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Charitable contributions: An overview of key types, tax deduction limitations, and other helpful info
Donating to a charitable cause can be a highly effective strategy for reducing your tax bill and at the same time supporting your favorite charities and environmental, social, and governance (ESG) initiatives. Your contributions each year are limited to a percentage of your adjusted gross income (AGI), based on the type of donation that is made. Read on for a summary of the most common charitable contributions, their limitations, and other helpful items.
- Donating cash is the simplest and most common way to receive a charitable deduction. Gifts to a qualified organization generally allow you to deduct up to 60% of your AGI.
- Some examples of qualified organizations include religious organizations; not-for-profits; and federal, state, and local governments when the donation is for a public purpose.
- Donations to social clubs, certain foreign organizations, groups run for personal profit, political groups, or any dues for country clubs are not eligible for a tax deduction.
- Keep in mind that if you receive a benefit for the donation, your tax deduction will be reduced by the value of the benefit you received. For example, if you purchased a ticket for $200 to attend a charity dinner event, but the event has a fair market value (FMV) of $50, your donation is limited to $150.
Appreciated publicly traded securities
- Long-term (held over one year) appreciated publicly traded securities such as stocks, bonds, and mutual shares are deductible at fair market value. This is beneficial for taxpayers who have highly appreciated stock. Aside from getting a charitable deduction of up to 30% of your AGI, you also avoid paying capital gain taxes as there is no sale of the securities.
- For example, if you have a stock that you purchased for $1,000 that was held over a year and is now worth $10,000, you can choose to donate the $10,000 security directly to a charitable organization for a tax deduction of $10,000. Since the stock was not sold, you avoid paying the long-term capital gain tax on the $9,000 of appreciation.
- Short-term (held less than one year) appreciated securities are also deductible at up to 30% of your AGI; however, the deduction is limited to the FMV less the amount that would be considered short-term capital gain if the property was sold.
- Using the same example above, your donation would be limited to $1,000 – the $10,000 FMV less the $9,000 short-term capital gain.
Other noncash donations
- Noncash donations to public charities, such as clothing, furniture, household items, jewelry, art, etc., are limited to 50% of your AGI per category.
- The IRS has very specific substantiation rules for noncash donations. We explain some of the requirements later under “Substantiation requirements.”
Qualified vehicle contributions
- Per Pub. 526, the IRS considers a qualified vehicle “a car or any motor vehicle manufactured mainly for use on public streets, roads, and highways; a boat; or an airplane.”
- If the qualified vehicle you are donating has a claimed FMV of more than $500, you can deduct the smaller of 1) the gross proceeds from the sale of the vehicle by the organization, or 2) the vehicle’s FMV on the date of the contribution. If the vehicle’s FMV was more than your cost basis, your FMV may have to be reduced.
- Copy B of Form 1098-C must also be attached to your return, showing the proceeds from the sale of your vehicle.
Donor-advised fund (DAF)
- A donor-advised fund is a separate fund that is set up for the purpose of supporting charitable organizations. It is maintained and operated by a sponsoring organization.
- Donating to a DAF allows you to contribute both cash and non-cash securities. You are eligible to take advantage of a donation in the year that you contribute to the DAF, regardless of whether a charitable gift is made from the DAF to a qualified organization. This gives you the flexibility to make a large contribution to your DAF in one tax year, but then make the contribution to various organizations in different years.
- The contribution to the DAF can be invested and continue to grow tax-free, allowing for more cash available for your donations.
- Cash gifts to a DAF are limited to 60% of your AGI, while long-term appreciated securities are limited to 30% and are deductible at fair market value.
- A private foundation is another charitable vehicle that is considered a separate legal entity and requires tax filings.
- Cash gifts to a private foundation are limited to 30% of your AGI, while long-term appreciated assets are limited to 20%.
- Setting up a private foundation can be more costly than a DAF; however, a private foundation gives the donor more control than the DAF, and it gives an individual the opportunity to create a legacy beyond their lifetime.
- A private foundation also creates an opportunity to involve your family in philanthropic goals that you may have.
- While you must keep records to prove all contributions you make during the year, the IRS has more stringent requirements for noncash donations.
- When contributing non-cash gifts over $500, you must complete Form 8283 and attach it to your 1040 at the time of filing. Your charitable deduction may be disallowed if Form 8283 is not properly completed and filed with your return.
- In some instances, a written qualified appraisal may also be needed to substantiate your donation, and that appraisal should be attached to your return. Some situations this applies to include:
- If you are claiming a deduction of $500 or more for clothing or household items that are not in at least good used condition
- For items (or group of similar items) for which you claim a deduction over $5,000
- Contributions of property
- Appreciated artwork
- Note that publicly traded stock does not require an appraisal
- For a list of full substantiation requirements and definitions of qualified appraisers, see IRS Pub. 526.
Qualified charitable distributions (QCD)
- A qualified charitable distribution is making a charitable contribution directly from your IRA, other than a SEP or SIMPLE IRA, to qualified organizations.
- Rather than receiving the benefit of a charitable contribution for the deduction, the IRA distribution is considered nontaxable, and can count toward your required minimum distribution requirement for the year.
- In order to qualify, you must have been at least 70 ½ when the distribution was made, and your total QCDs for the year can’t be more than $100,000.
- If your charitable donation exceeds the AGI limitations mentioned above, your contribution carries to future years. You may be able to deduct the excess of each contribution over the next 5 years.
- Contributions you carry over are subject to the same AGI percentage limitations in the year to which they carry. For each category of contributions, you deduct carryover contributions only after deducting all allowable contributions in that category for the current year. If you have carryovers for 2 or more prior years, use the carryover from the earlier year first.
- Be aware that the above summary applies to federal law only. Each state has different rules regarding charitable contributions. For example, New York State limits charitable contributions, whereas Connecticut does not give you a benefit for any charitable contributions.
While charitable contributions can be a beneficial way to lower your tax in most tax years, they can be extremely beneficial in a year that you are anticipating a large income event. As detailed above, planning for some of these charitable contributions can be a highly effective strategy for reducing your tax burden in years with significant income.
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Any advice contained in this communication, including attachments and enclosures, is not intended as a thorough, in-depth analysis of specific issues. Nor is it sufficient to avoid tax-related penalties. This has been prepared for information purposes and general guidance only and does not constitute legal or professional advice. You should not act upon the information contained in this publication without obtaining specific professional advice specific to, among other things, your individual facts, circumstances and jurisdiction. No representation or warranty (express or implied) is made as to the accuracy or completeness of the information contained in this publication, and CohnReznick LLP, its partners, employees and agents accept no liability, and disclaim all responsibility, for the consequences of you or anyone else acting, or refraining to act, in reliance on the information contained in this publication or for any decision based on it.