Did you spend a couple hours this past tax season digging up receipts only to find that you didn’t have enough deductions to itemize? You weren’t alone. Because of the near doubling of the standard deduction as a result of the Tax Cut and Jobs Act (TCJA), the number of households itemizing deductions went from 47 million in 2017 down to an estimated 18 million for 2018. (Source: Joint Committee on Taxation)
It remains to be seen what impact this may have on charitable contributions. Charities are concerned the loss of tax efficient donations may reduce their 2019 fundraising as many people come to realize they did not get a tax benefit for their generosity.
Are you in a position where you’re no longer able to deduct your donations? There may still be a way you can give to your favorite charities and be rewarded by the IRS.
Below are a couple of common strategies that I find many people still aren’t aware of. Along with those, I’ll share an alternative, that, while not necessarily providing a tax deduction, can still net you a financial benefit. Of course, before taking any action that may affect your financial situation, discuss it with your tax professional and financial advisor.
Qualified Charitable Distributions
If you are at least 70 and a half, you are most likely taking Required Minimum Distributions (RMD’s) from your IRA. That money is reported on your tax return and then taxed as income.
However, being 70.5, you are able to also make gifts directly from your IRA to charities. These gifts are known as Qualified Charitable Distributions, or QCD’s for short. Because these gifts go directly from your IRA to the charity, the money never gets taxed.
The key here is that QCD’s do count against your RMD. This feature is why they can help reduce your tax bill.
If you were able to itemize deductions before the TCJA, then from a tax standpoint it probably didn’t matter whether you took your RMD and then wrote a check to a charity or just made a QCD directly. They both saved you the same amount in taxes.
Now, however, if you are no longer able to itemize deductions, making QCD’s still allow you to get the same tax benefit as before. Since QCD’s count towards your RMD, they reduce the amount of money you need to take from your IRA. Less money coming out of your IRA to you means less money reported to the IRS as income, lowering your taxes.
Bunching Donations
Another strategy that doesn’t have an age minimum or require an IRA is to bunch donations. This simply means making one large donation every now and then instead of smaller annual donations. There are a couple of ways you can take advantage of this strategy.
The classic ‘bunching’ strategy is to take the amount of money you annually give to a charity and combine a number of years worth into a single donation. Keep in mind that to get a tax benefit, the gift needs to be large enough so that when combined with your other itemized deductions, they will total more than your standard deduction. Depending on your normal level of giving, this might mean only making a donation once every few years or more.
For many people this is a sticking point. Supporting their favorite causes on a regular basis outweighs any tax breaks they might receive by reducing their gifting frequency.
Some donors also like to spread their generosity across lots of organizations or have the freedom to make changes to the charities they support from year to year. And many charities would rather receive regular annual gifts instead of larger but more sporadic donations.
A better way to bunch your donations – DAF’s
There is a better way to make tax efficient donations. Set up a donor advised fund (DAF). These super flexible accounts allow you to get the tax benefits of bunching donations while still having the ability to make gifts however you’d like.
Here’s how they work. Once the DAF is set-up, you contribute a lump sum equal to multiple years of your expected charitable giving. The contributions you make to the DAF are treated as charitable donations in the year they are made.
Then, whenever you’d like, authorize the DAF to make distributions to the charities you choose. In the meantime, money that’s left in the fund is invested so it can continue to grow. And you can add additional tax-deductible contributions any time you’d like.
A number of investment firms can help you set up your own DAF. Alternatively, if your giving is focused on local charities, consider working with a Community Foundation instead.
Use DAF’s to gift non-liquid assets
In addition to liquid securities such as publicly traded stocks and bonds, many donor advised funds and community foundations allow you to contribute other types of assets such as real estate and collectibles.
And if the assets you donate have appreciated, you are also transferring the unrealized capital gain, removing a potential future tax liability.
A Rewarding Alternative
If a QCD or bunching strategy isn’t right for you, there may still be a way to financially benefit from your donations. Instead of writing checks, use a credit card that gives you rewards such as travel points or cash back.
Many charities now take credit cards. My church recently rolled out an app that allows gifts directly from a credit card. (Does that mean the people I see on their phones during the service are actually just making their weekly offering?)
If you do use a rewards card instead of writing a check, keep in mind that the charity will get nicked by the card company for 2% – 3% of your donation amount. You may want to adjust your gift accordingly.