It’s the most wonderful time of the year…to give back! The end of the year is a popular time for charitable giving. In fact, 30% of all contributions happen in December, with 10% of all donations occurring during the last three days of the year. While writing a check or clicking the donate button may seem like the easiest way to contribute to your favorite cause, you may be losing out on additional benefits — for you and your favorite charity — by not planning your contributions.
The Tax Cuts and Jobs Act (TCJA) introduced some new income and tax variables that need to be optimized to get the most bang for your charitable buck. We will dive into three charitable giving strategies that maximize the tax benefits to you while still supporting the causes you hold dear.
With the removal of personal exemptions and the increase in the standard deduction as part of the TCJA, far fewer individuals now itemize their tax return. This had the unintended consequence of reducing, or even eliminating, your ability to claim your charitable giving against your income. For instance, if the combination of all your potential itemized deductions is less than $27,700 in 2023 (for MFJ filing status), you would simply take the standard deduction and get no tax benefit for your donation.
All is not lost, however. A popular strategy to clear the standard deduction hurdle is to bunch several year’s worth of donations into a single year. You can donate cash (up to 60% of adjusted gross income (AGI)) or appreciated, long-term securities (up to 30% of adjusted gross income). This would allow you to maximize the tax value of your charitable giving by itemizing in those high donation years, and simply taking the standard deduction in all other years.
Donor Advised Funds
A donor-advised fund (DAF) is a strategy that builds on the bunching concept and allows for more flexibility with respect to types of assets donated. You simply make an irrevocable donation to a DAF you specify (two of the largest are administered by Schwab and Fidelity) and receive an immediate tax deduction in return. The DAF will manage the money based on your investment preferences and distribute the funds, as you wish, to an IRS-qualified charity of your choosing.
While DAFs do accept cash, they are great vehicles in which to donate appreciated, long-term, and even illiquid securities. You get the advantage of the fair market value of the security in your deduction (up to 30% of your AGI), thus potentially reducing your capital gains taxes. DAFs also offer easier recordkeeping — who wants to keep track of multiple physical receipts for direct cash donations?
Qualified Charitable Distributions
A qualified charitable distribution (QCD) can be a great option for those who are comfortable with their income in retirement and want to find a way to reduce the tax burden associated with required minimum distributions from retirement accounts. When you are eligible to take your RMD (in 2023, age 72 or older), you can instead donate some, all, or more of your RMD (up to the $100,000 annual limit) to a qualified public charity.
There are several unique advantages, and stumbling blocks, when using the QCD for charitable intent. While it may seem easier to take your RMD as usual and simply donate the funds directly to your favorite charity, you run the risk of increasing other taxes and premiums. RMDs increase ordinary taxable income, as well as modified adjusted gross income. Taking RMDs in this manner can potentially increase your marginal tax bracket, trigger a Medicare surtax, or raise your Medicare Part B and D premiums. QCDs are excluded from taxable income, avoiding the potential tax pitfalls mentioned above.
You must carefully plan how and when you implement a QCD strategy. The first money out of a retirement account is considered the RMD, so if you have already started taking monthly distributions you may have lost some of the ability to harvest the tax benefits mentioned above. Additionally, you cannot take your QCD and place it into a DAF. And, lastly, you cannot receive any benefit from the charity for your QCD, no matter how small or indirect. Don’t let a free coffee cup disqualify your donation!
Take the Next Step
Proper tax planning can amplify your charitable giving, providing more donation dollars to your cause and potentially increasing the tax benefits to you. Given the complexity of the strategies outlined, be sure to consult with your tax, legal, or financial advisor to discuss how these can be best implemented within your financial life.
As the end of the year draws near, it’s important for you to prioritize proactive tax and financial planning tasks, outside of charitable giving. For more tips and strategies to help you make the right decisions for your situation, reach out to us today.