Background: Elder Oaks and the Charitable Deduction

October 19, 2011 | 19 comments
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Yesterday, as Marc pointed out, Elder Oaks testified in front of the Senate Finance Committee in favor of the deduction for charitable giving. He argued that the charitable deduction is vital to the nation’s welfare.

Why, though, these hearings on the charitable deduction? Is it under attack? In case you haven’t been following the politics of tax and budgeting recently (of course, who hasn’t?), I thought I’d provide a little background to the hearing.

The Deduction for Charitable Donations

The charitable deduction is an itemized deduction (more on that later). It’s one of the older deductions in the tax law, though its run is not coterminous with the tax law. The modern federal income tax was enacted in 1913, but the charitable deduction didn’t manage to get enacted until 1917.

And what is the relevance of a deduction? Basically, a deduction reduces your tax liability by the amount of your deduction times your marginal tax rate. So, for example, if you pay taxes at a marginal rate of 35%, and you get a charitable (or any other) deduction for $100, you will pay $35 less in taxes than you would have without the deduction. If, on the other hand, you pay taxes at a 20% marginal rate, your tax bill would be reduced by $20.

Itemization

And what is an “itemized” deduction? In calculating your tax liability, there are some deductions you can basically always take (these are called above-the-line deductions[fn1]). Itemized deductions are basically any other deductions. When you calculate your taxable income, you choose between taking your itemized deductions or taking the “standard deduction.” The standard deduction is a set deduction adjusted for inflation; in 2011, the standard deduction for a married couple filing jointly is $11,600.[fn2]

What this effectively means is that, if you and your spouse have less than $11,600 in itemized deductions in 2011, you’ll take the standard deduction. That is, let’s assume that you make charitable contributions of $5,000 and pay mortgage interest of $4,000 in 2011.[fn3] That gives you $9,000 of itemized deductions; in that case, you’re going to forget about your itemized deductions and, instead, take the standard deduction. If, on the other hand, you make charitable contributions of $10,000 and pay mortgage interest of $4,000, you will itemize your deductions and ignore the standard deduction.

In 2006, only about 36% of taxpayers itemized their deductions (meaning that the incentives that flow from the provision of deductions only incentivized 36% of taxpayers), a percentage that seems relatively steady. Poorer taxpayers are generally less likely to itemize; they are also more likely to donate to churches than richer taxpayers (who are presumably itemizing); richer taxpayers, on the other hand, are more likely to universities, hospitals, and cultural organizations.[fn4]

We All Like Charitable Deductions, So What’s the Problem?

The President’s proposed American Jobs Act[fn5] would limit the size of itemized deduction available to married taxpayers earning more than $250,000.[fn6] (Basically, that’s everybody with a marginal tax rate of 35%, and some portion of those who have a marginal tax rate of 33%.) Such taxpayers would still be able to take a deduction for, e.g., the mortgage interest they pay and the charitable donations they make, but the percentage of deduction would be limited to 28%. As a result, a high-income taxpayer who donated $100 to charity would reduce her tax bill by $28, not $35.

The question is, how will that affect charitable giving in America? The answer is, nobody knows exactly. It will probably reduce charitable giving by some amount, while it will almost undoubtedly not eliminate it entirely. So the Senate Finance Committee appears to have been trying to determine the scope of the reduction, presumably (one hopes) to evaluate whether the increased revenue is worth the decrease in charitable giving. And there’s probably not an easy answer.

(Note, of course, that, while the focus of the hearing was on charitable giving, the limitation does apply to all itemized deductions.)

[fn1] As a rough guide, your above-the-line deductions are any of the deductions listed in lines 23-35 of the 2011 IRS Form 1040.

[fn2] Unmarried individuals get a standard deduction of $5,800.

[fn3] For most individuals, getting about the standard deduction threshold only happens if they have a mortgage. Even if you tithe 10% of your income, you would have to earn more than $116,000 in 2011 to meet that threshold. In 2008, having $113,799 adjusted gross income (which is something less than gross income, but something more than after-tax income) put you in the top 10% of the U.S., income-wise. I use 2008 because it’s the most recent year for which the IRS has released a comprehensive analysis of tax data.

[fn4] I try, generally, not to flog my academic work here, but if you’re interested in some numbers, you can look at my paper “Reigning in Charities“; the relevant numbers are on pages 9 and 10, and especially in footnote 37.

[fn5] Yes, I know it’s been rejected by Congress; now the President is moving on to getting it passed piecemeal; while nobody things that every part will pass, many parts seem likely to pass.

[fn6] Note that that doesn’t get you unmarried taxpayers off the hook: your itemized deduction would be limited if you earned more than $200,000.

19 Responses to Background: Elder Oaks and the Charitable Deduction

  1. Dave on October 19, 2011 at 1:35 pm

    Sam, it strikes me that what you have outlined here is an argument to eliminate the standard deduction — that would “incentivize” a much larger percentage of filers. There is certainly a better case to be made for granting an itemized charitable deduction for money a taxpayer has actually contributed to a deserving charitable organization than for granting a taxpayer a generous but misnamed “standard deduction” as if they had expended $11,600 (or $5,800) in deductible expenditures when, in fact, they likely expended much less or even *nothing*.

    Seriously, if you are looking for unfairness or injustice in the tax code, the chartitable deduction is probably the last place to start looking.

  2. Jason on October 19, 2011 at 1:44 pm

    Thanks, Sam — that’s helpful context.

    Dave: if I’m understanding aright, the original thought wasn’t that the itemized deduction per se was unfair. Rather, Obama’s proposal was to cap itemised deductions generally on high earners to increase their share of the tax burden without raising marginal rates (who are more likely to benefit from itemisation in the first place). The deduction for charitable giving was just to be collateral damage — damage Congress is trying to assess now.

    Did I get that right?

  3. Chino Blanco on October 19, 2011 at 2:03 pm

    As someone who grew up with horses, I’ve always been curious about what “reigning in” was supposed to mean? Otherwise, this is interesting stuff that I wish I understood better.

  4. Mark B. on October 19, 2011 at 2:35 pm

    I’m with Chino Blanco–but I’m thinking that you deserve better from the editors at the Pittsburgh Tax Review.

    Maybe it’s those guys who are getting rich off the Friends of Scouting–they seem to be reigning in the BSA, which is a charity, right?

  5. Sam Brunson on October 19, 2011 at 2:45 pm

    Thanks, everybody. Jason, that’s right (except maybe the motivations).

    Chino and Mark, as should be clear, I grew up without horses. (What makes me sad, though, is that, of all of the eyes that have seen the article, yours were the first four to catch the titular problem).

  6. Jax on October 19, 2011 at 4:42 pm

    Thanks for the info on why they are holding the hearings. Your explanation on the tax savings of deductions was confusing to me though…probably not for others. I just think of it in terms of taxable income… If I make 20,000 and give 2,000 to charity (tithing) then my taxable income is reduced $2,000. $20,000 – $2,000 is $18,000 that is taxed. My “savings” is just my tax rate times my donation, but I usually don’t calculate my “savings” when I give to charity, I’m thinking more about helping the charity.

  7. Sam Brunson on October 19, 2011 at 6:16 pm

    Jax, that’s a perfectly sensible way to think of deductions: they do, in fact, reduce your taxable income, which is why the math works. But that model wouldn’t work with the President’s proposed cap on deductions; for that reason, it makes sense (in this post, at least) to talk about the reduction in tax liability, rather than the reduction in taxable income.

  8. Al on October 19, 2011 at 7:47 pm

    The Progressive left just hates the thought that they don’t have totally control of funds for “doing good”. These deductions are their money.

  9. Brad on October 19, 2011 at 10:40 pm

    Ohhp, Al’s back!

  10. Cameron N on October 19, 2011 at 11:25 pm

    Thanks for the explanation Sam. This will be the first year I will actually make enough to have to figure this out. I’m sure, Sam, you would oppose this for self-interested reasons, but I support the principles of re-writing and simplifying the tax code, with a few exceptions, charitable deductions being one of them (probably also for partially self-interested reasons).

    My main issue with the current administration’s attitude toward taxation is that they seem to think that revenue directly correlates with tax rates, when in many cases lowering rates increases revenues.

    Brad, I’m not familiar with Al’s complete post history here, but I believe his statement is accurate. Many currently in power think that the governed derive their income with the consent of the government. But I’ll stop since it seems a little off-topic. =)

  11. Chadwick on October 19, 2011 at 11:39 pm

    Hi Sam:

    As a fellow tax geek, I take two issues with what you have presented:

    Firstly, in Fn 3, you make it sound like there are only two itemized deductions. Um, what about state taxes? Real estate taxes? For example, if I’m a CA resident who doesn’t own a home, but make, say $80K a year, I would have an $8K tithing bill plus a state tax bill of around $6K, so I would still itemize, no? $80K is a far cry from the $116K you note. Itemizing is not solely dependent on having a mortgage.

    Second, in the not so recent past, itemized deductions WERE limited to 28%, no? I believe that only went away in 2009, so quite recently. Do we have data showing an uptick in charitable giving since the cap expired? Or is it too soon to tell? I’d say my experience with clients is that giving went down, not up, mostly due to the economy. So this may be one of the situations where everyone claims that the tax tail is wagging the business dog, when in fact its actually not a major consideration.

  12. Geoff - A on October 20, 2011 at 4:30 am

    Why is an apostle involved in a discussion about tax?

  13. stephen on October 20, 2011 at 5:48 am

    Geoff – A:

    Why not?

  14. psychochemiker on October 20, 2011 at 12:27 pm

    Geoff – A.

    If you have an apostle who has a law degree, and an opinion on how changing the law code would affect charities and the US, wouldn’t it be smart to use them. There’s no scripture stating that Apostles have to abandon their previous training, right?

  15. Bob on October 21, 2011 at 4:35 am

    psychochemiker:
    ” There’s no scripture stating that Apostles have to abandon their previous training, right?
    “Come, I will make you fishers of men”:)

  16. Geoff - A on October 21, 2011 at 10:03 pm

    Is he representing the Church? Does the church have official views on taxation? What other views do they hold that we don’t know about? Or is this just him presenting his personal views?

    There are many in the church who believe if a GA says it (anywhere anytime) its effectively scripture. I am not one of these but I am still surprised he is presenting in this forum. Did he say he was speaking as himself or an apostle of the church?

  17. Sam Brunson on October 21, 2011 at 11:10 pm

    Geoff – A, Senator Hatch invited Elder Oaks to testify. You usually don’t get to choose to testify before the Senate Finance Committee (because, if you could, who wouldn’t be there testifying? It’s clearly the coolest Senate committee).

    I’ve argued on this blog that the Church cares very much about its members’ tax burdens; that said, its only official statement on taxes is that members should pay their taxes.

  18. Raymond Takashi Swenson on October 22, 2011 at 7:02 pm

    Elder Oaks was president of a major university, which depends on all sorts if charitable donations. He was also a senior official in the Corporation for Public Broadcasting, which also depends on contributions. He was a law professor at University of Chicago, which also receives such gifts. And of course he is probably more familiar with legal aspects of the Church’s finances than many other GAs. While he was at BYU he was involved in litigation over revocation of its 501(c)(3) status over its insistence on sex segregated dorms and other issues.

  19. Last Lemming on October 22, 2011 at 7:25 pm

    Did he say he was speaking as himself or an apostle of the church?

    Based on the report of my boss, who attended the hearing, it seems that Orrin Hatch considered him a representative of the Church as he addressed him as “Elder Oakes” and asked him specifically about the Church’s charitable endeavours around the world in response to natural disasters. Oakes also managed to pass the baton to representatives of Catholic Charities and the Southern Baptist church (or its charitable arm) to brag about their charity work, which is very unusual as they had not been invited to testify. The charitable contributions deduction is the one area of taxation in which it would be reasonable to infer an quasi-official Church position (unless you count the “idiot tax”–AKA the lottery).

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