Current law allows taxpayers who itemize to deduct the value of their contributions to qualifying charitable organizations. By lowering the after-tax cost of donating to charities, the deduction provides an added incentive to donate. In 2008 (the most recent year for which data are available), taxpayers claimed $173 billion in charitable contributions on 39 million tax returns.
The deduction is restricted in two ways. First, charitable contributions may not exceed 50 percent of a taxpayer's adjusted gross income (AGI) in any one year. Second, beginning in 2013, with the expiration of the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (Public Law 111-312), the total value of certain itemized deductions--including the deduction for charitable donations--will be reduced if the taxpayer's AGI is above a specified threshold.
This option would further curtail the deduction for charitable donations while preserving a tax incentive for donating. Only contributions in excess of 2 percent of AGI would be deductible for a taxpayer who itemizes. That amount would still be subject to the additional reduction described above for higher-income taxpayers in 2013 and later. Limiting the deduction to contributions in excess of 2 percent of AGI would match the treatment that now applies to unreimbursed employee expenses, such as job-related travel costs and union dues. Such a policy change would increase revenues by $86 billion from 2012 through 2016 and by $219 billion from 2012 through 2021.
An argument in favor of this option is that, even without a deduction, a significant share of charitable donations would probably still be made. Therefore, allowing taxpayers to deduct contributions is economically inefficient because it results in a large loss of federal revenue for a very small increase in charitable giving. For taxpayers who contribute more than 2 percent of their AGI to charity, this option would maintain the current incentive to donate but at much less cost to the federal government. People who make large donations often are more responsive to that tax incentive than people who make small contributions. Moreover, smaller contributions are apt to be a source of abuse among taxpayers because donations that are under $250 do not require the same degree of documentation as those that are larger.
A potential disadvantage of this option is that total charitable giving would decline, albeit by only a small amount. People who contribute less than 2 percent of their AGI would no longer have a tax incentive to donate, and many of them could reduce their contributions. Although larger donors would still have an incentive to give, they would have slightly lower after-tax income because of the smaller deduction and thus might reduce their contributions as well (although by a lesser percentage than smaller donors). Another effect of creating the 2 percent floor is that it would encourage taxpayers who had planned to make gifts over several years to combine donations into a single tax year to qualify for the deduction.