As the COVID-19 pandemic continues to play out, it may be a good time to reassess your charitable giving plan to ensure you’re making the most of the recent changes to tax laws as you support the causes and organizations that are important to you. In the past, many taxpayers benefitted from deducting state and local taxes — especially those who live in high-tax states. With the passage of the Tax Cuts and Jobs Act of 2017 (TCJA) these deductions were capped at $10,000 beginning in 2018. Although deductions for state and local taxes are capped, many individuals now benefit from the higher standard deduction: $24,800 for married couples and $12,400 for individuals in 2020.
Before passage of the TCJA, most clients in high-tax states who donated to charity did so every year and itemized their deductions accordingly. With the higher standard deductions and the cap on state and local tax deductions, many charitable individuals and families have turned to “bunching” strategies to retain some benefit from the charitable tax deduction.
In its simplest form, bunching means making several years’ worth of charitable contributions in a single year and itemizing deductions, then making no contributions in subsequent years to take advantage of the higher standard deduction, thereby preserving the tax benefits of charitable giving. While this strategy provides tax benefits to the donor, it can create difficulty for charitable organizations who still need to meet annual fundraising targets to support their programs and budgets. This is where a Donor Advised Fund (DAF) can provide the benefits of bunching to the donor while maintaining consistent financial support to charities.
A DAF is a charitable fund maintained by a sponsoring organization in the name of a donor. Contributions to a DAF are deductible in the year they are made, and distributions to charitable organizations can be made at any time, including over a donor’s lifetime or even across multiple generations. In addition to being a great way to implement a bunching strategy, a DAF can be of particular benefit in an unusually high income year or for a client with significant unrealized capital gains in their portfolio.
For charitable individuals over age 70 ½, a Qualified Charitable Distribution (QCD) can provide tax benefits to those who no longer itemize deductions on their tax returns. A QCD is a contribution made to a charity directly from an IRA. A donor can make QCDs up to $100,000 per year, and the amount donated counts towards the year’s required minimum distribution (RMD) and is not counted as income to the donor.
As an example, if a married couple has state and local taxes of $10,000, mortgage interest of $7,000, and made charitable donations of $5,000, itemized deductions would total $22,000. In this scenario, the taxpayers would be better off taking the standard deduction of $24,800 in 2020. Also, the money donated to charity would provide no tax benefit. In this case, it would be better for the taxpayer to take some or all of their required minimum distribution and donate it to a qualified charity directly using a QCD, resulting in lower taxable income.
The SECURE Act of 2019 increased the age when RMDs must begin from 70 ½ to 72; however, the law still allows QCDs to begin at age 70 ½. For most charitable individuals, it will make sense to postpone making a QCD until age 72, but in some circumstances it may still make sense for income tax purposes to begin QCDs at 70 ½, especially for those who will most likely not deplete their entire IRAs during their lifetimes.
It should also be noted that while before 2019 individuals over age 70 ½ could no longer contribute to an IRA, the SECURE Act provides that contributions can continue indefinitely, as long as the contributor has earned income. The law also limits the benefits of QCDs for those who elect to continue to contribute to an IRA after age 70 ½, so consult with your tax advisor if you plan to keep working and contributing to an IRA.
JNBA is not an accountant and no portion of the above should be construed as accounting advice. All accounting issues should be addressed with an accounting professional of your choosing.
Due to various factors, including changing market conditions and/or applicable laws, the content may no longer be reflective of current opinions or positions. Moreover, you should not assume that any discussion or information contained in this blog serves as the receipt of, or as a substitute for, personalized investment advice from JNBA Financial Advisors, Inc.
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