Charitable Tax Deductions

One of the more popular tax-saving strategies for individual income tax returns is donating to charities.

documentDEDUCTIBILITY

Charitable contributions can help taxpayers reduce their taxable income (hence reducing their income taxes), but the donation must be paid to a non-profit organization that is recognized by the IRS. Taxpayers will report such donations in Schedule A (Itemized Deductions) of the U.S. individual income tax return, Form 1040. Contributing to charities is a common practice and a great method to reduce taxes while supporting a charitable cause.

LIMITATION

Even though charitable contributions are so popular, there is still a limitation (Lower Income Limitation). This limits the amount of a deductible contribution to 50% of your Adjusted Gross Income (AGI). For example, if the taxpayer has an AGI of $30,000, the maximum donation deduction is limited to 50% of the AGI, which is $15,000. Any additional donations that exceed this limit can be carried over to the following year (for up to 5 years).

PHASE-OUT & AMT

While most tax deductions and credits are subject to high income phase-outs and Alternative Minimum Tax (AMT) limitations, charitable contributions are one of the few deductions that are not subject to these limitations.  

Phase-out is when a taxpayer’s income exceeds a certain threshold, making them ineligible for some deductions or reducing the amount they can deduct. For example, using the passive loss deduction can reduce taxable income by as much as $25,000, however if the taxpayer’s AGI exceeds $100,000, the $25,000 deductibility starts to decrease. Once the taxpayer’s AGI reaches over $150,000, the passive loss deductibility is reduced to $0. The AMT limitation is very similar. While Phase-Out reduces or eliminates the tax deductibility, AMT recalculates taxable income by reducing the effect of some tax favored deductions.

TAX PLANNING

Charitable contributions are not for everyone. In general, taxpayers who do not qualify for or use “Itemized Deduction” Schedule A have no use for reporting charitable contributions on their taxes. This happens whenever the taxpayer’s itemized deductions are less than the “Standard Deduction”. Each year, the IRS provides all taxpayers with a standard deduction of around $9,300 (for 2016) to help taxpayers reduce their taxable income. Therefore, it is best to consult with a tax advisor before investing heavily in charitable contributions.


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Daniel Lu

Daniel Lu - Certified Public Accountant

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