Donating money to charities you care about feels good. It can also lower your tax bill by reducing your taxable income in an amount equal to the amount you give. A number of rules and restrictions govern how much you can give and how you can do it, though. Understanding how this works so you can do it correctly takes some learning, but can really be worth it.
Many financial advisors can help you build a plan for tax minimization. Speak with a financial advisor today.
Giving to Charity and Your Taxes
The interaction between charitable giving and tax obligations can get complicated. But the base-level explanation of how charitable giving can save you at tax time involves using charitable gifts to lower the amount of your income that will be taxed.
Your adjusted gross income (AGI) largely decides how much tax you owe. When you make charitable donations, you can reduce your AGI by the amount donated. That shrinks the amount of income that gets taxed. In turn, less taxable income equals less taxes you pay.
The deductions that charitable donations can supply are called above-the-line deductions and are taken from your gross income. Other above-the-line deductions, like retirement plan contributions and mortgage interest payments, can also reduce your AGI.
However, the federal government limits who can claim these types of deductions. In short, you’ll need to choose whether to itemize your deductions, which can include charitable giving, or take the standard deduction.
Typically someone would simply take whichever option is higher; either the standard deduction amount for their filing status or their total itemized deductions. For reference, below are the standard deduction amounts for 2023 and 2024:
- 2023 Standard Deductions
- Single: $13,850
- Joint: $27,700
- Head of household: $20,800
- 2024 Standard Deductions
- Single: $14,600
- Joint: $29,200
- Head of household: $21,900
So, if your charitable giving and other itemized deductions totaled to amount lower than your filing status’ standard deduction, you’d skip deducting your charitable gifts entirely. That’s because you’ll get more benefit by deducting the higher amount, which in this case would be the standard deduction.
Charitable Giving Example
To see how this actually works in practice involves accounting for a number of factors including your filing status, income and tax bracket. Below is an example using 2023 federal income tax rates and brackets.
First, say you file jointly with $130,000 in wages from your job and you take the standard deduction of $27,700 for joint filers. You’re left with $102,300 in taxable income, indicating you’ll owe $13,121 in federal taxes.
On the flip side, what would happen if you also donated $40,000 in cash to charity? Since this amount is higher than the aforementioned standard deduction, you’d itemize instead. That would bring your taxable income to $90,000, meaning you’ll have less of your income taxed than if you took the standard deduction and had $102,300 in taxable income.
In this scenario, you’d owe just $10,415 in federal income taxes. That comes out to a savings of $2,706 by itemizing your deductions instead of taking the standard deduction route.
Other Tax Rules and Benefits for Charitable Giving
If you decide to itemize with charitable gifts, there’s typically a deductible limit of 50% of your AGI for cash gifts. For donations of non-cash assets, the limit is 30% of your AGI. If your donations total above those caps in a given year, you can carry forward the excess deductions up to five more years.
Strategies like bunching bigger donations into alternating years can help you maximize deductions. Another strategy you may want to consider is setting up a donor-advised fund to get the tax break immediately, while sending money to charities slowly over time.
If you’re over age 70.5, you can make qualified charitable distributions from IRAs up to $100,000 a year. Making these gifts lets you check the box on required minimum distributions (RMDs) without raising your taxable income.
Charitable trusts can also supply significant benefits. These come in two main varieties: charitable remainder trusts and charitable lead trusts. Here’s a breakdown of each:
- Charitable remainder trust: These pay lifetime income to you first before assets transfer to charity when you pass.
- Charitable lead trust: These allow you to donate to charity first, then dole out leftovers to heirs and avoid estate taxes. These take expert help to create correctly and also involve some costs. However, they can be powerful tools for the right situations.
Giving money to charity pays its own rewards. Plus, the tax savings they offer can be quite large. Just remember to follow all the special rules on deductible amounts and tax return documentation.
You can also use a range of special tools and strategies, from bunching donations and employing charitable trusts, to crafting a giving strategy that will give you the most tax benefits.
Tax Planning Tips
- A financial advisor can help you build a financial plan that accounts for taxes. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
- Avoid unpleasant surprises at tax time by using SmartAsset’s federal income tax calculator to estimate how much you’re likely to owe the tax collectors.
Photo credit: ©iStock.com/WANAN YOSSINGKUM, ©iStock.com/champpixs