The real cost of charitable giving is lower than you might think, thanks to tax credits
It’s hard to escape the Black Friday and Cyber Monday frenzy that comes along with the U.S. Thanksgiving holiday. But amidst all that hubbub, let’s not forget about “Giving Tuesday,” the name given to the first Tuesday following the holiday weekend, which falls on Dec. 3 this year.
The day was conceived in 2012 as an initiative of New York’s 92nd Street Y to counter-balance the shopping mania and to perhaps redirect some of those funds to charitable giving. The day has taken off on both sides of the border, with many of us being inundated with special appeals from various charities to make a donation this Tuesday. Over the past seven years, it has grown into a global movement that “inspires hundreds of millions of people to give, collaborate, and celebrate generosity,” according to the organization’s website.
With Giving Tuesday coming up, coupled with the Dec. 31 deadline to get a charitable donation receipt for 2019, let’s review the true, after-tax cost of making a charitable gift, along with some lesser-known giving strategies.
Donation tax credit
Charitable donations to registered charities or foundations attract both federal and provincial non-refundable tax credits. On the federal side, you get a credit of 15 per cent for the first $200 of annual charitable donations. The federal credit rate jumps to 29 per cent for cumulative donations above $200. Donors who have income subject to the 33 per cent top federal rate (for income over $210,371 in 2019) and who donate more than $200 annually benefit from a 33 per cent tax credit on such donations. Parallel provincial credits work similarly, although not all provinces have adopted their top tax rate as their top provincial donation credit rate.
What’s interesting, however, is that once you donate more than $200 in total in a calendar year, your effective combined federal/provincial donation tax credit rate is often higher than your marginal tax rate for all but the highest income Canadians. This leads to some interesting results. Let’s take a look at some examples.
Let’s say that Lisa lives in B.C., has $75,000 of income and contributes $1,000 in total to a variety of charities in 2019. The first $200 attracts a federal tax credit of 15 per cent or $30 and a B.C. tax credit of 5.06 per cent or $10.12. The next $800 of donations will attract the higher federal credit rate of 29 per cent or $232 and the higher provincial B.C. credit at a rate of 16.8 per cent or $134.40. Thus the total donation tax credit Lisa will get from her 2019 donations is worth $406.52 (i.e. $30 + $10.12 + $232 + $134.40). This means that Lisa’s net cost of making $1,000 worth of donations is just under $600.
Since Lisa’s 2019 income is $75,000, that would put her in a marginal tax bracket in B.C. of 28.2 per cent. This means that for each dollar Lisa gives to charity above the first $200, she is getting a donation credit at 45.8 per cent (29 per cent federal + 16.8 per cent in B.C.) but only paying tax on that dollar of income at 28.2 per cent. In practical terms, this means that not only is she not paying tax on the $1,000 of income she is donating to charity, but for $800 of the donation she has excess credits of 17.6 per cent (i.e. 45.8 per cent less 28.2 per cent) that can be used to shelter tax on the income not being donated to charity.
Donations of RRSP/RRIFs
We can extend this concept to charitable gifts of funds in an RRSP or RRIF. Each dollar withdrawn from an RRSP or RRIF is taxable in the year of withdrawal at your marginal tax rate. Let’s say Harvey, a resident of Ontario, is retired, and his income is $45,000 in 2019. He wishes to donate $1,000 from his RRIF to charity.
His donation credit on the first $200 would be 15 per cent federally or $30 and 5.05 per cent in Ontario or $10.10. On the next $800, Harvey would get a federal credit at 29 per cent, worth $232, and an Ontario credit at 11.16 per cent, worth $89.28. In total, his donation tax credits equal $361.38.
But on Harvey’s $1,000 RRIF withdrawal used to fund his charitable gift, he would only pay 24.15 per cent combined federal/Ontario tax or $241.50. That means he would have an excess tax credit of $119.88 which he could use to offset taxes on his other income, including his Canada Pension Plan benefits.
As I’ve discussed many times, donations of publicly traded shares, mutual funds or segregated funds to a registered charity not only get you a tax receipt equal to the fair market value of the securities or funds being donated, but also allow you to avoid paying capital gains tax on any accrued gain on the shares or funds donated.
But, if those appreciated securities are held within a private corporation, you get a triple benefit: a deduction against corporate income for the amount of the donation, no capital gains tax on the appreciation and a credit to the corporation’s capital dividend account, allowing the shareholder to receive a tax-free capital dividend from the corporation equal to the tax-free gain on the donated securities.
Donor advised funds
Finally, if you’re not quite sure where to give this year but still want your tax receipt for 2019, consider setting up a donor advised fund (DAF). Often considered an alternative to setting up a private foundation, DAFs essentially piggyback on public foundations, such as community foundations or foundations established by some of the major financial institutions or investment management firms. They permit the donor to create a “mini-foundation” as a subset of the larger, public foundation.
The donor starts by making a gift of cash or appreciated securities to the DAF and gets an immediate donation tax receipt. The funds can grow inside the DAF tax-free and each year the donor can recommend distributions (typically a minimum of 3.5 per cent of the opening fair market value of their fund each year) to be made from the DAF to registered charities of their choice.
The biggest advantage of a DAF is that the donor doesn’t have to worry about any administrative details or record keeping. The foundation will process all donation requests and transfer the funds to the charities chosen, as well as track the DAF and provide the donor with regular updates on the foundation’s performance.