The coronavirus relief bill’s charitable tax deduction mistake

The emergency relief bill that President Trump recently signed included a small but significant lifeline for nonprofit charitable work: the first “above-the-line” tax deduction for donations to charities. Even those who do not itemize their taxes will be able to deduct $300 from their adjusted gross income, providing an incentive to support the thousands of groups under unprecedented pressure to feed the hungry, help the homeless, and much more. 

This incentive matters more than its modest figure would suggest: Only an estimated 10 percent of households itemize their tax returns, meaning many taxpayers have no special incentive to give to charities. Now, they do.

But the relief bill unconscionably excludes one form of charitable giving from the new rule. Funds contributed to donor-advised funds (DAFs) — personal charitable accounts to which one can contribute, receive a tax deduction and subsequently direct grants over time — are specifically disqualified from the $300 deduction. Americans contributed some $37.12 billion to DAFs in 2018, according to the National Philanthropic Trust, an increase over the $30.90 billion contributed in 2017. These funds then disbursed grants totaling $23.42 billion, an 18.9 percent increase over the previous year. 

The largest manager of these funds is Fidelity Charitable, which has become the largest charitable organization in the United States. More funds are directed to it than to either the United Way or the Salvation Army. It’s an arm of the sprawling financial firm and invests deposits in donor-advised funds. All the money in the funds, including the appreciation that occurs when markets are doing better than they are right now, can be used for only one thing: grants to charitable organizations.

So, why are DAFs singled out in the relief bill? These fast-growing charitable giving vehicles — in which $112 billion in assets are now housed — have become a liberal bugaboo. They’re seen as a tax loophole and, as University of Southern California tax law professor Ed Kleinbard put it to the New York Times, “a fraud on the American taxpayer.” Critics dislike the fact that donor-advised fund grants can be made anonymously (although the philosopher Maimonides regarded anonymous giving as the highest form of charity). But mainly they dislike that tax-incentivized donations to DAFs that qualify for a deduction in one tax year are not required to be disbursed that same year. This allows for so-called tax “timing” — giving when one’s income is high and directing grants years later, perhaps when one is retired.

But the COVID-19 crisis makes abundantly clear what critics overlook. We find ourselves in a time when many household incomes have dropped drastically. It’s a difficult time, to say the least, to make charitable contributions the old-fashioned way: checks from current income or savings directly to charitable organizations. Yet these are the only sorts of contributions that will qualify for the $300 deduction.  

The billions of dollars stored previously in donor-advised funds, by contrast, are available to address the COVID-19 crisis. They are a giant national charitable nest egg. Indeed, the National Philanthropic Trust reports that more than 20 percent of assets housed in donor-advised funds were disbursed in grants to charities in 2018 — far more than the 5 percent minimum required of private foundations. To believe that the giving that made this possible was nothing more than a tax scam is to believe that the government would have necessarily made better use of the funds. The poor government preparation for our current crisis suggests it’s wise to hedge our bets.

It’s not clear how many DAF donors do not itemize their taxes and thus would be restricted by the law’s provision. But the National Philanthropic Trust reports that 2018 saw a 50 percent increase in the overall number of DAF accounts. That includes an increase in employer-sponsored funds, through which employees can pool their charitable gifts. Many such small donors likely do not itemize their tax returns.

As the National Philanthropic Trust 2019 report on the overall state of DAFs notes: “Workplace giving using donor-advised funds and low- or no-minimum donor-advised fund accounts will play a significant role in the number of individual donor-advised fund accounts and, as a result, drive down the average donor-advised fund account size.” In other words, the new legislation will penalize small donors whose employers are encouraging charitable giving.

Perhaps one can argue that all charitable contributions during the coronavirus pandemic should not be parceled out over a time period beyond the current tax year. But our public health needs are not time-limited. Who knows what we’ll need tomorrow, next month, next year? There’s no reason that donor-advised funds, the fastest-growing charitable giving vehicles in the U.S., should be singled out for sanction.

Howard Husock, a senior fellow at the Manhattan Institute, is the author of “Who Killed Civil Society?” (Encounter, 2019).