Will Your Nonprofit or Church Survive Inside the Trump Tax Cuts?
By Kyle D. Winey, Esq., Justin R. Coleman, Esq., and Robert Showers, Esq.
(SS Quarterly 2018 2nd Quarter)
The Tax Cuts and Jobs Act (the “Act”) was signed into law by President Trump on December 22, 2017, in what the New York Times called “the most sweeping rewrite of the tax code in decades.”[i] The Act substantially changed the way Americans file their taxes, providing incentives and disincentives affecting non-profits and churches. While this is the largest overhaul in 31 years, many suggested amendments did not make the cut. This article provides an overview of the Act and demonstrates why it matters to your nonprofit organization or your church.
I. What are the Significant Changes under the Act?
- Standard deductions have increased. The standard deduction is the amount a person may deduct from his or her income, assuming such person does not “itemize.” Previously, for each individual, the standard deduction equaled $6,350, while for persons filing jointly the standard deduction equaled $12,700.[ii] Following the ratification of the Act, an individual may now enjoy a standard deduction of $12,000 and persons filing jointly may now enjoy a standard deduction of $24,000 – a near doubling of the standard deduction.[iii]
- Changing of the tax brackets. The Act cut the tax rate of almost all of the seven tax brackets.[iv]
- State and local tax deductions have decreased. Previously, taxpayers could deduct the amount they paid for state and local taxes (“SALT”).[v] Under the Act, taxpayers may now deduct up to $10,000 in SALT, which may include any combination of state and local income taxes and property taxes.
- Mortgage deductions have decreased. Previously, interest on up to $1 million of home mortgage loans was deductible. Following the ratification of the Act, that number has been sliced down to $750,000.[vi]
- Medical expense deductions have increased . . . temporarily. Previously, everything over 10% of an individual or couple’s AGI which was used to cover medical expenses could be deducted. Following the ratification of the Act, the deductible portion of medical expenses for 2017 and 2018 has been increased to everything over 7.5% of AGI. In 2019, the deductible portion will revert to the prior limit (i.e. everything over 10% of AGI).
- No “universal”/above the line charitable deductions but increased from 50% to 60% of AGI for such gifts. In the past, an itemizer in a 25% tax bracket who made a $1000 gift to charity had their taxable income reduced by $1000. In essence, this means that the gift only cost $750.
- Loss of deductibility of unreimbursed expenses and loss of the moving expenses deduction emphasize the increased need for what are alternatively known as Accountable Reimbursable Plans or Accountable Expense Plans (AEPs).
In essence, under the Act the standard deduction has nearly doubled, while other deductions—such as mortgage interest, SALT, above the line charitable contributions, unreimbursed expense and medical expenses—have been reduced. Accordingly, the number of Americans expected to take the standard deduction has skyrocketed to 90%.[vii] While the number of Americans who itemize each year varies considerably (in 2014 is was 70%[viii] and in 2017 it was 28%[ix]), it is clear that there is now an extreme financial disincentive to making charitable contributions, largely because of the near-doubling of the standard deduction and elimination of the itemization of charitable deductions. Accordingly, some experts predict that 21 million taxpayers will stop giving charitable contributions due to not taking charitable deductions.[x] However, the charitable deduction in large part (and perhaps more beneficial for higher income people) has been preserved, hopefully having learned valuable lessons from the 1986 Tax Reform.
Individual Example from ECFA:
Employee: married, filing joint return, no dependents, $75,000 salary
Itemized Deductions=$21,500 ($7,500 charitable contribution, $6000 income and property tax, $7000 mortgage interest, and $1000 misc. itemized deductions)
Standard deduction in 2018 will be $24,000, which is greater than what would be claimed under the itemized deduction in 2017.
2017 tax=$5881 2018 tax=$5739
Based on the above, the question will be whether the middle-class individual will still donate $7500 to charity, since the standard deduction will provide a greater tax benefit and he/she will not get the above the line charitable deduction.
Should Non-Profits be Worried?
Under the Act, fewer individuals will enjoy the tax break of a charitable donation, and therefore, at least in theory, be incentivized to make such charitable donation. This impact may be felt on the lower income people who have lower itemized deductions and, with the elimination of above the line deductions, tend to be willing to give less charitable contributions. Of course, this has enormous implications for nonprofits. With fewer people making charitable contributions, mass fundraiser campaigns become less effective. The reason: there is a relatively higher likelihood that the target donor will not benefit from the charitable donation, and thus be financially dis-incentivized to donate.
Fortunately, however, there is some hope. In particular, wealthier folks are predicted to enjoy a larger share of the tax benefits. Thus, they may still be willing to give charitable donations, whether or not they are deductible, if they are committed to the mission and/or ministry.[xi] That could be significant for nonprofits, although it is still speculative. Why? Over time, two major patterns have emerged in charitable donations:
- High-income taxpayers are much more likely to itemize; and
- Data reveals that 83 percent of itemizers reported donating any amount of charitable giving at all, compared to 44 percent of nonitemizers. In fact, non-itemizers contribute less than 20 percent of total giving.[xii]
In other words, those who make larger charitable donations are itemizers, and itemizers happen to be higher-income individuals. With the wealthy having more money in their coffers, thanks to the Act, nonprofits hope that these same wealthy individuals will increase their charitable contributions to offset the predicted loss of revenue occurring for those who will now take the standard deduction.
There is reason, at least in part, to believe that wealthier donors will increase their giving. The Act has dramatically reduced or even eliminated many of the commonly used deductions, such as SALT and the mortgage interest rate deductions. Consequently, wealthy individuals will be looking for legal ways to enjoy a tax break inside a tax landscape with fewer options.
Thankfully, not only will they find one under the charitable deduction; under the Act, the charitable deduction is even more attractive. In particular, under the Act, the charitable deduction has increased from 50 percent of adjusted gross income to sixty percent.[xiii] With fewer attractive deduction options existing, wealthy taxpayers may seek to “max-out,” or at least substantially use, the charitable deduction as a result of the Act.
In light of these new economic and financial incentives, nonprofits will be best served to target fewer, more wealthy donors looking to maximize their charitable contributions, versus the many typical Americans who will likely opt for the standard deduction. Adjusting to these shifting economic forces will present new challenges to nonprofits. Fortunately, however, with the right approach, nonprofits may even enjoy unprecedented donations.
The Greater Underlying Concern for Churches
Similar to nonprofits, a church’s primary source of revenue comes from the things and offerings of its members and attendees, who in turn will typically deduct their tithes and offerings on their personal tax returns.
As discussed above, there is a general concern that charitable giving will decrease as more Americans have less incentive to give. However, most churches may not see much of a decrease in giving, as the overwhelming majority of people who give to their church give out of observance to their religious faith more than for tax relief benefits.[xiv]
Therefore, churches and their leadership may want to pay more attention to other parts of the Act that may have a greater impact on your ministry.
While doubling the standard deduction for individuals, the Act also cut several itemized deductions that many church employees rely on, or that churches may use to encourage potential employees. Below are two examples of such changes that impact both hiring decisions and the day-to-day operations of a church.
In many small- to medium-sized churches, pastors and other ministry staff may use their own money to make ministry-related purchases. Since these sized churches typically do not have a set reimbursement policy and procedure, the employee would have simply held onto the receipt and claimed it as a business expense on their personal tax returns. Unfortunately, this type of deduction will not be permitted starting in 2018. If you are a pastor or ministry leader who had generally claimed these unreimbursed business expenses in prior years, we would strongly recommend that your church adopt an expense reimbursement policy and procedure for adequate tracking and reimbursement of ministry-related expenses by your employees.
As with any employer, churches want to attract employees who are not only the best fit for your ministry but also ones who can raise up your ministry. In order to do that, a church needs to offer those incentives which would attract those potential employees.
In addition to salary and health benefits, one of the most common incentives was for the employer to reimburse the employee’s moving expenses tax-free. However, beginning in 2018 this tax-free incentive will no longer be available for employers. If a church does provide a new employee qualified moving expenses or reimbursement, the church may be able to claim compensation expense deduction as part of that employee’s salary, but any such payment or reimbursement will not be considered taxable income to that employee. Further, an employee will not be able to claim an above-the-line deduction for unreimbursed moving expenses in connection with a new ministry job.
With these changes, nonprofits and churches should seek advice from their legal and tax professionals as to how the Act will impact the church’s operations and what steps they should take to avoid inadvertently impacting their employees and potential employees. They should also understand how this may affect various donors and plan accordingly, both in budget and fundraising strategy.
Disclaimer: This memorandum is provided for general information purposes only and is not a substitute for legal advice particular to your situation. No recipients of this memo should act or refrain from acting solely on the basis of this memorandum without seeking professional legal counsel. Simms Showers, LLP expressly disclaims all liability relating to actions taken or not taken based solely on the content of this memorandum. Please contact Justin R. Coleman, Esq. at firstname.lastname@example.org, Robert Showers at email@example.com, or Kyle Winey, Esq. at firstname.lastname@example.org for legal advice for churches and nonprofits that will meet your specific needs.
[i] Thomas Kaplan & Alan Rappeport, Republican Tax Bill Passes Senate in 51-48 Vote (2017), https://www.nytimes.com/2017/12/19/us/politics/tax-bill-vote-congress.html.