Eleemosynary, my dear Watson. The charitable deduction reduces the cost of generosity. And a savvy tax sleuth can find a way to show that the tax savings generated by the charitable deduction enables a generous donor to give more than initially thought possible.
Example: A donor in the 28 percent bracket who wishes to donate $1,000 can actually make $1,388 available at an out-of-pocket cost of only $1,000. The $1,388 charitable deduction in the 28 percent bracket reduces by $388 the tax the donor would pay if no gifts were made. Thus, the donor's net worth is reduced by only $1,000 ($1,388 gift minus $388 tax savings).
Formula to determine how much a donor can contribute and reduce his/her net worth by $1,000:
X (amount of gift that reduces = $1,000
net worth by $1,000) 100% minus tax bracket
Example: Sam is in the 28 percent bracket. He can contribute $1,388 and reduce his net worth by only $1,000.
$1,000 = $1,388
100% minus 28%
Watson. Well Holmes, you can show even greater tax savings by adding the state income tax savings to the federal income tax savings.
Holmes. It’s not that simple Watson.
Computing the combined tax effect of federal and state income taxes requires more than merely adding the two rates together. Since state income taxes are generally deductible in determining a taxpayer's federal income tax liability, the combined rate for state and federal tax savings is lower than the sum of the two rates. Here's a formula:
Blended rate = federal rate + (( 1 - federal rate) X state rate)
Example: David is in the 35 percent federal income tax bracket and the 4 percent state income tax bracket. His blended rate is .35 + ((1 - .35) X .04) or .3760. That’s 37.60 percent rather than 39 percent
Wait Watson, there’s more. Long-term appreciated capital gain property (securities and real estate) given to a public charity gives the donor an additional tax advantage that reduces the donor’s out-of-pocket cost: avoidance of tax on the gift’s appreciation.
© Conrad Teitell 2016. This is not intended as legal, tax, financial or other advice. So check with your adviser on how the rules apply to you.
