While legislation passed by Congress on Tuesday to avoid the fiscal cliff does not include a flat cap on itemized deductions, it does limit deductions for the wealthy and does not protect the charitable deduction from being reduced or eliminated in upcoming budget talks, the NonProfit Times reports.
In addition to raising the top marginal rate on income to 39.6 percent for individuals making $400,000 or couples making $450,000, the American Taxpayer Relief Act of 2012 reinstates the personal exemption phaseout and the Pease provision, which will result in limits being placed on itemized deductions for individuals and couples earning more than $250,000 and $300,000 a year, respectively. The provision reduces most itemized deductions by 3 percent of the amount by which an individual or couple's adjusted gross income exceeds those thresholds, up to a maximum of 80 percent of the total. Given that the number and amount of itemized deductions tend to increase with income, disallowed deductions are almost always less than 80 percent of total deductions, according to Independent Sector.
"Since it is based on income (not the amount of deductions), it essentially operates as an income tax surtax, not a cap on itemized deductions," Joseph Rosenberg, a research associate at the Tax Policy Center, a joint venture of the Urban Institute and Brookings Institution, told the NonProfit Times. The only way it "can affect the tax incentive on giving is if a taxpayer's disallowed deductions exceed 80 percent of their itemized deductions," Rosenberg added.
Nevertheless, the Alliance for Charitable Reform called on Congress and the White House to reconsider the provision. "[We are] disappointed that the Pease provision was made permanent in this agreement, which will progressively limit deductions, including the charitable deduction," the organization said in a statement. "We encourage members of Congress and the president to continue to preserve the charitable deduction and revisit Pease as it relates to charitable giving as we move forward into both tax reform and measures to address the federal deficit."
Upcoming budget negotiations to avoid across-the-board budget cuts in a process known as "sequestration" also remain a major concern for the nonprofit sector. "[W]e recognize the agreement reached this week leaves major fiscal and tax policy issues unresolved, and that as discussions resume in Washington about increasing the federal debt limit and addressing the mandatory spending cuts known as sequestration, Congress and the president will once again be looking for additional sources of revenue," said Independent Sector in a statement.
The National Council of Nonprofits also had concerns about the legislation, which, it said in a statement, "continues to leave our country under a cloud of uncertainty regarding severe domestic spending cuts that threaten to push Americans over a human cliff. Federal policymakers have failed to recognize that the arbitrary sequestration cuts to domestic programs will reduce funding without reducing the underlying human needs, thereby increasing demands on states, local governments, and nonprofits in local communities while also decreasing resources to provide needed services."
Still, acknowledgment that something terrible had been averted seemed to be the prevailing sentiment as people returned to work after the long holiday break. "This deal allows us a bit more time to work with the new Congress and the administration on best approaches [for] addressing revenues, expenses, policy and social priorities," said Neal Denton, senior vice president and chief government affairs officer for the YMCA of the USA. "Nonprofit advocates need to be on their guard. The next several weeks will be important to our sector."