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Over the next 10 weeks I want to share some basic tax tips that can be used for year end planning or thinking about your taxes for next year.
Review All Articles in This Series: 10 Tax Tips
TAX TIP NUMBER 7. CHARITY
Have you ever wondered why you get a tax deduction for contributions to charity. Tax policy and social policy. If government can get the private sector to make donations to those that are less fortunate those are expenses that the government does not have to incur and they can use the tax revenue for other social purposes.
Contributions to charity have long been a part of the tax code. There are two types of primary charities. First is the kind most people are familiar with which are the 501(c)(3) organizations. These include Red Cross, Churches, Temples, Salvation Army and so forth. The second type of charity are the private foundations like the Gates Foundation, or the Kroc Foundation or Scripps Foundation. There are also the social clubs like Rotary and Kiwanis. Depending on the type of charity, the deductions are different and the deductions are different based on the type of property donated to the charity. Here are some of the rules.
1. If a person contributes to what I will call a familiar charity the amount of the contribution can be 50% of the adjusted gross income that is shown on your tax return. Adjusted gross income is the total income that you make less a few deductions such as moving expenses, one-half of the self employment tax if you are self-employed and a few others. If you make $100,000 you could contribute up to $50,000 to a charity.
2. If a person makes a contribution to a private foundation the amount of the deduction is only 30% of a person’s adjusted gross income.
What is the difference between a contribution to a familiar charity versus a contribution to a private foundation. Part of the answer is that if the private foundation is formed for your own family. A private family foundation is a strategy used in the tax law allowing a family to create their own charitable foundation to which they can contribute, get the charitable deduction and then use that foundation for charitable purposes in the community. Having your own family foundation gives you more control as to the vision and purpose for the foundation, the programs that the foundation will run and who will be employed. Control over funds stay within the family.
The type of property contributed to a charity makes a difference. Cash is simple. You receive the tax deduction described above. Property is another story. There are two types of property. First is personal property like artwork. Second is real estate. Simply, when there is a contribution of property, whether personal or real property, the tax deduction is the fair market value of the property unless the fair market value is less than what you paid for it in which case what you paid for it will be the amount of the deduction. The deduction also is limited if the property hasn’t been held for more than 1 year i.e. the gain is short term capital gain.
Contributions of real estate to private foundations are further limited to the price paid for the property. If there is appreciation in that real property it is treated as if you sold the property first, paid the tax on any gain and then made the contribution. For what may seem like obvious reasons, this rule was intended to prevent abuse by families forming their own foundations and then contributing their own appreciated real estate and receiving the tax deduction. However, what’s the real difference if a taxpayer simply made the contribution of the real estate to a regular charity. No such limit in the charitable deduction would be imposed. It seems this is an arbitrary judgement that family foundations are somehow less charitably minded or are being used for abuse. I would rather presume the charitable purpose is valid and then show the abuse. Isn’t that like innocent until proven guilty rather than guilty and pay the tax.
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