How might tax reforms reduce incentives for charitable giving?
Tax reforms can reduce charitable giving through direct and indirect changes to the tax code. The indirect effects are often greater than the direct effects from changes in rules related to charitable giving.
Several recently proposed tax reforms would, indirectly, reduce incentives for charitable giving. These reforms include reductions in marginal tax rates, caps on total itemized deductions, caps on the maximum tax rate at which all itemized deductions can be allowed, increases to the standard deduction or reductions in other itemized deductions, and elimination or reduction of the estate tax.
Reductions in marginal tax rates increase after-tax costs for charitable donations, thereby reducing the incentive to give. If an itemizing taxpayer with a tax rate of 39.6 percent gives $100 to a local college, for example, that charitable deductible gift has an after-tax cost to the taxpayer of $60.40 because of the $39.60 reduction in his or her income tax bill. If that tax rate is reduced to 33 percent, the after-tax of the donation would increase to $67 because the federal subsidy for giving falls from $39.60 to $33.
Caps on total itemized deductions could also reduce charitable giving because the caps reduce, and in many cases remove, incentives for high-income taxpayers to give. During the 2016 presidential campaign, for instance, President Trump proposed an overall cap on itemized deductions of $100,000 per single return and $200,000 per joint return. Higher-income taxpayers with mortgage interest, property tax, and other deductions in excess of such amounts would have no tax incentives to give to charity because charitable gifts would not add to their deductions. Though only a small percentage of taxpayers have such high incomes, research suggests that high-income tax payers are more responsive to tax reforms that affect charitable giving because they have more income, more tax advisers, and more incentive to devote time to figuring out the after- tax price of giving.
A maximum cap on the subsidy rate for itemized deductions also reduces the incentive to give because it increases the after-tax cost of giving. For instance, if the top statutory tax rate is 39.6 percent, but the maximum subsidy rate is set at 28 percent, then the subsidy for those in that 39.6 percent bracket would be reduced by more than one-quarter. President Obama proposed this type of cap.
Increases to the standard deduction or reductions in other itemized deductions also reduce incentives to give by reducing the number of taxpayers who itemize their deductions. These types of changes have been common to many tax reforms. Currently, itemizers are estimated to provide about 82 percent of total giving, about $239 billion; nonitemizers, who on average have lower incomes, provide about 18 percent of total charitable giving, about $53 billion. If fewer people itemize, fewer people have a tax incentive to give.
Eliminating or reducing the estate tax could also negatively affect charitable giving because such tax reform reduces higher-income individuals’ incentive to give. The estate tax encourages charitable giving by allowing a deduction for charitable bequests. One study published in 2003, when the top estate tax rates were higher than today, estimated that estate tax repeal could reduce charitable bequests between 22 and 37 percent.
Examples from Some Recent Tax Reform Proposals
Donald Trump’s campaign tax plan proposed reductions in marginal tax rates and overall caps on itemized deductions. Figure 1 shows how these tax reform proposals would indirectly affect charitable giving by increasing the average after-tax price of giving from $79.20 to $91.30, thereby reducing the incentive to give. Households in the top 1 percent are the most affected by Trump’s proposed rate cuts and overall caps on itemized deductions; their average after tax-price of giving would rise from $67.70 to $94.30.
House Committee on Ways and Means Chairman Dave Camp’s tax plan proposed different tax reforms that could have affected charitable giving in different ways. For example, the plan proposed lowering tax rates, increasing the standard deduction, limiting itemized deductions other than charity, limiting maximum charitable deductions annually to 40 percent of adjusted gross income, and allowing charitable deductions only above a floor of 2 percent of adjusted gross income. Overall, estimates from the Tax Policy Center show that Chairman Camp’s tax plan would have reduced individual giving in the range of 7 to 14 percent, which corresponds to a reduction of between 17 and 34 billion dollars based on 2013 giving levels (table 1). Note that multiple interactions in this case make the combined effect of many provisions greater than the sum of their parts.
Bajika, Jon M., and William Gale. 2003. Effects of Estate Tax Reform on Charitable Giving. Washington, DC: Urban-Brookings Tax Policy Center.
Harris, Benjamin H., James R. Nunns, Kim S. Rueben, Eric Toder, and Roberton C. Williams. 2013. Analysis of Specific Tax Provisions in President Obama’s FY2014 Budget. Washington, DC: Urban-Brookings Tax Policy Center.
Nunns, James R., Leonard E. Burman, Jeffrey Rohaly, and Joseph Rosenberg. 2016. An Analysis of Donald Trump’s Revised Tax Plan.Washington, DC: Urban-Brookings Tax Policy Center.
Nunns, James R., Leonard E. Burman, Jeffrey Rohaly, and Joseph Rosenberg. 2015. An Analysis of Donald Trump’s Tax Plan. Washington, DC: Urban-Brookings Tax Policy Center.
Nunns, James R., Amanda Eng, and Lydia Austin. 2014. Description and Analysis of the Camp Tax Reform Plan. Washington, DC: Urban-Brookings Tax Policy Center.
Rosenberg, Joseph, C. Eugene Steuerle, Joycelyn Ovalle, and Philip Stallworth. 2016. “The New Debate over a Charitable Deduction for Nonitemizers.” Washington, DC: Urban-Brookings Tax Policy Center.
Rosenberg, Joseph, C. Eugene Steurele, Ellen Steele, and Amanda Eng. 2014. “Preliminary Estimates of the Impact of the Camp Tax Reform Plan on Charitable Giving.” Washington, DC: Urban-Brookings Tax Policy Center.