In addition to raising the annual charitable contribution deduction limitation for individuals, the Coronavirus Aid, Relief, and Economic Security (CARES) Act expanded the charitable deduction for corporations. These changes might have you wondering whether your business should make additional contributions before the end of the year. Before you pull out your checkbook, make sure you understand the facts about contributing to charities as a small business owner.
CARES Act Changes
The CARES Act was signed by the President on March 27, 2020, to provide financial assistance to American individuals and businesses coping with the economic effects of the coronavirus. This stimulus package included a few noteworthy changes to charitable giving laws.
The CARES Act made two changes to how individuals can deduct charitable deductions.
First, it created a $300 above-the-line deduction for all individual taxpayers starting in 2020. Because the deduction is an adjustment to income rather than an itemized deduction, all taxpayers will benefit, whether they itemize or take the standard deduction. This is a permanent change to the Tax Code, so going forward, all taxpayers will see at least some tax savings from contributions they make or contributions that are passed down from their flow-through businesses.
Second, for the 2020 tax year only, it eliminated the 60% of adjusted gross income (AGI) limitation for cash contributions to public charities, which means taxpayers who itemize can deduct charitable contributions up to 100% of their AGI. This does not include cash donations to donor advised funds, private foundations, or supporting organizations.
The CARES Act increased the availability of corporate deductions for charitable donations by raising the limitation from 10% of modified taxable income to 25% of modified taxable income. Like the new AGI limitation for individuals, the modified taxable income limitation for corporations is only available for the 2020 tax year.
How This Affects Businesses
Flow-through businesses like partnerships and S corporations report contributions on their annual informational tax returns (Forms 1065 and 1120-S, respectively), but the deductions ultimately get passed down to the individual owners. Flow-through business owners will combine their portion of the business’s charitable contributions with personal donations they made during the year before applying the AGI limitation.
Similarly, sole proprietorships will report all charitable contributions on their individual returns. Because sole proprietorships are disregarded entities, a sole proprietor cannot make a charitable deduction from their business. If a contribution is made in the business’s name, it does not get reported on that business’s Schedule C; it should be reported on Schedule A along with the individual’s other charitable donations for purposes of the AGI limitations.
C corporations follow an entirely different set of rules. Because C corporations are taxpaying entities, the corporation will report the business’s contributions on its own return (Form 1120). Only contributions up to 10% (or 25% in 2020) of the business’s modified taxable income are deductible; excess contributions can be carried forward five years to reduce future years’ taxable incomes as long as those contributions are not in excess of that year’s modified taxable income limitation.
Donations that Qualify
Businesses and individuals must donate to qualified charitable organizations for their donations to be deductible. The IRS has a list of tax-exempt organizations that qualify, but there may be others not listed that can receive tax-deductible contributions. A good rule of thumb is to verify that the organization has a 501(c)(3) designation. Ask your tax advisor if you’re not sure.
Businesses and individuals can donate cash to qualifying organizations, but they can also donate non-cash items like securities, tangible assets, inventory, and real estate. When donating non-cash items, separate limitations may apply. For example, cash donations are eligible for the new (temporary) 100% of AGI limitation, but most in-kind donations remain subject to a 50% of AGI limitation, and securities and other appreciated assets are limited to 30% of AGI.
Businesses and individuals can also donate using trusts, private foundations, and donor-advised funds. Donor-advised funds are a favorite of business owners and high-income taxpayers because they receive an immediate deduction when contributing to the fund but are not required to dispense those funds to nonprofit organizations right away. The fund grows tax-free, boosting the impact of your donation, and can be directed to charitable organizations at any point down the road. This is especially helpful for business owners who want to take advantage of a current deduction (possibly in a high income year) but haven’t yet decided which charities they’d like to support.
Keep Good Records
When contributing anything of value — cash or non-cash — it’s important to retain proper documentation. A receipt that states the donation date, charity name, and amount of contribution will work in most instances, but when contributing non-cash assets, you may need a bit more. Non-cash contributions valued at more than $5,000 require an appraisal, written acknowledgment of the donation, and additional information, including how and when you obtained the property.
If you want to talk about your charitable giving plans with an experienced tax professional, reach out to our CRI advisors.