As Ronan mentioned a couple weeks ago, in 2015, BCC is going to encourage our readers to donate to Oxfam America to aid in its efforts to relieve poverty. Lest our altruism be imperfect, though, I wanted to mention that donating to charitable institutions doesn’t require pure altruism; that is, the warm glow of giving may not be the only benefit you receive from your donation. You may (at least, assuming you’re a U.S. taxpayer) also be able to reduce your taxes.
(Necessary caveat: this is not tax or legal advice; to the extent you want tax or legal advice in this regard, you should consult with your own tax attorney or accountant.)
Charitable Donations in the U.S.
Broadly speaking, in the U.S. donors to qualifying charitable institutions can deduct their donations. For a charitable institution to be qualifying, it must be exempt from taxes under section 501(c)(3) of the Internal Revenue Code. (If you go to its website and scroll down, you’ll see that Oxfam America is.)
That doesn’t necessarily mean you’ll be able to deduct your donation, though. Charitable donors in the U.S. face two constraints (one significant for most of us, one that has never been relevant to me) on the deductibility of their charitable contributions.
The first: charitable contributions are an itemized deduction. What does that mean? It means you get to choose whether you take them or not.
Why would you not take a deduction that’s available? Basically, you get to choose between taking yoru itemized deductions or taking the standard deduction. In 2015, the standard deduction is $12,600 for married couples filing a joint return and $6,300 for unmarried individuals.
So when you file your tax return, you’ll look to see if your standard deduction is larger than your itemized deductions, and, if so, you’ll take it. If not, you’ll probably itemize.[fn1] Note that, if you don’t itemize, you’ll still be helping relieve poverty, and you’ll still get your warm glow, but your donation won’t reduce your taxes.
The second: you can only deduct contributions to public charities (including Oxfam America) up to half of your adjusted gross income[fn2] for the year. If you’re donating more than that, you won’t be able to deduct the excess. At least, not in the year that you make the donation.
The Economics of Deductions
So what do tax deductions do for you? They reduce your tax liability.
More precisely, they reduce your tax liability by the amount of the deduction times your marginal tax rate.
Stay with me here: let’s assume that you’re in the 25-percent tax bracket, and that, without taking your charitable donation into account, you would pay $1,000 in taxes. If you make a $100 deductible charitable donation, that will reduce your taxes by (100 x .25 =) $25. Now you owe $975 in taxes. If you’re in the 39.6-percent tax bracket, you reduce your taxes by $39.60, and now owe $960.40, and if you’re in the 10-percent tax bracket, you reduce your taxes by $10, to $990.
Effectively, this reduces the cost, to you, of giving. Again, back to the 25-percent tax bracket. If you donate $100 to Oxfam America, Oxfam America ends up with $100.[fn3] But, because the donation reduces your tax liability by $25, it only costs you $75 after taxes to make the donation. Because of the effective governmental subsidy, you’re able to stretch your charitable dollars further than you otherwise could.
Non-U.S. Taxpayers
The United States’ method of subsidizing charitable contributions isn’t the only way it could happen, of course. I’m going to lay out how a couple other countries treat charitable contributions. Note, though, that these are based not on familiarity with their systems, but on a couple quick searches; where the above wasn’t legal or tax advice, this doubly isn’t:
Canada. Canada doesn’t provide a deduction for charitable gifts; instead, it provides a tax credit. There’s a difference, but you’re probably not interested in the difference. Basically, Canada’s system works almost like the U.S.’s: a Canadian charitable donor can reduce her tax liability by some percentage of the amount she donates.
United Kingdom. Rather than the indirect subsidy of the U.S. system, the UK directly subsidizes charitable contributions. Specifically, for every £100 you donate, the UK goverment kicks in an extra £25. So if you’re a UK taxpayer and you donate £100 to Oxfam, Oxfam gets £125. (Economically, that’s identical to a U.S. taxpayer in the 20% tax bracket donating $125; the $125 deduction reduces her taxes by $25, meaning her after-tax cost of the donation is $100.)
Brazil. It’s not a given that charitable donations reduce your taxes. In Brazil, only corporations can make tax-deductible donations; individuals can’t.
Conclusion
Reducing your taxes isn’t the primary reason to give to charity; it probably shouldn’t even be a principal reason. That said, in many countries, the tax system helps magnify the amount we can afford to donate. And that’s certainly worth taking into account as we consider the good we can do in the world.
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[fn1] For most Americans, the big itemized deductions are state and local taxes, mortgage interest, and charitable donations. If you live in a high-tax state, have a large mortgage, and/or make a lot of charitable donations—including tithing—you’ll probably itemize. Otherwise, you’ll probably take the standard deduction.
[fn2] Technically, actually, 50 percent of your “contribution base,” which is your adjusted gross income with certain tweaks. But, for a blog post, it’s probably good enough to say “adjusted gross income.”
[fn3] And, fwiw, doesn’t have to pay taxes on that money.
By Common Consent, a Mormon Blog 
I’m sorry that the comments were closed—I didn’t realize it until just now. They are now open, though.
Sam, i hope it’s ok for me to add a few points. As long as we are talking about giving efficiently, one should, whenever possible, gift appreciated securities rather than cash. There are a few reasons for this. First, a gift of cash is just that…cash. You give a 100 dollars and as Sam said, you get a deduction; call it 25 bucks in our example (25% federal bracket). However, if you gift $100 dollars of an appreciated security, you get a deduction of (drumroll) 25 clams. (see the difference??) HOWEVER, since everyone reading BCC is a genius, you only paid $30 dollars for that security. Normally, if you sell that security, you owe taxes on the gain. in this case, 17.50 on that 70 gain. So by donating it, you get a 25 dollar deduction and save yourself an additionally 17.50 in taxes. Pretty nice. This only applies to long term shares, i.e. held over a year. Short term shares use a different formula and said formula sucks and we won’t get into it here.
But Dave, you say…I like the security you want me to donate. it’s the only position in my portfolio with a gain (donating securities with a loss just isn’t done. Sell it and take the tax loss and donate the cash. Better yet, use the money to buy a stock that will go up and donate when it’s long term)…No problem. Donate the stock and buy it back using the cash you would have donated. No worries about wash sales since you didn’t sell the security at a loss. This increases your cost basis so that any future gains are a little less and you don’t have to pay as much tax.
Next objection: Donating stocks is HARD. You gotta write a letter to your broker. Depending on the dollar amount, they may require a signature guarantee. You gotta know where your charity holds their brokerage account, you have to get that firm’s dtc number and the charity’s account number and it’s just a pain in the butt. Plus, mutual funds, the main asset that most of us have that would be an appreciated security, aren’t dtc eligible. Solution: a donor advised charitable fund; sometimes called a poor man’s foundation. Many firms have them; Schwab, Fidelity, I’m pretty sure Vanguard and several others. You donate your appreciated securities and the fund sells the security. They are already a charity, so no tax consequence. You get the deduction and more importantly, you control when the gift is given. So as Sam mentioned, most of this discussion is for those of us who itemize. It may be that one year, you have a lot of deductions, but next year you foresee not having as many…kid gets married, house gets paid off etc…You could donate a significant amount this year and get the deduction, then parcel that donation out over the next few years. And parcelling out that donation is simply calling or visiting the web site of the charitable fund and having them send a CHECK. Best of both worlds. You donated appreciated securities, got the better bang AND the charity gets cash, which is what they want. Everybody wins.
I’m not as good as Sam is with footnotes but the usual; this isn’t tax advice, this isn’t investment advice, consult your respective professionals before doing anything, especially if you’re considering doing something stupid, whatever that may be. Despite the length, this is still a pretty broad overview and it would behoove you to dig into the details a bit more.