When Congress passed the Trump administration’s sweeping tax legislation in 2017, many proponents of the law believed that its provision limiting deductions for state and local taxes would indirectly encourage charitable giving by the wealthiest taxpayers.
The thinking went like this: Affluent taxpayers in large typically Democratic-led states with the highest donations, such as New York and California, faced a new $10,000 limit on the state and local tax deduction. Because such taxes can top $100,000 for some households, the new cap meant they would pay higher taxes. But charitable giving could help buffer that blow. That’s because the deduction for charitable giving remained effectively uncapped, meaning affluent households could reduce their tax burdens by donating more to charities and thus make up for the new deduction limit on their state and local taxes.
Unfortunately, things have not worked out that way. New research I conducted for the American Enterprise Institute, released today, shows that since passage of the 2017 law, charitable giving has declined in high-income counties with high state and local taxes.
All the counties that saw less giving were in the top 5 percent in household income, and all were in blue states that typically have high state and local taxes and where the cap on deductions for those taxes hit hardest.
In Westchester County, New York, for example, charitable giving among those reporting more than $200,000 in income fell from $1.4 billion in 2017 to $1.17 billion in 2019, according to the most recently released IRS data.
In wealthy Marin County, Calif., total charitable giving decreased from more than $613 million in 2017 to $585 million in 2019. These are notable in no small part because California and New York are by far the nation’s largest sources of charitable dollars at $36 billion and $19 billion, respectively.
This trend is likely a contributor to the 2020 drop in the share of dollars donated by individuals, which fell below its historic level of 70 percent of all donations made that year — just the second time that has occurred.
So, is the answer to restore the unlimited state and local tax deduction? A proposal by some blue-state Democrats to do just that was rejected last week by the U.S. Supreme Court.
The court’s decision not to hear the case is a win for those who support a progressive tax code that encourages charitable giving by all Americans — not just the wealthiest. As the Tax Foundation has found, the benefits of the deduction “overwhelmingly go to high-income taxpayers, particularly those in high-income and high-tax states.”
In 2016, before the enactment of the tax law, 77 percent of those who received the deduction had incomes above $100,000 while just 6.6 percent earned less than $50,000.
Whatever the effects on charitable giving, restoring the unlimited state and local tax deduction would benefit a small number of high-income households and encourage less fiscal discipline by their state governments.
Don’t Offer Incentives Only to the Wealthy
Although the relative drop, overall, in individual charitable giving suggests that some tax-code adjustment is needed, that adjustment should not be confined only to the wealthy.
The current tax code provides an incentive for charitable giving to the small minority of mostly wealthy taxpayers who itemize their taxes. But charity, regardless of how much a person can give, inspires a greater connection to civil society and should be broadly encouraged.
And in an era of ever-expanding government, America should never abandon the view that the charitable world can identify and undertake missions that government cannot do well or is not authorized to engage in. This especially includes the work of locally focused organizations such as park conservancies, historical societies, and community foundations, all of which draw citizens together in shared, volunteer-based efforts.
Concern about overall declines in charitable giving predate the Trump-era tax cuts. A report by the Social Capital Project of the Congressional Joint Economic Committee found that even as total giving increased, the percentage of Americans who gave fell from 66 percent in 2000 to 56 percent in 2014. The report concluded that “growing donations are coming from a shrinking share of the population.”
2 Approaches to Enhance Giving
Additional tax code changes could help reverse these trends. Two options should be considered for encouraging charitable giving among those who are not the highest earning households.
The first option is a so-called above-the-line charitable deduction, which allows people to subtract the deduction from their gross income. An American Enterprise Institute analysis by economists Alex Brill and Derrick Choe found that replacing the current charitable deduction with an above-the-line deduction would have increased giving by $21.5 billion in 2018 and reduced tax revenue by $25.8 billion.
The second option — a tax credit that would be available even to households that don’t itemize their tax returns — is especially promising.
The same study estimated that replacing the charitable deduction with a 25 percent nonrefundable tax credit, which reduces the amount of taxes owed, would have a greater impact on giving and a greater reduction in tax revenue than the above-the-line deduction, which reduces taxable income.
Specifically, it would have increased giving by $23.3 billion in 2018 and reduced revenue by $31.1 billion. The Social Capital Project report also concluded that a tax credit is more likely to increase the number of new donors than a deduction.
Make Giving Breaks Permanent
For now, however, the idea of an above-the-line charitable deduction seems to have the most traction in Congress, where it gained at least temporary bipartisan support during the past few years. In response to the pandemic, Congress approved a $300 charitable deduction for individuals and a $600 deduction for married couples. But the deductions expired at the end of 2021, and so far, Congress has not acted to make them permanent.
As part of larger efforts to encourage charitable giving among all Americans, Congress should quickly extend those deductions. Increasing the amount of charitable giving as well as the number of taxpayers who give are both worthy goals that could be achieved through either an above-the-line charitable deduction or a tax credit.
The modest decrease in federal tax revenues that would result would be balanced by gains in the health of American civil society and support for organizations that contribute to the betterment of communities in ways government can’t.
At the same time, Congress should resist calls to reinstate an unlimited federal income-tax deduction for the amounts paid in state and local income tax. This especially regressive tax policy does not reflect America’s approach to charitable giving, lauded by observers such as Alexis de Tocqueville at a time when there was no federal income tax at all. Despite the resulting decreased giving in high-tax states — at least for now — the nation stands to gain from a tax code that doesn’t discourage any income group from charitable giving.