To itemize or not to itemize: what is the benefit?

Lifting Your Community, Reducing Your Tax

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I do not believe anyone should give to charity just for the tax deduction–that is a losing strategy. Give because you feel called to do so or because you want to help, but a little tax deduction may allow you to expand your giving and the reach your generosity has for those who are benefiting from it.

Developing a personalized charitable giving strategy is very important for maximizing tax benefits. The government encourages charitable giving through the tax code, so we might as well donate in a tax-efficient manner.

With that said, let’s talk about itemizing. Taxpayers either take the standard deduction, or they deduct the total of their itemized deductions.  Logically, almost everyone will take the larger of the two, which makes sense except in rare circumstances.

The 2020 standard deduction for a single taxpayer is $12,400, while for a married couple filing jointly, it is $24,800.  Further, for a married couple over the age of 65, their standard deduction is $27,400.  Keep these numbers in mind–they are important, and yes, this piece will get better. Trust me; it is not all this boring!

So, in order to itemize your deductions and reap any additional tax benefit for your mortgage interest paid, charitable contributions made, investment expenses paid, or your state and local taxes (aka SALT with a $10K limit…ugh), they need to total more than your standard deduction.

Since charitable donations are part of the itemized deduction, we really have to consider the tax benefit for making those donations.  For example, assuming you pay more than $10K of SALT (again, state income tax and property taxes, not a heavy bar in a high tax state like California), if you are married and under 65 years of age, your next $14,800 of itemized deductions have no federal income tax benefit.  Now, there may be a state benefit, but that is another story.

What? Why would I have no benefit for the next $14,800 of itemized deductions?  Remember, your standard deduction is $24,800 as a married couple for 2020, and our SALT is limited to $10K.  Hence, even if you had another $14K of itemized deductions or zero, you will still utilize the $24,800 standard deduction and, therefore, no benefit. Crazy, I know; now you know too!

For someone who has a good-sized mortgage on their home and more than $10K in SALT, they likely will be itemizing.  Say your mortgage is $500K at a 3% interest rate, you probably are paying around $15K of mortgage interest and just barely tiptoeing into the land of itemizing.  Further, the higher your income, the more your itemized deductions are “worth” tax-wise because the benefit is multiplied by your tax rate, which increases with income.

It is important to know these thresholds and concepts to customize your giving plan in a tax-efficient manner.

Paying your state income taxes, your property taxes, and your mortgage are generally not a voluntary decision that we make–we have to make them, or there are dire consequences.  So, if you are itemizing your main variable choice that can make a difference to your federal tax bill is donating to a church or a charity.

There is a small, yet important exception, and that is the new above the line charitable contribution deduction, which we will also cover, so stay tuned!

This basic knowledge is very important and will help us make good charitable decisions in the future.  The higher your income, the more valuable those donations are, but they may not be worth as much as you think they are if you are married, over the age of 65, and have your house paid off!  In that case, your first $17,400 of charitable giving effectively has no impact on your federal income tax! Repeat: no benefit to your first $17,400 in this case.

If you are married and under the age of 65 with no mortgage and over $10K in SALT (this is common in California), your first $14,800 of charitable donations have minimal to no effect on your federal income taxes.

But wait, all is not lost. We can plan for this to help maximize your tax benefit.  Now is a good time to do this before year end.

Maybe we will want to “bunch” our giving into certain years.  Perhaps we will want to super charge our giving through a Donor Advised Fund.  Possibly your income level will impact your giving strategy in a particular year.  Or perhaps we can utilize your Individual Retirement Account (IRA) to help with your giving strategy in years to come.  Don’t give up. Instead, plan!

Stay tuned for more thoughts and ideas.