The Future of the Charitable Deduction

By Pete Kennedy, CPA, CVA

GetInvolved Nonprofit Guide Article published in the September 2012 News Journal

No matter who wins the election in November, tax reform will be at the top of the agenda.  If there’s one thing both sides can agree on (quite possibly the only thing they can agree on), it’s that the tax code needs to be fixed.  The broad outline of the Democrats plan is the “Buffet Rule,” where those making large amounts of money should pay a higher percentage in tax.  For the Republicans, it’s “broaden the tax base, reduce the rates.”  As with most things, the devil is in the details.  Every detail in the tax code is there for a reason – the loopholes that exist are not accidents.  If either side was to provide details of a tax plan, it would assuredly cost them votes so they will remain vague for as long as possible.
The charitable deduction stands as one of the best examples of social engineering through the tax code.  By encouraging charitable giving through tax benefits, the tax code has at least in part helped to create a network of organizations that provide for society’s needs in areas of housing, education, healthcare, historic preservation, religion, etc. That said, the same deduction is routinely listed as one of the IRS’s “Dirty Dozen” tax scams.  While it can’t be denied that abuse occurs, it is my belief that it happens primarily at the individual level or at “charitable” organizations no one has ever heard of – which should never have been granted exempt status in the first place.  The notion that a true publicly supported charity would risk its very existence by abetting a tax scam makes little sense.  Cheaters will cheat, and if the charitable deduction is closed off as an avenue to cheat another will be found.  Be that as it may, for economic reasons, the subsidy represented by the charitable deduction is on the block along with everything else.
Regardless of who wins the election, the “Fiscal Cliff” looms in January 2013. The Fiscal Cliff is a self-imposed set of spending cuts and tax increases that were designed to be so dire and onerous they would force the Congress into bi-lateral action.  It was originally intended to be enforced in 2011, but was delayed until after the 2012 election cycle. The Simpson–Bowles plan was intended as a bi-partisan blueprint for deficit reduction to be enacted as an alternative to the “Cliff.”  Republican nominee Romney states in his campaign literature that the Simpson-Bowles report will be used as a starting point (and VP Nominee Ryan was on the Committee itself).  While Democrats are even less forthcoming as to their plans, many believe that given the small time window between the election and the “Cliff,” Simpson-Bowles (or a plan derived from it) is the only realistic option.
As John Aloysius Farrell and Nancy Cook of the National Journal wrote in an August 17, 2012 article entitled The Legend of Simpson-Bowles, “There is a reason that so few of the commission’s 70-odd recommendations – and none of its major planks – have made it past the hypothetical. Simpson-Bowles hurts.”  As one of its guiding principles, the Simpson-Bowles report states that “America’s tax system is broken and must be reformed.”

So what would Simpson-Bowles mean for the charitable deduction?  Would nonprofits escape the pain?  First, a little bit of good news …Under the Simpson-Bowles illustrative plan, there is no longer a decision point between itemizing and using the standard deduction, meaning that a taxpayer would no longer need to eclipse the standard deduction level in itemized deductions before benefiting from their contributions. Okay, that’s a very little bit of good news, especially considering the bad news …The concept of itemized charitable deductions is eliminated under the illustrated plan and replaced with a 12% nonrefundable credit coupled with a 2% AGI floor.  That’s a mouthful, but here’s a simple example to demonstrate the difference:
Let’s assume that a taxpayer, who would itemize deductions anyway, currently has $100,000 in taxable income and is in the 28% tax bracket. If he/she contributes $5,000, they would receive $1,400 in benefit ($5,000 x 28%).
Under the Simpson-Bowles plan, however, the same taxpayer would receive only $360 in benefit ($5,000 minus $2,000, representing the 2% floor, x 12%) – a reduction of $1,040, or 74%.
We are obviously still in the hypothetical stage at this point.  After the election cycle, however, the changes will come fast and furious. Or the “Cliff” may be pushed out once again.  While Congress may not be able to move mountains, they have proven they can move cliffs.
At the end of the day, people make charitable contributions for different reasons.  With the possible exception of those donating their old clothes (they were brand new, still had the tags on them – honest!), no one can be singularly motivated by the tax benefit to make a charitable donation – if they were, why not just keep the $$ and pay the tax?  The extent to which a reduction in the tax benefits of charitable contributions such as the one discussed above would impact giving overall is an open question – only time will tell.
If your organization has questions regarding the charitable deductions, please contact Pete Kennedy, or any other member of our Nonprofit Practice team, at Cover & Rossiter at (302) 656-6632.
Cover & Rossiter, P.A. (www.CoverRossiter.com) is one of the most respected and experienced CPA firms serving the accounting, tax and audit needs of the nonprofit community in Delaware. 

This article originally appeared on our website. You can see it here along with other articles we have authored.

Itemized Deductions and Personal Exemptions

Over the past several weeks Cover & Rossiter has been alerting clients of the myriad of tax law changes set to take place in January 2013. This week's tax planning tips will focus on changes that are scheduled to occur for itemized deductions and personal exemptions as well as some proposed changes that are being debated. Some upcoming changes are as follows:

• There will be a return to the "phase-out" of itemized deductions to the extent your AGI (adjusted gross income) exceeds a certain threshold. Therefore, 3% of the amount that exceeds this threshold will reduce your allowable itemized deductions.
• The "phase-out" of personal exemptions will be reinstated as well. Personal exemptions would be reduced 2% for each $2,500 by which the taxpayer’s AGI exceeds a certain threshold amount. The deduction for the personal exemption would be completely eliminated at approximately $175,000 for single taxpayers and $260,000 for married couples filing a joint return.
• Mortgage insurance premiums will no longer be deductible. (There presently is legislation pending which would extend the ability to deduct this expense).
• Medical expenses will be deductible as an itemized deduction to the extent those expenses exceed 7.5% of a taxpayers' AGI. Starting in 2012 the threshold increases to 10% of AGI. However, taxpayers who are 65 or older before January 1, 2013 will continue to be able to deduct their medical expenses to the extent the expenses exceed 7.5% for the taxable years 2013 through 2016.

Proposals for tax changes:

• There have been discussions by both political parties in favor of eliminating the mortgage interest deduction on homes that are not the primary residence of a taxpayer. Presently, there is no actual bill, but since there seems to be bipartisan support C&R wants to inform you of this possibility. Taxpayers who are considering purchasing a vacation home, and are counting on a taxable mortgage interest deduction should factor in to their decision making process that the deduction may not be available long term.
• There have been discussions regarding the limitation of the charitable deduction for upper income taxpayers. The Obama proposal would limit the value of the itemized deduction to 28% for couples with incomes greater than $250,000 and individuals with incomes greater than $200,000. Although this has been proposed previously C&R does not believe that there is a high likelihood of legislation passing Congress due to large opposition by non-profit organizations.

Higher income taxpayers should consider pre-paying any itemized deductions such as mortgage interest, real estate taxes and charitable contributions in 2012 to take advantage of the opportunity to obtain a full taxable deduction for those expenses. These decisions can be complicated so please contact us so that we can advise you appropriately on what strategy works best for your situation. Please feel free to contact Marie Holliday at (302) 691-2211 or Jeff Willis at (302) 691-2218 if you have any additional questions.

Cover & Rossiter will be holding seminars at both our Wilmington and Middletown offices to discuss these changes and offer strategies for being proactive in 2012. The dates of these seminars are as follows:

Wilmington office: September 25th 8:00 AM

October 23rd 5:30 PM

Middletown office: October 2nd 5:30 PM

To register for a seminar click here or call 302.691.2224.

Health Care Coverage Requirements and Reporting

The Supreme Court recently upheld the provisions of the 2010 Patient Protection & Affordable Care Act. As a result it will become mandatory for many employers to provide medical coverage to their employees in 2014. Outlined below are some of the rules:

• Companies with 50 or more full-time employees must provide health insurance for all workers by 2014 or penalties could be imposed
• The individual mandate states that everyone must purchase some sort of health insurance by 2014. That means at companies with fewer than 50 employees the responsibility will be on the employee to obtain medical coverage if the employer does not provide it.
• Sole proprietors will also be required to buy health insurance for themselves in 2014 or pay a fine
• The plan must cover 60% of health care expenses
• The employee's share of the insurance costs must be less than 9.5% of the family's salary
• Stiff penalties will apply for those who don't comply with the mandate, including: o Individuals without health coverage will be fined a minimum of $95 or 1% of their income starting in 2014 and the penalties increase each year after. o Employers who don’t meet health insurance coverage requirements could face a minimum penalty of $40,000

In addition, employers are now subject to additional reporting requirements for employer-sponsored health coverage. The Act requires employers to report to their employees on Form W-2 the cost of employer-provided health insurance. Listed below are some guidelines:

• This reporting requirement is optional for small-employers filing less than 250 Forms W-2 in 2012
• In 2013 it will be mandatory for all employers to report the cost of health care premiums to employees.
• The aggregate cost of employer-sponsored health coverage is reported on Box 12 using code DD on Form W-2.
• Please be aware that if you have a payroll agent preparing Forms W-2 for your business you will need to provide the amount of employer-sponsored health coverage for each employee to the payroll agent in order for the correct costs to be included on the employee's Form W-2.

If you have any questions or would like more information, please contact Rachael Leberstien at 302.691.2237 or by email. Visit our website for more information about our firm and the services we provide.

Cover & Rossiter will be holding seminars at both our Wilmington and Middletown offices to discuss these changes and offer strategies for being proactive in 2012. The dates of these seminars are as follows:

Wilmington office: September 25th 8:00 AMOctober 23rd 5:30 PM Middletown office: October 2nd 5:30 PM

To register for a seminar click here or call 302.691.2224.