Tax deductions (in the U.S.) and tax credits (in Canada) for charitable donations are both tax expenditures and are viewed in tax policy terms as the equivalent of government program expenditures. This means concern about important goals like deficit control will generally result in a focus on tax expenditures (or loopholes) as well as the control of government program spending.
United States legislators are considering a fundamental reform of the U.S. tax system which could have profound impacts on charities in the U.S.(and with cross border migration of ideas, perhaps on Canadian charities at some point in the future). Two papers illustrate the interplay of economics, taxation and public policy for the charitable sector. The first is a brief discussion of the underlying rationale and process of tax reform – Next Steps on Tax Reform by Max Baucus and Orrin Hatch of the U.S. Senate Finance Committee from June 27, 2013. The second is a statement by Diana Aviv, President and CEO Independent Sector to the House Ways and Means Committee made on February 14, 2013.
Next Steps on Tax Reform
According to Senators Baucus and Hatch:
America’s tax code is broken… (It is) riddled with exclusions deductions and credits… it costs businesses and individuals more than $160 Billion to comply… (to the) inefficiency… of the tax code.”
The committee’s proposal is to eliminate all tax expenditures in the Code and return to a blank revenue raising slate. Theoretically this could result in the elimination of tax deductibility for charitable donations with dramatic consequences for the way U.S. charities raise money. But Baucus and Hatch are realistic enough to recognize that no tax system will ever be without special provisions. What they do argue, however, is that special provisions would need to pass three strict tests of public interest:
Special provisions are out unless there is clear evidence that they
- Help grow the economy
- Make the tax code fairer
- Effectively promote other important policy objectives”
If tax reform were to proceed on this basis, then, the challenge for charities would be to show how they meet the tests of public interest.
The Aviv Paper
The Aviv statement addresses each of the criteria and tries to show how the activities of charities fit with them.
First, she argues that charities serve public policy in two ways. At a very general level, charities help make America a “just and inclusive society, as well as a healthy democracy”. At a more specific level she argues that charities solve problems and generate value for Americans. Thus Aviv goes on to show how charities make a measurable difference in the lives of Americans – delivering meals, improving education, and a wide range of other impacts for which Aviv quotes quantifiable impacts where possible.
Second, Aviv’s statement focuses on the contribution of the sector to the economy as a whole “The charitable sector is a crucial component of the nation’s economy – 13.5 million paid workers, more than finance and real estate sector combined.” This is very similar to arguments being developed by Imagine Canada and others in the Canadian context.
Third, the Aviv statement addresses the question of fairness – is tax deductibility equitable between different income groups? Aviv notes “The current tax code treats every tax payer who claims a deduction equitably, regardless of the rate at which their income is taxed, people are not required to pay tax on the portion of their earning devoted to charity.” Further, this enjoys “broad support because Americans recognize it is policy in which donors generosity is matched be government tax subsidy, all with the noble intent of making life better for others.”
However, the inevitable result of tax deduction (as opposed to the more equitable nonrefundable tax credit used in Canada) combined with a progressive tax rate is that people who earn higher incomes benefit more from tax expenditures than people with lower incomes. Hence, tax subsidies favour the priorities of the rich as opposed to the poor. But Aviv notes that “reducing the value of charitable deductions for higher income tax payers will diminish the impact of services across the sector… Americans in every bracket give generously to all types of charitable organizations.” In other words, regressivity is a small price to pay to finance the beneficial activities of charities.
A broad public policy role, defining results, showing fairness – these are all challenges Canadian as well as American charities will face as they continue to define and evolve their relationship with government in general and the tax system in particular.