Let Me Clarify

A charitable mindset is an incredible thing to have. Now, more than ever, we see the profound impact that gifts, donations, and volunteering can have on those that are truly in need. As financial planners, we assist clients with being as efficient as possible with any financial donations they have in mind, but I always encourage them to approach their gift first and foremost from the desire to help and not strictly from the tax benefit standpoint of gifting.

Let me clarify.

It is fairly common to hear people talk about donating money to save on taxes. From a pure tax standpoint, this boils down to every dollar donated saving a fraction of it in taxes.

1. In a typical year (outside of COVID relief related exceptions), taxpayers must itemize deductions to receive a benefit for qualifying gifts to charity. This means the combination of interest on mortgage payments, medical expenses over a percentage of your AGI, a portion of state and local taxes, charitable contributions, and other items must total more than the standard deduction of $12,400 for single taxpayers and $24,800 for married filing jointly taxpayers in 2020. With itemized amounts less than that, there ends up being no “tax benefit” for any direct gifts that are made.
2. Further, it’s important to remember the difference between deductions and credits. A credit is a direct reduction of any taxes that you owe. A deduction, on the other hand, reduces the amount of income that you owe taxes on. For example, let’s assume a taxpayer falls into the 24% federal income tax bracket. This means that every $1 they give away saves $0.24 in taxes.

Again, I am all for donating and helping those in need, but just want to make sure we are all on the same page with how the underlying tax side of it works. That being said, for those of you who are charitably inclined, there are many ways to go about it. For now, I would like to highlight three main avenues.

Cash Donation: The simplest way to give/donate is through cash donations, including checks, donations made via credit card, etc. In this case, any amounts above the itemized deduction thresholds noted above will reduce your taxable income for that year.

Stock Donations: Donating funds from taxable investment accounts [not 401(k)s, IRAs, Roth, etc.] brings about a separate set of tax “benefits”. When donating stock, the taxpayer may include the entire amount toward itemized deductions and does not pay tax on any gains included in the amount, while the receiving organization can also sell those funds without owing any tax on it.

1. For example: If John Smith donates $10,000 of stock ($2,000 of gains within) to Charity ABC, John can include the entire $10,000 toward his itemized deductions without paying taxes on the $2,000 in gains that he otherwise would if he sold the stock himself. When Charity ABC sells the $10,000 worth of donated stock, as a qualified charitable organization, none of it is taxable. A win-win.

If you happen to know anyone who is selling his or her investments to donate cash, I highly recommend they speak with a professional about their options.

Qualified Charitable Distributions (QCDs): QCDs are less common, but something to consider for those who have built up a significant amount within IRAs, including amounts that may have been rolled in from previous 401(k)s, 403(b)s, etc. Upon a specific age, currently age 72, Required Minimum Distributions (RMDs) must begin. At this time Uncle Sam requires you to begin taking minimum distributions annually from retirement accounts. QCDs allow taxpayers who qualify to donate up to $100,000 per year directly from qualified accounts that count toward their RMD amount and exclude it from taxable income. This can lower taxable income to qualify for certain income-based benefits, while also capturing a charitable tax benefit without having to itemize deductions.

There are many other rules and alternatives to be aware of before considering these options and you should always evaluate the impact on your overall financial plan. As financial planners, our job is not to convince you to donate or make you feel guilty if you do not, nor is it to influence what you believe in or what charities to support. In any of these conversations, our hope is to help you work toward charitable goals efficiently with the options that are available to you.

As we embark on this clarifying journey together, I encourage you to submit any ideas, topics, or questions to info@clarifywealth.com. The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendation for any individual. “Let Me Clarify” is a weekly blog containing Chad Baxter’s insights and thoughts about a variety of topics. To learn more about Chad, click here