Charitable Donation & State Tax Credit!

Bryan Strike, MS, MTx, CFA, CFP®, CPA, PFS

September 20, 2016

 

The Georgia General Assembly in 2008 passed into law the Georgia QEE Credit Program to allow Georgians more control over how their education dollars are spent.  The law created Student Scholarship Organizations (SSOs)[i], which permit Georgians the ability to direct their state income tax dollars to a general scholarship fund at a school of their choice.  The SSOs then use these contributions to award scholarships for students in grades K-12, allowing them to attend private schools.

Private schools in Georgia clearly have an incentive to promote the program and encourage Georgians to contribute.  The law sets a tax credit ceiling to limit the amount that can be contributed to the SSOs each year.  With the immense popularity of the program this ceiling has been met earlier and earlier each year.  In fact, this year the $58 million cap was hit on January 4th (the first business day of the year) so forms had to be submitted before year-end 2015.[ii]  Because of the program’s first-come, first-served allocation of tax credits, anyone who waited is currently out of luck—until next year.

The maximum contribution is based on each taxpayer’s filing status with single individuals getting $1,000 and those filing jointly getting $2,500.  A common occurrence is the program becomes oversubscribed; where more people are submitting applications than there are spots available.[iii]  When the program is oversubscribed, the actual contribution per taxpayer is reduced equitably amongst all other taxpayers.  For example, if the limit is $58 million and 60,000 single people put in the maximum of $1,000, each person would be allowed $966.67 so the limit is not breached.

 

Taking Care of Taxes

The tax impact of this program varies a little based on your tax situation.  The factors include the following:

  • The contribution counts as a charitable contribution for federal income tax purposes.
  • The taxpayer can reduce their state income tax withholding or estimated payments by the amount of the contribution.
  • The contribution must be added back to state income for Georgia income tax purposes.
  • The contribution is then treated as a tax credit to offset Georgia income taxes dollar-for-dollar.

If a taxpayer utilizes the standard deduction on their federal income tax return, participating in this program will have no net cost to them.  It is simply a matter of being able to direct some of your state income taxes to a school of your choosing.

If a taxpayer itemizes their deductions, the net result is a slightly higher total tax bill.  The taxpayer reduces their state income tax withholding or estimated payments by the amount of the contribution, but they increase their itemized deductions by the same amount as a charitable contribution.  As a result, the federal income tax bill looks identical whether the taxpayer opts into this program or not. 

The downside is the addback of the contribution to Georgia income will create a 6% tax on that amount.  This tax is partially reduced in the second year since the state income tax deduction will be higher, allowing an offset, but it is not perfect.

For example:  Assume a married couple filing jointly has $100,000 in adjusted gross income (AGI), has $8,100 in personal exemptions ($4,050 each), pay state income taxes of $4,500, real estate taxes of $3,000, home mortgage interest of $10,000, and do not donate to charity.  Their federal taxable income is $74,400 and Georgia taxable income is $76,800 (see below).

If they decided to contribute the maximum ($2,500) to an SSO, they would decrease their state income tax withholding by $2,500 and increase their charitable contributions by the same amount.  As such, their federal taxable income is still $74,400.  However, since the SSO contribution has to be added back for Georgia income tax purposes, their taxable income is $79,300 for the state.  At a 6% state income tax rate, this equates to $150 in additional tax (see below).

 

In year 2, the taxpayer would have $150 extra in federal income tax deductions (due to paying this extra amount in year 1 state taxes), which at 15% would create a tax savings of $22.50.  Net cost of utilizing the SSO would come to about $127.50.  If the taxpayer is in a higher federal income tax bracket, the year 2 tax savings would increase, but never more than about $60 ($150 * 39.6%).

The Power in AMT

The reason this program is worthy of mention for tax planning purposes is that alternative minimum tax (AMT) permits charitable deductions but not the deduction of state income taxes.  Therefore, if a taxpayer is in AMT, shifting itemized deductions away from state income tax and to charitable deductions will lower their federal income tax bill. 

For example:  Assuming the taxpayer is in the 28% bracket for AMT purposes, the savings could equate to $700 (28% * $2,500) in federal income taxes.  There are numerous tax strategies to lower a taxpayer’s burden, but this is among the easiest to capture for those that anticipate being in AMT for the year!

Bottom Line

Taxpayers that pay AMT are encouraged to make the contribution to an SSO, as this may actually save them significant money in taxes.  Taxpayers that utilize the standard deduction will neither be harmed nor advantaged in contributing.  Lastly, taxpayers that itemize would owe slightly higher taxes – in essence, for a potential cost of around $130, these taxpayers are permitted to direct up to $2,500 to a private school of their choice and ensure that a portion of their state tax dollars support education in Georgia!

Your Tax Position

Net Cost to You

Net Benefit to You

Standard Deduction

Nothing

Direct Up To $2,500 to Fund Education in Georgia

Itemize Deductions

No More Than $150

Direct Up To $2,500 to Fund Education in Georgia

Subject to AMT

Nothing

Direct Up To $2,500 to Fund Education in Georgia
Tax Benefit Between 26-28% of Contribution Amount

 Claiming

Applying for the tax credit is simple and can be accomplished online from most SSO’s websites.  Because of the program’s popularity, it is important to get in line as soon as possible; even filing before the year-end for next year is advisable.  Personally, I have already signed up for next year (2017) and you can do the same by filling out the form here and emailing or faxing it to the address at the top of the form.  If you have any questions about this or any other matter of personal finance, feel free to reach out to your advisor.

 

Bryan Strike, MS, MTx, CFA, CFP®, CPA, PFS, is a Financial Advisor at Kays Financial Advisory Corporation. He can be reached at (770) 951-9001 or at bstrike@scottkays.com.

This report and Mr. Strikes’ comments are provided as a general market overview and should not be considered investment or tax advice or predictive of any future market performance.

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