December 8, 2017

Proposed Tax Bills Affect Your Deductions

For many of you, the year 2017 will be the last year you will get income tax savings from making charitable gifts. This newsletter describes a few tax-saving steps that you can take in the year 2017 before the changes take effect in 2018.

Why won’t I be able to get tax savings from my charitable gifts in the future?By way of background, many of you itemize your income tax deductions because your state and local income and property taxes exceed the thresholds for the standard deduction. In 2017, the thresholds are $12,700 for a married couple filing a joint return, $6,350 for an unmarried individual, and $9,350 for a head of household. Thus, every charitable gift made in past years produced income tax savings.

If the proposed law is enacted, things will change dramatically in the year 2018. Both the House and the Senate tax bills propose eliminating virtually every itemized deduction, except for (1) home mortgage interest, (2) charitable gifts, and (3) up to $10,000 of property tax (to oversimplify). Of greatest significance, you will no longer be able to deduct your state and local income taxes.

Both the House and Senate tax bills also propose raising the standard deduction to $24,000 for married couples, $12,000 for unmarried individuals, and $18,000 for heads of household. The outcome for those of you who do not pay mortgage interest or property tax is that in future years you will not get any tax savings from the first $24,000 / $12,000 that you donate to charities each year. Furthermore, there will e no tax savings from charitable gifts if you donate less. Instead, you will take the $24,000 / $12,000 standard deduction.

Year-end tax strategies for 2017

This law has not yet been enacted and there is uncertainty over whether Congress will indeed make these tax changes. I think it is more likely than not. We will not know for certain until the final vote, which might not happen until January 2018. That makes tax planning fairly challenging for these last few weeks of the year 2017.

However, if you will itemize your deductions in 2017, and if you might not itemize in future years under the new tax laws, there are at least two tax-saving strategies available these last few weeks of 2017.

Strategy 1: pay your state and local taxes in 2017, not 2018

Unless you are subject to the Alternative Minimum Tax (“AMT”), you will save federal income tax by paying your state and local taxes in 2017 rather than in 2018. For example, pay your property tax in December 2017 rather than in 2018. If you think that you will owe state income tax when you file your return in 2018, pay that amount with an estimate in December 2017. That is better than writing a check in 2018 that will not be deductible on your federal income tax return. However, keep in mind that payment of estimated state income tax is deductible only when the amount paid is based on a reasonable, good faith estimate of the taxpayer’s actual tax liability. Hence, if you pay what you think will be your state income tax liability for 2018 this year, there remains a possibility the IRS may not allow the deduction.

If you are subject to the AMT, paying more state and local tax will not likely reduce the AMT.

Strategy 2: accelerate charitable gifts into 2017

If you will itemize your deductions in 2017 but will not itemized in 2018, accelerate your charitable gifts into the year 2017. For example, if you made a multi-year pledge, pay the amounts scheduled for future years in the year 2017. See whether your favorite charity will give you credit in the year 2018 for a larger amount that you pre-pay in 2017 (e.g. “sponsor” or “patron” status in 2018, or whatever giving level you strive for with that charity).

Donor advised funds

One way to get an income tax deduction in 2017 for gifts that a charity will not receive until 2018 or later years is to contribute to a donor advised fund in 2017. Establish the fund with a charity that administers such funds, and then recommend grants from the fund to charities in future years. Some organizations will open funds for as little as $5,000, and permit grants as small as $50. Here are some organizations that administer donor advised funds:

The Fidelity Charitable Gift Fund  https://www.fidelitycharitable.org

Vanguard Charitable  https://www.vanguardcharitable.org

Schwab Charitable  https://www.schwabcharitable.org

The best assets to donate to a donor advised fund are appreciated stock, mutual funds, and exchange-traded funds (“ETFs”). The best asset to donate to a charity is property which, if sold, would produce a long-term capital gain. Long term usually means you have owned the capital asset for more than a year. There are two advantages to this: (1) you can claim a charitable tax deduction for the full value of the property, and (2) you will never pay tax on the growth of your investment.

Do not exceed the annual charitable deduction limitation. If you are trying to save taxes, do not donate more to charities than you can deduct in the year 2017. The annual deduction limitation for charitable gifts of appreciated stock is thirty percent (30%) of adjusted gross income (“AGI”). For gifts of cash, the limit is fifty percent (50%) of AGI. For example, suppose someone donates $70,000 to public charities in a year when that person’s AGI is $100,000. The maximum deduction if the $70,000 consists of appreciated stock would be $30,000 (30% times AGI), leaving $40,000 to be carried forward for five years. If the $70,000 was cash, then $50,000 (50% times AGI) could be deducted that year and there would be a $20,000 carryforward.

What about making charitable gifts from my ira?

The House and Senate tax bills make no change to the popular law that permits individuals over age 70 ½ to make tax-free charitable gifts from their IRAs. This will be very attractive in the year 2018 and in later years for those of you donors over the age of 70 ½.

The law has not been enacted yet

Keep an eye on this tax legislation. If it is enacted, and if you are one of the estimated 30 million taxpayers who will no longer itemize your deductions in future years, you might consider these year-end strategies to get tax savings by paying your state and local taxes and by making your charitable gifts in 2017.