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Tax Reform and the Charitable Deduction: The Risk to Blue-State Philanthropy

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Tax Reform and the Charitable Deduction: The Risk to Blue-State Philanthropy

December 19, 2013
EconomicsBudget
Urban PolicyOther

Executive Summary

The ongoing debate over tax reform, including efforts to curb itemized deductions taken by individuals to lower their taxable income, could result in changes to the tax code that blunt charitable giving throughout the country. Little understood in the debate is that the most serious consequences to the flow of donations could well occur in the so-called Blue States—notably, New York and much of the rest of the Northeast, along with portions of the Midwest and California.

In those areas, where donation levels are proportionally highest and where many of the largest charitable institutions are based, any cutback in the federal deduction for charitable giving is likely to have a disproportionate impact on contributions. Under the most restrictive scenarios, a change in the deduction could have potentially devastating consequences for some leading universities, medical centers, and cultural organizations.

The U.S. tax code comprises intricate rules and regulations designed to raise revenues for the federal government. At the same time—through deductions, credits, and other technical devices—the code is a vehicle for pursuing social policies that encourage behavior bolstering the general good. Because of the code’s very intricacy, a change in one of its parts can affect others, sometimes intentionally and sometimes with unexpected consequences. The push for tax reform, as well as the effect that it may have on charitable giving, illustrates both those effects. In its broadest reach, the reform effort would simplify the code, lower personal and corporate tax rates, and eliminate or restrict a variety of tax deductions and credits. In curbing deductions and credits, some of the revenue “lost” in cutting tax rates would be reclaimed.

None of the reform plans under discussion have the explicit goal of reducing charitable giving. But in lumping the charitable deduction in with other tax benefits targeted for trimming, some planners have overlooked or underestimated the full effects that a change would have. The effects are likely to vary, depending on the income level of the donor and where the donor lives. Encouraged by tax benefits to make contributions, high-income households give the most. If we reduce the benefits, donations are likely to fall off. The drop-off is likely to be even steeper for high-income households in Blue States, where state and local taxes and mortgage expenses tend to be higher, partly because deductions for those expenses are on the chopping block as well.

Tax-reform plans that ignore this calculus could do great, and unintended, harm to philanthropic efforts. By contrast, one plan among those analyzed by the Congressional Budget Office in 2011 would reduce donations in a minimal way while still saving billions of dollars in tax revenue.

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