Tax Rules for Charitable Contributions

Charitable Tax
Strategies

The PositiveLights.org Web Site

Deductions for Cash Contributions

For most people the tax rules for claiming a charitable deduction are fairly simple. If you itemize your deductions on Schedule A of your Form 1040, the deduction will reduce your taxable income unless your standard deduction exceeds your itemized deductions. The amount of tax savings depends on your marginal tax bracket. That's the highest bracket to which you are subject for the year in which you make the contribution. The highest tax bracket for 2003 is 38.6%. The majority of individual taxpayers are subject to a maximum federal income tax rate of 15%. State income taxes may range from 5% to 10%.

If your combined tax bracket is 20%, and you contribute $1,000 to a church or charity, you will reduce your income taxes by $200.

There is a somewhat confusing rule that is often mentioned regarding charitable contribution deductions but is rarely applicable to anyone. The rule is that there is a limit on the total contributions that can be made in a single year based on a percentage of the taxpayer's adjusted gross income (AGI). For contributions to a public charity (like Positive Lights, Inc.), the limit is 50% of AGI. For contributions to certain non publicly supported charities (also called private foundations), the limit is 20% of AGI. These limits are intended to prevent very wealthy people from eliminating their entire tax bill by making very large gifts of appreciated assets to charities.

There are also a great many complicated rules for special situations involving charity contributions, such as limits on contributions by corporations, limits on contributions to charities in foreign countries, contributions of appreciated property and contributions of tangible property.

Make Charitable Contributions With Appreciated Stocks

You can't make a profit by giving something to a charity, but there are a variety of ways to use the tax laws to reduce the out-of-pocket cost of a charitable contribution. Here are a few suggestions.

Benefits of making contributions with appreciated assets

avoid the capital gains tax on appreciated investments
make larger contributions at the same out of pocket cost or
satisfy existing pledges at a reduced after tax cost
cost of gift after income and estate taxes may be minimal
reduce adjusted gross income by the gain that is not realized
make contributions via children or parents if the deduction would be eliminated by the phase out of itemized deductions
establish charitable intent for justification of a charitable remainder trust

Some Potential Problems and Pitfalls

itemized deduction may be eliminated for high income taxpayers
an appraisal may be required for some types of assets
the charity will need to provide a statement setting forth certain details of the contributed property before filing your tax return

Requirements for Non-cash Contributions of More Than $5,000

For non-cash contributions of more than $5,000, you will need to submit Form 8283 with your tax return and you will need a statement from the church or charity showing,

1. The name and address of the charitable organization
2. The date and location of the contribution
3. A description of the property contributed
4. The fair market value of the property at the time of the gift
5. The cost or other basis of the property if your deduction is limited
to an amount other than the fair market value,
6. The amount claimed as a deduction for the tax year
7. Details of any terms or conditions for the gift.

Assume that you usually make contributions to a favored church or charity of $10,000 a year. This year, instead of giving cash, you make a gift of some stock that cost you $2,000 but is now worth $10,000. If your property qualifies as a capital asset and would be eligible for treatment as a long term capital gain, the tax law gives you a deduction for the full value of the stock, the same as if you gave cash. You get to deduct the full $10,000 for the gift of that stock. If you are in the 30% federal and state tax bracket, you may get a tax deduction of $10,000 that will reduce your taxes by $3,000. (If your asset would be treated as a short term capital gain, you can avoid the income tax on the gain by giving it to a charity, but you can only deduct the cost of the asset, rather than it’s current appreciated value.)

If you had sold the stock, and assuming you are in the 30% tax bracket, the $8,000 gain would be taxed at a 15% federal tax rate and perhaps a 5% state income tax rate. The tax on the gain would therefore be 20% of $8,000 or $1,600. You would have had $8,400 left after taxes. To make a $10,000 gift, you would have to give the after tax proceeds of the $10,000 of stock, plus another $1,600 of cash.

But -- if you make a gift of the property to the church or charity, it can sell the assets without paying the capital gains tax. You can then deduct the full value of the contribution as an itemized deduction. In this example, there is no gain to you, but the charity has an extra $1,600 due to the tax break.

EXCEPTION: The 1990 tax law imposed a restriction on the amount of itemized deductions that can be claimed by taxpayers with more than $100,000 of total income. This amount is indexed by inflation and is $139,500 for 2003. Your total itemized deductions are reduced by 3% of all adjusted gross income in excess of this amount. Thus, taxpayers with very large incomes may not be able to get the full benefit of their charitable contributions. There is no absolute limit to the amount of gains that can be avoided this way, but there is a limit to the amount of charitable contribution deductions you can claim.

Extend tax break on gifts of property to charities.

The 1993 tax law made gifts of appreciated tangible property to charities exempt from the Alternative Minimum Tax (AMT) after June 30, 1992 and it also applies to gifts of other appreciated property after 1992.

Before 1993, contributions of appreciated tangible property to a charity were allowed as a deduction based on the market value - in the regular tax computation. Then, when the tax was recomputed with the alternative minimum tax, only the cost of the property was allowed as a deduction. The result was that up to 24% of the appreciated value of the property was added to the tax bill if the donor had an income of more than $310,000 (assuming the donor was married and filing jointly).

The law that eliminated the untaxed gain on tangible personal property from the alternative minimum tax expired on June 30, 1992. The 1993 law restored this rule back to 6/30/92 and made it permanent. In addition, the change extends the rule to include all kinds of appreciated property, including real property and intangible property like securities.

OBSERVATION

It isn't possible to actually make money by giving property to charity, but you can save a lot of money by giving charities a gift of appreciated property instead of giving cash.

Due to the phase out of the itemized deductions at higher income limits, your main benefit in making a contribution of appreciated property is the avoidance of the capital gains tax.

SUITABILITY

This tactic is suitable for anyone who has made a pledge or commitment to a charity or otherwise wants to provide some financial support to a church or charity, AND who has some appreciated assets that would be eligible for treatment as a long term capital gain.

CAPITAL GAINS TAX

This strategy is primarily a device to avoid paying the capital gains tax on appreciated assets when you have a commitment or desire to provide some funds for a church or charity.

GIFTING & INCOME SPLITTING

Here is a possible way to circumvent the 3% limit on itemized deductions. Instead of making a gift of appreciated stock directly to a charity, make the gift to a child or a low income parent. Your dependent then makes the gift to the charity. The charitable deduction can then be used to offset some of the income they may have from any other income shifting strategies that you have implemented. The charity is better off. Your dependents are better off. You are better off because you didn't pay the capital gains tax on the property you gave the charity. However, this is a novel strategy and there is some uncertainty about how the IRS might respond to it.

ESTATE AND GIFT TAXES

Any property that you give to a charity will reduce your taxable estate. Assuming that you are in the top estate tax bracket and that your family is adequately provided for, wouldn't you much rather give your money to a charity of your choice instead of to the IRS? When you consider that the federal and state government could take 20% of the gain on some appreciated property for a capital gains tax and then take another 50% for estate taxes, your heirs would only end up with 40% of an asset. And, if you consider the impact of the estate tax on your children, the amount that will pass to your grandchildren could be as little as 16% of the value of the asset.

Who will do more good with the money - the IRS or a charity of your choice? (If you want to receive an income from the the property until you die, consider a charitable remainder trust.)

IMPLEMENTATION

This is a relatively simple kind of tax strategy to implement. You merely need to assign the title to the appreciated assets to the church or charity. However, you will also need to secure a statement from the charity setting forth the value of the property given. If the property is not publicly traded, it might be necessary to secure an appraisal from a qualified appraiser.

TAX RISK

Deductions for charitable contributions can be disallowed by the IRS if the contribution is not properly documented. Even contributions of cash in amounts of $250 or more must be acknowledged in writing by the charity stating the date, the amount of the contribution, whether you received any benefit from the charity for the contribution and if so, the value of that benefit. The statement must be dated before the filing date for your return (including extensions) or the date you file your return if earlier.

Contributions of non-cash property require further documentation and the preparation of form 8283. In some cases where the property is not easy to value, an appraisal may be required by a qualified appraiser.

TAX FORMS REQUIRED

But be sure to check with your tax preparer first to find out in advance what you have to do to prove the value of your gift and the information you have to provide on your tax return. For gifts in excess of $5,000, you will need an appraisal. The IRS will also require a receipt on gifts of more than $250.

For non-cash contributions of more than $5,000, you will need to submit form 8283 with your tax return and you will need a statement from the church or charity showing,

CITATIONS

Internal Revenue Code Section 170