(http://bit.ly/2yMsBi1), individuals gave $281.86 billion in 2016, nearly 4% more than the prior year. How do high-income taxpayers—defined here as income of $200,000 or more—fit into this picture? For 2015, the most recent year for which statistics are available, the average charitable contribution deduction for those with adjusted gross income (AGI) of $200,000–$250,000 was $11,370 (Statistics of Income Bulletin, Spring 2017, http://bit.ly/2fQbPHo). For those with AGI of $250,000 or more, the average deduction was $16,580. For those who might be looking at their 2017 charitable giving in preparation for the upcoming filing season, here are some of the tax rules in place now and planning opportunities for the rest of the year.
Basic Tax Rules for Charitable Contribution Deductions
The current rules allow a charitable contribution deduction only if all of the following conditions are met [Internal Revenue Code (IRC) section 170]:
- Taxpayers must itemize. There is no above-the-line deduction for taxpayers who claim the standard deduction.
- Donations must be given to an IRS-recognized charity. A list can be found in Publication 78 at http://bit.ly/2y691jK.
- A taxpayer must follow substantiation rules. This may include obtaining written acknowledgments from the charity and qualified appraisals.
- Donations are capped relative to AGI. Cash donations are limited to 50% of AGI, while donations of appreciated property usually are limited to 30% (with the exception of donations of conservation easements, explained below). The AGI limits are effectively waived for “qualified contributions” (including contributions for relief efforts for Hurricanes Harvey, Irma, and Maria made before January 1, 2018; see the Disaster Tax Relief and Airport and Airway Extension Act of 2017).
- Carryforwards are limited. Deductions in excess of these limits can be carried forward for up to five years.
- Charitable contributions are subject to the phaseout of itemized deductions for high-income taxpayers (IRC section 68). For 2017, the phaseout begins for joint filers when AGI exceeds $313,800; for heads of households, at $287,650; for single individuals, at $261,500; and for married persons filing separately, at $156,900. As a result, the tax deduction for contributions can effectively be reduced by as much as 80%.
While tax reform proposals are still very much up for debate—and may or may not pass before the end of the year—the outline as of press time would maintain the deduction for charitable contributions. But changes to the rates and brackets would alter the value of deductions for charitable donations, and any legislation may include additional restrictions for certain types of giving.
That said, it is helpful for individuals to consider their giving programs. It may be beneficial to accelerate deductions planned for 2018 or beyond into the current year, factoring in the phaseout mentioned above for high-income taxpayers. It is also best to start crafting donations of property that requires appraisal as early as possible. Waiting until the end of the year may make it difficult to find a qualified appraiser.
Donations of Appreciated Property
Donations of appreciated property held more than one year are deductible at the property’s fair market value on the date of the contribution. Potential capital gain is never recognized. For example, if stock acquired for $2,000 is now worth $10,000, donating the stock allows a deduction of $10,000. The $8,000 of potential capital gain is never taxed.
Donations of publicly traded stock do not have to be appraised; however, donations of other property, such as land, artwork, and other personal property, may require an appraisal. For example, any personal property with a claimed value of $5,000 or more must include a qualified appraiser’s signature on IRS Form 8283, Charitable Contributions. In addition, artwork with a claimed value of $20,000 or more must have a completed, signed appraisal attached to the return. The IRS’s Art Advisory Panel may review and evaluate appraisals of art valued at $20,000 or more; donations valued at $50,000 or more are automatically reviewed. Certain photographic documentation is required.
Qualified Charitable Distributions
An IRA owner who is at least age 70½ can make a qualified charitable distribution (QCD) of up to $100,000 annually from the IRA [IRC section 408(d)(8)]. The distribution is not taxed. In fact, it counts toward the annual required minimum distribution (RMD). Furthermore, because there is no RMD, the distribution effectively reduces the taxpayer’s AGI for the year, allowing for additional tax savings. No double dipping is allowed, however, so the IRA owner cannot also claim a charitable contribution deduction.
There are two key requirements:
- The gift must be made via transfer directly from the trustee or custodian to the charity. Distributions to the taxpayer will be taxed, even if equal amounts are then given to charity (in this case, a charitable contribution deduction may be claimed if the conditions mentioned earlier are met, but because of the phase-out for high-income taxpayers, the deduction is likely not a full offset to the reported income).
- Only public charities can receive a QCD. Donor-advised funds and supporting organizations are not eligible.
QCDs are restricted to regular IRAs. They cannot be made from IRA-type accounts, such as SEP IRAs or Simple IRAs.
A donor-advised fund is a fund or account in which a donor can advise but not dictate how to distribute or invest amounts held in the fund [IRC section 170(f)(18)]. Usually, a taxpayer giving cash or property to a donor-advised fund can take an immediate tax deduction, even though the funds have not yet been disbursed to a charity.
Donor-advised funds are available from some major brokerage firms and mutual funds. They each have their own minimum contribution amounts and fees.
Conservation easements are a type of special arrangement that allow property owners to give away interests, take a tax deduction, and continue to enjoy use of the property. There has been a steady rise in the number of conservation easement contributions (Statistics of Income Bulletin, Summer 2017, http://bit.ly/2hR6zYf). Contributions of easements grew significantly between 2013 and 2014, which are the most recent years for statistics. Easement donations grew from $1.1 billion in 2013 to $3.2 billion in 2014, an increase of nearly 195%.
To be deductible, the donation must be a contribution of a qualified real property interest (i.e., a restriction granted in perpetuity on the use that may be made of the real property) to a qualified organization exclusively for conservation purposes [IRC section 170(h) and Treasury Regulations section 1.170A-14). The types of conservation contributions include—
- preservation of land areas for outdoor recreation by, or the education of, the general public;
- protection of a relatively natural habitat of fish, wildlife, or plants, or a similar ecosystem;
- preservation of open space (including farmland and forest land); and
- preservation of a historically important land area or a certified historic structure, such as a building façade.
Donations of conservation easements are limited to 50% of AGI, minus the deduction for other charitable contributions. Any excess amount can be carried forward for up to 15 years. For donations by “qualified farmers and ranchers” (those who derive at least 50% of their income from farming or ranching), the AGI limit is 100%, rather than the usual 50%, with the same 15-year carryover. [See for example, Rutkoske v. Comm’r, 149 TC No. 6 (2017), where a disposition of farmland was not treated as farming income, preventing use of the 100% limit in this case.] The IRS has, however, made syndicated conservation easements a reportable transaction that must be disclosed on a taxpayer’s return and may invite IRS scrutiny (Notice 2017-10, IRB 2017-4, 544). For more details about conservation easements in general, see the IRS’s Conservation Easement Audit Technique Guide (http://bit.ly/2hRed54).
Again, it is essential for a donation to satisfy substantiation requirements. The Tax Court has said that a properly executed and recorded deed may serve as a contemporaneous written acknowledgment (see, e.g., 310 Retail LLC v. Comm’r, TC Memo 2017-164).
Conservation easements are not the only type of donation that enables a donor to continue some enjoyment from property. Examples of other charitable arrangements include the following:
Charitable remainder trusts.
The donor (and spouse) can enjoy the property for life (or a term of years), with the remainder passing to a named charity. These trusts can be set up as a charitable remainder annuity trust where the noncharitable beneficiary receives a specific amount of money each year (not less than 5% of the value of the assets when contributed), regardless of trust performance. Alternatively, they can be set up as a charitable remainder unitrust, where the noncharitable beneficiary receives a fixed percentage of the trust’s fair market value (not less than 5% nor more than 50%). The donor can take a current deduction for the present value of the remainder interest.
Charitable lead trusts.
This is essentially the reverse of a charitable remainder trust, where the charity receives a guaranteed annuity or fixed percentage (unitrust interest) of the value of trust property for a term of years or the life or lives of the specified individuals. At the end of the term or death of the individuals, the property passes to the grantor or the grantor’s heirs. The grantor pays income tax on the income from the trust but receives a charitable deduction for the present value of the annuity or unitrust interest.
Charitable gift annuities.
Here, a donor gives property in exchange for a lifetime annuity (beginning immediately or in the future). Depending on the donor’s life expectancy and promised annuity, a tax deduction can be claimed for a portion of the gift.
A high-net-worth individual may want to control charitable activities, which can be done by setting up a private foundation. As a rule of thumb, it may make sense to do this with as little as $250,000, although the costs of setting up the foundation and annual filings with the IRS usually suggest greater funding.
Contributions to nonoperating private foundations (i.e., those other than operating foundations such as museums, zoos, research facilities, or libraries) are limited. For example, donations generally are capped at 30% of AGI (rather than 50%), and contributions of appreciated property are limited to 20% of AGI (rather than 30%).
Private foundations are not a do-it-yourself activity. Donors should work with tax and legal advisors before proceeding.
High-income taxpayers who own businesses can cause their companies to make donations on their behalf. Donations by C corporations are limited to 10% of taxable income, while donations by pass-through entities are claimed by owners on their personal returns based on their share of the businesses’ donations.
Usually, donations of inventory are deductible to the extent of the lesser of the fair market value on the date of the contribution or its basis (typically cost). If the cost of donated inventory is not included in opening inventory, the inventory’s basis is zero, and no deduction can be claimed. Businesses that donate inventory for the care of the ill, the needy, or infants are, however, allowed an enhanced deduction [Internal Revenue Code Section 170(e)(3)]. There are also special rules for food donations.
Leave-based donation programs.
Companies may have programs that enable employees to donate their unused personal, sick, or vacation days. Typically, the time can be used by other employees in medical emergencies or disasters. Donated leave time is taxable compensation to the employees and subject to payroll taxes. Employees cannot take any charitable contribution for these donations.
The IRS has guidance (http://bit.ly/2xX6Lvp) on the tax treatment of these leave-based donation programs, including a special rule for donations to benefit victims of Hurricanes Harvey and Irma. Employees are not taxed on their donations for this purpose, and no employment taxes are owed on employee contributions. The employer must donate the amount of these donations to a charity providing relief to victims of Hurricanes Harvey or Irma before January 1, 2019; the employer then takes a charitable contribution deduction for the donation.
This article has focused on lifetime charitable giving, but donors may also want arrange for gifts made from their estate at the time of their death. For current federal estate tax purposes, there is no cap on the amount of charitable contributions that can be deductible (IRC section 2055). If estate taxes are payable out of a charitable bequest, the amount of the deduction is reduced by such taxes. If the federal estate tax is repealed, individuals may want to revisit their plans for charitable bequests.
When it comes to tax breaks for charitable giving, the future is uncertain. Action before the end of the year may be advisable. Leave sufficient time before the end of the year for transferring property, obtaining appraisals where required, and engaging tax professionals to draft needed documents. And watch developments on tax legislation that could alter incentives for charitable giving.
Checklist for Charitable Giving
- ___ Have I identified property that I might give away?
- ___ Do I want to make a transfer to charity in lieu of receiving my required minimum distribution (RMD) for the year?
- ___ Have I determined my contribution limits for the year?
- ___ Have I obtained required appraisals?
- ___ Have I obtained required written acknowledgments for gifts of $250 or more?
- ___ Have I engaged a tax professional to draft a charitable trust?
- ___ Can I benefit from setting up a private foundation?
- ___ Have I provided for charitable donations in my will or trust to take effect upon my death?