 2% AGI limitation||Repealed|
|Single Filer||If total of above deductions is greater than $12,700; then ITEMIZE||If total of above deductions is greater than $24,000; then ITEMIZE|
A few other changes to deductibility of charitable contributions include:
- 3 percent Itemized Deduction Adjustment (“Pease Adjustment”) – repealed in 2018. This adjustment reduces itemized deductions in 2017 for MFJ taxpayers with AGIs above $313,800; this is reduced for single filing taxpayers with AGIs above $156,900.
- Personal Exemptions – eliminated in 2018. In 2017, each exemption is worth $4,050 for the taxpayer, spouse, and dependents (please note: the child tax credit, however, is increased in 2018 from $1,000 to $2,000 for each qualifying child, and the phase-out range for this child credit is significantly increased).
- Alternative Minimum Tax (AMT) – a significant item that has impacted taxpayers for many years because of its complexities, additional reporting, and additional taxes. Under the Tax Act, however, the AMT impact is lessened. The exemption was increased from $84,500 in 2017 to $109,400 in 2018 for MFJ. The point at which the AMT exemption begins to be phased out is increased from $160,900 in 2017 to $1,000,000 in 2018 for MFJ. Lower regular tax rates in 2018, however, will move regular tax liability closer to AMT income, which might offset some of the impact of the higher exemption.
- The effective date for the above items is for tax years after December 31, 2017.
- Also, the above changes have a sunset date for tax years beginning after December 31, 2025.
The Impact on the Level of Charitable Contributions as a Result of the New Tax Law
Due to the changes in rules for itemized deductions and the larger standard deduction, taxpayers who no longer benefit from tax breaks may be less likely to donate or donate lesser amounts in the future. According to many analysts, it is estimated that charitable giving will drop four to five percent in 2018 as a result of the new tax law. On the other hand, there is some speculation that those who will benefit from lower tax rates will have more money after taxes, and will be more likely to donate. This is something charities will anxiously monitor in the coming years.
Tax Strategy – Bunching of Itemized Deductions
Due to the higher standard deductions in 2018, one strategy that taxpayers may want to adopt is bunching, or grouping of itemized deductions. This can be done by bunching deductions for a two-year period into one, and in the other year, claiming the standard deduction. Overall, taxpayers will make the same payments, the only thing that is altered is the timing of the deductions.
Joe and Mary typically have $12,000 of property tax and state income taxes in a year, charitable contributions of $15,000, no mortgage interest, and use married filing jointly status.
Under the new law, their itemized deduction for state and local taxes would be limited to $10,000, so their total itemized deductions would be $25,000 in a year, or $50,000 over a two-year period.
Bunching under the New Tax Law
If Joe and Mary, however, decide to bunch these deductions, they would not do anything as far as bunching their state/local taxes, as taxes are limited to $10,000 annually anyway; but if they pay two years of charitable contributions, or $30,000, in one year and none in the next, what happens?
In Year One, Joe and Mary would have $40,000 of overall itemized deduction ($10,000 for taxes + $30,000 for charitable contributions). In Year Two, they would only have the $10,000 of taxes, but would be allowed instead to take the standard deduction of $24,000.
Thus, over the two-year period, Joe and Mary would have $64,000 of total deductions; or $14,000 more than if they did not bunch. This could lead to an overall tax savings of perhaps $4,000-$5,000 depending on their tax bracket.
Bunching involves the same cash outflow; it just changes the timing of the deduction payments. What itemized deductions are good candidates to bunch? Charitable contributions (yes); medical (maybe); taxes (limited $10,000); and interest (difficult).
How to Apply Bunching Strategy in a University Setting
As noted above, the amount and timing of charitable giving may change as a result of the new tax law, and this will, in turn, impact most charities, including Universities. To alleviate this concern, here are some ideas for Universities to consider in implementing the above bunching strategy:
- Inform your donor base of the bunching strategy. Education is critical in this process.
- The University can try to avoid receiving double contributions in one year, and no contributions in the next year.
- For instance, alumni can donate in January 2019 and December 2019, and then not donate anything in the calendar year 2020. Therefore, they double their charitable contributions in 2019, and take the standard deduction in 2020.
- Result: The University receives one contribution in the fiscal year ending June 30, 2019, and one contribution in the fiscal year ending June 30, 2020, even though the alumni donor bunched their contributions.
- The University can consider accepting pledges based on the University’s June 30 fiscal year-end, rather than on a calendar year-end.
For more information on the new Tax Act, the bunching strategy, or other issues regarding charitable giving to Colleges and Universities, please contact your local Sikich advisor.