Not many people want to donate their salary for the year, but if you do: 2020 is the year to do it. The CARES Act has a provision in 2020 that allows a deduction for 100% of your income. This means that you can entirely avoid taxes in 2020 if you want! Oh yes, there are some details - and some strategies you'll want to take advantage of - so let's check them out.
What are the donation limits for 2020?
Charities will accept all sorts of assets including cash, stocks + bonds, art, collectibles, cars, clothing - depending on the charity. There are so many ways to give and help. Most individuals donate cash or appreciated stocks/bonds to get a tax deductions - and that's a good strategy. The higher standard tax deduction along with lower SALT itemized deduction limits the usefulness of your charitable contributions unless you give away quite a lot. In that case, giving away appreciated stock has a nice double-whammy of a charitable deduction along with avoiding capital gains tax (not selling the stock first).
The IRS has rules about how much you can deduct from your salary based on the type of asset that you give away. Typically the deduction for donating cash is capped at 60% of your salary, stocks/bonds at 50%, and other assets at a lower amount (as you can imagine with the IRS, it can get quite complicated). For this discussion it's enough to know that you can typically deduct cash up to 60% of your AGI and appreciated stocks/bonds up to 50% of your AGI. If you donate more than that in a given year, you can carry-forward the donation and deduct it in future years.
However with the CARES Act in 2020 if you donate cash, you can take a deduction of 100% of your adjusted gross income. For example, if you have income of $180,000 in 2020, you could donate $180,000 (cash) and deduct the entire amount, leaving you with $0 taxable income in 2020.
The other limitation is that the money must go to a recognized charity directly - it cannot be given to your Donor Advised Fund (DAF). The IRS is worried about charitable donations in 2020 and therefore increased the limit with the caveat that the money gets to the charities this year.
Of course, you don't have to actually donate your income - you can sell some of your portfolio and give away that money all at once and take a deduction on your 2020 tax return for the entire amount.
Strategies when you have no income
If you take a deduction for your entire salary and have no income in 2020, that's a big win: no taxes! Since you probably had taxes taken out of your paycheck throughout the year, you'll end up with a big refund. Another win. However, since you have no taxable income in 2020, here are some additional strategies to consider:
- Roth Conversion : If you have any Traditional IRA balances, or your 401(k) has a Roth option and in-plan conversions - you can use your low tax year in 2020 to convert a large chunk of money from Traditional to Roth and pay the tax on the conversion amount. Since you have almost no income, you could convert up to the 15% or 22% bracket (up to $170,000 MFJ) and pay a lot less in tax than you would in the future.
- Don't have a Traditional IRA? Many 401(k) plans have a Roth option and will allow for in-plan conversions.
- Tax Gain Harvesting : Do you have a lot of winners in your taxable portfolio with built-in capital gains? This would be a great time to sell those allocations and pay 0% capital gains (up to $80,000 MFJ). You can re-purchase the shares after 31 days to avoid wash-sale rules, or purchase a similar stock/ETF right away.
- For high-income earners, you'll also avoid the additional 3.8% Medicare tax (applied on capital gains if you earn over $250,000 MFJ)
- Portfolio Re-Allocation : Now is a great time to rebalance your portfolio since you'll avoid any capital gains on selling / buying. In addition, if you have been thinking about changes in your portfolio allocation - making it simpler by reducing the number of holdings into some low-cost ETFs, or allocating it more towards ESG / SRI priorities - now is the right time to have a lot of buy/sells and avoid capital gains.
- Considering investing in socially responsible funds? Now is a great time to re-allocate funds.
2020 is a great year to reduce your tax burden with a massive charitable donation. Of course many people do not have the additional funds to donate a year's salary! But for those that do and are interested in helping your favorite cause, 2020 is a great year to take advantage.