Charitable Giving After ATRA

With the passage of the American Taxpayer Relief Act of 2012 (ATRA) on January 2, 2013, changes were made that will impact charitable gifts and charitable gift planning; mostly the change is an increase in taxes. But there are ways to minimize the effects on charitable gift planning. After ATRA, the focus should be on ways to reduce income, as well as the benefits of the lower after-tax costs of charitable contributions for donors now subject to higher income and capital gains tax rates.

Pease Limitation Effect on the Charitable Contribution Deduction

ATRA revived the itemized deduction limitations, also known as the “Pease Amendment” or “Pease Limitation”, named after Congressman Don Pease from Ohio who originally proposed it, and was first enacted in 1990 as a way of raising tax revenue without raising tax rates. Under Pease, total itemized deductions are reduced by 3 percent not to exceed 80 percent, of the amount the taxpayer’s adjusted gross income exceed the threshold amount; $250,000 for single filers, $275,000 for head of household, and $300,000 for married filing jointly (indexed for inflation). Charitable contribution deductions are included in the limitation equation.

The effect of this could adversely affect charitable contribution depending on the taxpayer’s income level and other deductions. For example, assume a married couple filing jointly have an adjusted gross income of $500,000 in 2013 has deductible charitable contributions of $20,000, mortgage interest of $50,000, and state taxes of $30,000 – for a total of $100,000 of deductions – the individual’s Pease limitation would be $6,000, which is 3% of $200,000 (the amount by which the taxpayer’s AGI exceeds the $300,000 applicable amount). As a result, the couple would be able to claim only $94,000 of deductions ($100,000 – $6,000), rather than the full $100,000.

Taxpayers that pay Alternative Minimum Tax (AMT) are not impacted by the Pease limitation. They receive the full benefits of their charitable contribution deductions at AMT rates of 28% or 26%.

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Additional Charitable Contribution Changes

A few more not so good news in the realm of charitable deductions, is that two charitable deductions were not extended: the contributions of book inventories to public schools; and corporate contributions of computer inventory.

However, some good news is that under ATRA, through December 31, 2013, the allowance of tax-free transfers to eligible charitable organizations, or qualified charitable distributions (QDCs), which are otherwise taxable distributions from IRAs owned by individuals aged 70½ years or older. The maximum distributions amount is $100,000 per individual, per tax year.

ATRA extends through December 31, 2013 the basis adjustment to stock of S Corporations making charitable contributions of property. Without ATRA, if an S Corporation donated property, a shareholder of the S Corporation would have reduced his/her shareholder’s basis by the pro rata share of the contributed property’s fair market value. With ATRA, the shareholder taxpayer only must reduce his/her shareholder’s basis by the pro rata share of the S Corporation’s basis in the contributed property. This allows a greater benefit to the taxpayer from the contributed property.

ATRA also extends through December 31, 2013 the enhanced charitable deduction for contributions of food inventory, regardless of whether the contribution is made by a C Corporation. The deduction is limited to 10% of the taxpayer’s aggregate net income for the tax year from all trades or businesses that participated in the contribution.

How to Use ATRA to Your Benefit

Because there are many ways to give, such as outright, or in a trust; during life, or at death, individuals should consider how they would like to structure their giving to benefit not only those who will receive, but the donor as well. Those who make outright gifts during their lifetime continue to be good stewards of their communities and benefit from a charitable tax deduction. The itemized deduction limitations, however, may make outright annual gifting less attractive for some individuals. For these individuals, a donation of appreciated stock may be more attractive. And speaking of gifts, have you ever considered Joke Gifts? They’re a hilarious way to add some laughter to special occasions!

By contributing appreciated stock, a taxpayer may avoid the increased capital gains rate of 20% and the new 3.8 % Medicare tax and minimize his Pease reduction. This is because the appreciated stock was transferred without a sale, so a capital gain is not triggered and the taxpayer’s AGI is reduced. A lower AGI generally means fewer lost itemized deductions.

A taxpayer may also want to consider a split interest trust. For example, due to the higher income tax rates, 40% gift tax rate, and a low Section 7520 interest rate, it is a great time for charitable lead trusts. Section 7520 rates are used to discount the value of annuities, life estate, and remainders to present value; essentially, it is used to calculate how much the IRS expects the trust assets to appreciate. A charitable lead trust is a trust that makes payments to a charitable organization for a set period of time. At the end of the trust term, the remaining assets are distributed to one or more non-charitable beneficiaries, typically family members, who will then typically face lower taxes. The current low Section 7520 rate causes the present value of the charity’s annuity to be higher, potentially allowing for a larger charitable deduction while decreasing the taxable gift to the non-charitable remainder beneficiaries.

When planning your charitable contributions and their tax repercussions, speak to Mesa Estate Planning Attorney at Gunderson Denton and Peterson.