By Suzanne Garment and Leslie Lenkowsky
As Congress begins to debate President Trump’s tax-overhaul plan, nonprofits have already geared up to take part. They’ve made clear that they want to avoid the “wrong kind of tax reform,” meaning changes that could depress Americans’ charitable giving. But the way charities have framed their legislative priorities puts them at risk of seeming more interested in their own welfare than the welfare of the people who support them and the people they serve.
Two issues have raised the most concern in the philanthropic world.
One is the administration’s proposal to abolish the estate tax, which, according to Independent Sector, the Council on Foundations, the National Committee for Responsive Philanthropy, and others would have a chilling effect on bequests to charities.
The other big issue is the proposal to double the standard deduction that anybody who doesn’t itemize on their tax forms can take. The same groups, along with the more conservative Alliance for Charitable Reform, fear that this change would lower giving because fewer people would itemize — and those are the only people who, under current law, can deduct their donations to charity.
Usually, in debates about tax policy, we view the arguments made by for-profits as self-interested, meant just to protect the tax breaks that help the bottom line. Sometimes they talk about the jobs that will be gained or lost by tax-law changes; but we discount these statements, judging that “jobs” is just a euphemism for “profits.”
In contrast, nonprofits often make a more publicly compelling case for their position by pointing to the harm that a decline in charitable giving would visit on the needy, the sick, and other disadvantaged people nonprofits serve. In the current tax debate, though, it’s harder to tell whose interests charities are really concerned about.
The positions nonprofits are taking on the estate tax is the simpler issue to dissect.
In 2013, after years of policy gyrations, Congress significantly limited the number of wealthy people subject to the tax. According to the Center on Budget and Policy Priorities, only two of every 1,000 estates will owe any estate tax in 2017. Among farms and small businesses, only 80—yes, you read that number right—will have any estate-tax liability at all.
The small number of estates that are potentially subject to the estate tax can reduce the levy, dollar for dollar, by the amount of the charitable bequests they make. Most analysts agree that this tax provision provides a strong incentive for giving. It also contributes to the large and increasing share of charitable donations that now come from upper-income donors. It’s no surprise that nonprofits are protesting the administration’s plan to end the estate tax for everyone.
We should remember, though, that the people who would be affected by a change in the estate tax are not only far wealthier than most Americans but give very differently. The philanthropy of the wealthy, especially their bequests, tends to support foundations, donor-advised funds, relatively well-endowed institutions like universities, museums, and hospitals, and other such causes. Such giving is doubtless very valuable to the rest of us as well, but it certainly doesn’t concentrate on the needy. As a result, defending the estate tax as a way of generating more help for the most vulnerable is a difficult argument to make.
Doubling standard deductions
The administration’s proposal to double the standard deduction is more complicated but presents a similar problem for the public position of nonprofits.
Under current law, about 30 percent of households itemize rather than just taking the standard deduction. Under the administration’s plan, fewer people would have reason to itemize: The share of households taking itemized deductions, including the charitable deduction, could shrink to 5 percent.
The potential effects of the enlarged deduction are complicated. (This is tax policy, after all.) For instance, people taking the new standard deduction would be giving up the value of some of their old itemized deductions: not just the charitable deduction but the elephant in the room, the mortgage-interest deduction. What happens to the deductibility of state and local taxes will complicate the picture even more. It is no surprise that analysts disagree about exactly how much the enlarged standard deduction would impact taxpayers.
But there is no disagreement that it would reduce the tax incentive to give to charity. Researchers from the Lilly Family School of Philanthropy, using a variety of estimates, have concluded that the combination of doubling the standard deduction and cutting the top marginal tax rate (also in the tax plan) could cause a decline in giving of as much as $13.1 billion.
This prospect poses two problems for nonprofits: first, the potential decline in giving; and, second, the political difficulty of opposing the enlarged standard deduction, because it is the most progressive element of the tax plan and one that would bring its chief benefits to lower- and middle-income Americans.
That is probably why some nonprofits have refrained from frontally attacking the enlarged standard deduction. Instead, organizations like Independent Sector (which commissioned the Lilly Family School of Philanthropy research) have embraced the idea of what they call a “universal deduction” for charitable giving — that is, allowing even taxpayers who don’t itemize to take a charitable deduction.
The universal deduction, according to Lilly Family School of Philanthropy estimates, would more than offset the potential decline from an enlarged standard deduction and tax-rate cut. In fact, the combination of the three changes—the cut to the marginal tax rate, the enlarged standard deduction, and extending charity breaks to all—could bring a net increase of nearly $5 billion in charitable giving. But if adding a universal deduction would be better for charities, it would also add almost $18 billion to the cost of the tax package, which deficit-minded legislators may decide to offset in other ways, including, perhaps, by cutting back on the increase in the standard deduction.
Overloading the IRS
There’s also the fact that the universal deduction would be a near-universal mess. Because it would allow far more households to claim charitable deductions, it would require an IRS that’s already overloaded, to put it mildly, to be ready to audit far more returns.
What’s more, it would require far more taxpayers to retain records of their donations and the value of any goods or services they received in return. In fact, the estate tax offers a cautionary parallel: One frequently heard argument for abolishing it is the immense cost to taxpayers of planning for charitable bequests and the immense cost to the IRS of monitoring them.
In the face of these problems, organizations lobbying for a universal deduction start to sound suspiciously like other interest groups lobbying for their particular tax breaks — like the mortgage brokers, for instance, who argue that while a simpler tax system might sound well and good, a tax system that preserves the mortgage deduction would be better.
And would the enlarged standard deduction really cripple American giving? Recall that when the standard deduction was first proposed during World War II as a measure to simplify collecting taxes from the rapidly growing number of Americans who were paying them, churches and other charities formed a Council on Taxes and Philanthropy to lobby for maintaining—and even extending—the existing charitable deduction. According to tax historian Joseph Thorndike, one clergyman protested that the change would restrict “personal freedom” and be a step toward “fascism.”
It didn’t, it wasn’t, and Americans have continued to give to charities despite numerous changes in tax laws since then. These facts may tell more about how Americans will react to the Trump administration tax proposals than the lobbies speaking in the name of philanthropy appreciate.
Leslie Lenkowsky is an Indiana University expert on philanthropy and public affairs and a regular contributor to these pages. He and Suzanne Garment, a visiting scholar at Indiana University, write frequently on philanthropy and public policy.