The holidays are often a time when people are more motivated to give to charity. In addition to the good feeling that charitable donations can bring, they may also qualify for a tax deduction. However, the IRS rules are complicated. So if a year-end tax deduction is a part of the motivation behind making a charitable contribution, it is important to know the rules to determine if the contribution will qualify for a deduction and what records will be needed to support it.
As the end of the year approaches, it can be beneficial to take a moment to assess your current income tax situation and identify strategies that may lower your tax bill before year-end.
One of the most common and convenient tax deductions is the charitable contribution deduction. This deduction is often advertised by charities that are seeking donations. However, it is important to note that charitable contributions are only deductible if a taxpayer itemizes their deductions on Schedule A, which is used when total deductions exceed the standard deduction amount of $6,300 for single taxpayers and $12,600 for married couples for 2016. Therefore, it may be beneficial to do a tax projection before making a large charitable contribution to determine the actual reduction in taxes if tax savings is a major reason for the contribution.
In addition, the IRS has very specific criteria that it uses in determining what qualifies as a deductible contribution. So it is important to verify that you are donating to a qualified organization. A common source of confusion is the difference between a non-profit and a charity. A non-profit is any organization organized pursuant to section 501(c) of the IRS code. However, qualified charities which can receive tax deductible contributions are a subset of this classification organized under section 501(c)(3) of the tax code. In other words, not all non-profit organizations are qualified charities.
It is also important to note that a qualified charitable contribution must not be in exchange for any goods or services provided by the charity. For example, buying a ticket to attend a charitable event such as a charity dinner may reduce the amount of the deduction because the value of the dinner must be subtracted from the amount of the charitable contribution to determine the amount of the qualified deduction.
When donating cash or cash equivalents (credit card or check), you are required to keep track of a receipt with the amount donated, date, and name of the organization the money was given to. You may also want to scan or take a photo of the receipt to keep a digital copy of your records. There are also many qualified organizations online that accept credit card donations, where you can easily print a copy of the receipt or save as a PDF file.
It may also be beneficial to make contributions in the form of appreciated assets, such as shares of stock, rather than cash. When you donate shares of stock that have increased in value, you are able to avoid paying capital gains taxes from selling the stock and may still be able to take a tax deduction for the contribution. Many large and well-established charities have systems in place to facilitate these contributions while some smaller, local charities may not.
There are also ways to make a charitable contribution before year-end while distributing the money to the charity in future years. This can be done by contributing to a donor advised fund or a community foundation fund. These funds act as facilitators for charitable contributions by receiving tax-deductible funds in a given year and then distributing them to qualified charities in future years at the donor’s direction.
Finally, it is important to note that taxpayers who are over age 70 ½ and must take required minimum distributions from their retirement accounts can have their distributions paid directly to a charity to avoid paying taxes on the income.
Making Charitable Contributions can be an effective and easy way to show your support towards an organization and also lower your tax bill by year-end. However, there are strict tax and record keeping rules to follow to qualify for the deduction. We recommend consulting with your tax professional to verify you are keeping the right documents and information to take the deduction.