With tax-deductible donations in danger, the nonprofit world is mobilizing. Its lobbyists and supporters will be blanketing Capitol Hill this week. “Take action,” urges the Web site of Independent Sector, an organization of philanthropies and philanthropists. “Tell Congress not to limit the charitable deduction.”
Their entreaties are not falling on deaf ears. In a paper explaining why income tax rates must rise — why closing loopholes won’t raise enough money — two White House economists, Gene Sperling and Jason Furman, argue that it isn’t “plausible” to assume that Congress would eliminate the charitable deduction.
From a political standpoint, this is understandable. Every congressional district has churches, museums, cancer societies, colleges and other nonprofit institutions that will fight for the tax incentive that helps support them.
At first blush, it seems to make policy sense, too. The rich fabric of America’s civic life, from Boy Scouts to community orchestras to soup kitchens, is the envy of the world. Its diversity reflects in part how much it depends on private givers with diverse interests and motives, and not just on the government. Their giving is encouraged by the charitable deduction, enacted in 1917, just four years after the income tax itself. The deduction lets people feel they are beating the system even as they practice virtue.
But there’s a question of fairness that complicates the issue. Overwhelmingly, the deduction benefits the wealthy — and the rest of the country has to make up the gap.
Say a grateful California billionaire gives $10 million to a Los Angeles hospital where his wife received good care. If he is paying income tax at the highest rate (not a sure thing, as we know from the presidential campaign), he can reduce his income tax bill by 35 percent of the worth of the donation. He pays $3.5 million less in federal taxes than he otherwise would have had to pay.
For the very wealthy, as the nonpartisan Tax Policy Center (TPC) explained in a recent paper, the deal is often even sweeter. If our billionaire makes his donation in stock that he acquired years ago for $5 million but that is now worth $10 million, he not only gets his $3.5 million deduction; he may avoid the capital gains tax he would have had to pay if he sold the stock and put the proceeds in his bank account.
For someone who earns less, the deduction is worth less. If you’re paying at a 15 percent rate, the deduction for that same $10 million would be worth just $1.5 million. And 70 percent of Americans don’t itemize at all. Many of them are generous, but they get no subsidy for their charity.
A Congressional Budget Office study last year found that taxpayers reporting less than $50,000 in income accounted for 19 percent of charitable donations but received only 5 percent of the tax subsidy for donations. Essentially, average Americans are helping to pay for our billionaire’s generosity, though of course they have no say in where his charity goes. And they’re paying a lot: The total charitable deduction will amount to $230 billion between 2010 and 2014, according to the Joint Committee on Taxation, not including taxes lost on capital gains. That revenue has to be made up in some other way.
The tax incentive for giving could be made less costly to the government and more progressive. In his first term, President Obama proposed limiting the maximum value of the deduction to 28 percent, so the billionaire would reduce his taxes by $2.8 million, not $3.5 million. That would have raised a fair amount of revenue while triggering “a relatively modest decline in charitable giving,” according to an analysis by the Center on Philanthropy at Indiana University — a drop of 1.3 percent the second year the change was in effect. The nonprofit lobbyists rose up against that idea, too, and it went nowhere in Congress.
The White House, even as it argues to raise rates, has said that rate-raising alone won’t be enough. But there are few easy targets in the tax code. Loopholes that benefit hedge fund managers or private jet users cost a relative pittance.
As the charities make their case, the home-building industry will be arguing that the mortgage interest deduction is essential to the American dream. State officials will be pointing out the pressure they’ll come under to reduce school funding if state and local taxes are made less deductible. Meanwhile advocates of medical research, Native American health, AIDS treatment in Africa, student loans, national parks, border security, prison reform — they will all make persuasive arguments for why their little piece of government spending should not be cut.
You need to keep all of them in mind as you decide how much you want to pay to help renovate that hospital wing with the billionaire’s name above the door.