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A Threat to Charitable Giving

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eye on the news

A Threat to Charitable Giving

Regulating the charitable tax deduction could open the door to a wide range of mischief. August 10, 2021
Politics and law
The Social Order

As it raced toward recess, we should be grateful that the Senate did not pass, or even take up, the Accelerating Charitable Efforts Act, which seeks to force charitable donors to give away their wealth sooner rather than later. The proposal, cosponsored by Maine senator Angus King and Iowa senator Charles Grassley, should be set aside permanently. Though it seems at first glance like a modest adjustment to law, the act represents a radical change to the charitable tax deduction, a bedrock of the tax code since the inception of the income tax.

The act would add an entirely new and worrisome principle to the charitable deduction: conditionality. It would require taxpayers contributing to the individual charitable accounts known as donor-advised funds (DAFs) to distribute those funds within 15 years or be barred from receiving a tax deduction. (Note that assets in these accounts already have only one legal purpose: charitable giving.)

The history of tax law regulating charities and charitable giving shows us how the King-Grassley bill could open the door to a wide range of mischief. As an official IRS history puts it, tax treatment of charities and charitable giving have historically been guided by three relatively narrow principles: “First, organizations that operated for charitable purposes were granted exemption from the Federal income tax. Second, charitable organizations were required to be free of private inurement—that is, a charitable organization’s income could not be used to benefit an individual related to the organization. Finally, an income tax deduction for contributions, designed to encourage charitable giving, was developed.”

It’s one thing—and entirely proper—for the IRS to link the tax deduction to donations to bona fide 501(c)(3) nonprofits, screened by the agency for their legitimacy. It’s quite another to require charitable funds to be disbursed within a specific time period. Two of the law’s backers, John Arnold of the John and Laura Arnold Foundation and Ray Madoff of Boston College, argue that this requirement is needed because of the growth of DAFs, whose assets now total almost $40 billion, thanks to an 80 percent increase in contributions to such accounts since 2015. During the same period, DAF grants—disbursed through local community foundations or national financial-management firms such as Fidelity Charitable—have increased as well, totaling more than $25 billion in 2019, a 93 percent increase since 2015. Grant payout rates, moreover, are estimated to be as high as 24 percent.

Critics like Arnold and Madoff worry that these funds are not being distributed quickly enough, and that operating charities may not get the funds they need for immediate or short-term costs. There may be a case for disbursing funds sooner rather than later, but up to now this question has appropriately been left to the donors themselves. Some prefer to set aside funds for the long-term—as with university endowments, for instance. Of course, Arnold and Madoff are free to urge donors to step up the pace of DAF grants. David and Jennifer Risher, for example, founded the “Half my DAF” movement to urge donors to push out half their funds every year, and the movement has gained a following, especially during the pandemic.

But linking the charitable deduction to a 15-year payout is a bridge too far. It’s not hard to see how it can become a slippery slope leading to even more conditions. Serious thinkers on the left are already arguing that tax deductions should be limited to donations to groups that clearly benefit the poor, based on the view that deductions are only justifiable if charitable donations are fundamentally redistributive. Stanford University’s Rob Reich, for instance, is skeptical of the deduction as it applies to churches, the most common type of charitable recipient: “Religious groups look less like public charities and more like mutual benefit societies (i.e., other nonprofit organizations whose supporters are not entitled to tax deductions for their donations).”

Reich makes a fundamental mistake: the tax deduction supports not just charitable giving in a narrow sense but American civil society—our community fabric—which we dare not take for granted.

But whether one agrees with Reich or not, it’s clear that the Accelerating Charitable Efforts Act opens the door to such ideas. If the law can dictate the time period for charitable giving, then, by extension, it can condition the deduction on types of recipients as well. Unpopular ideas supported by nonprofit research groups would be logical targets, as well. Indeed it puts the entire Madisonian project, premised on the protection of minority views, at risk. Arnold–Madoff is a small first step, to be sure—but it opens the door wide.

Those concerned about how much charities receive in donations and how fast they put them to use are free to urge donors to step up the pace of their giving. A better move would be to join the effort to preserve charitable tax breaks for those who don’t itemize their tax returns (90 percent of American households). Doing so would encourage philanthropy without putting its future at risk.

Photo by Ben Hasty/MediaNews Group/Reading Eagle via Getty Images

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