In the United States, if you donate money to charity, you can “deduct” it on your taxes — that is, you don’t have to pay taxes on the share of your income that you donated.
Unless you’re poor.
The way the charitable tax deduction is set up, lower-income Americans can’t really take advantage of it. Unless you earn a lot of money, it makes no financial sense to do your taxes in a way that lets you claim the charitable deduction. The 2017 Republican tax bill made even fewer Americans eligible for the charitable deduction by hiking the standard deduction. Critics responded that they’d made the tax deduction a deduction just for the rich.
But a new paper published this week in Business History Review argues that throughout its 100-year history, the charitable deduction was always aimed primarily at benefiting the rich.
The paper, “Founders’ Fortunes and Philanthropy: A History of the U.S. Charitable-Contribution Deduction” by Nicolas Duquette of the University of Southern California takes a comprehensive look at the policy history of the charitable deduction since it was introduced in 1917.
Its conclusion? “The contribution deduction was created to protect voluntary giving to public goods by rich industrialists who had made their fortunes in business,” the paper argues. Thinkers of the time believed it was better for services — like libraries, universities, and aid to widows and orphans — to be provided by the rich out of generosity than by the state out of necessity, so they set up the tax code to enable that.
It might seem like there’s not much to learn from tax code history that’s a century old. But how we enact the charitable deduction matters, and so does how we think about it. The world of nonprofits and philanthropy has changed dramatically since the early 20th century, when charities really were funded near-exclusively by the ultrarich.
Our attitudes about charity have changed, too. Very few people today think it’s morally better for hospitals and libraries to be provided through largesse from billionaires than through public funding. It’s important to think about whether our laws are still shaped by attitudes about philanthropy that, on the whole, we have grown to reject.
A short history of the charitable deduction
When philanthropy got started in America, there was no federal income tax. Andrew Carnegie and John Rockefeller both founded their famous philanthropic organizations before the 16th Amendment — which made it legal for the federal government to assess an income tax — came into law. (The Rockefeller Foundation funds Future Perfect, this section of Vox.) When it did, lawmakers “saw philanthropists as a source of social capital that should be protected from the new tax on high incomes,” the report writes, “lest the government find itself having to pay for programs philanthropy had previously funded voluntarily, out of the donors’ own pockets.”
Thus, the deduction for charitable donations, designed specifically to make sure rich people would keep donating to their foundations even after the enactment of the income tax.
The income tax itself started out as a very small tax. In the first year, fewer than 1 percent of households were subject to it. But then America entered World War I and the income tax was expanded dramatically — and the top tax rate was quickly raised all the way to 67 percent. Lawmakers were worried that would kill private foundations, forcing the government to take over for them when it could ill afford to. So the 1917 War Revenue Act was amended to protect donations to “corporations or associations organized and operated exclusively for religious, charitable, scientific, or educational purposes, or to societies for the prevention of cruelty to children or animals.”
Up through World War II, that’s how people thought about the charitable deduction. The deduction, they reasoned, saved the government money: If philanthropists stopped funding research, museums, libraries, and programs for children, then the government would have to do it. Collecting a little less in tax revenue, the paper argues, was perceived as a small price to pay for keeping those obligations off the government’s balance sheet.
Around the time of World War II and in the high-marginal-tax-rate years that followed it, changes to the tax code meant that the tax incentives got a lot bigger. For a number of years, a wealthy person was actually financially better off donating stock from their company than they were if they kept it.
At the same time, the percentage of income that people were allowed to deduct went up. In 1917, it had been 15 percent. In 1952 it was increased to 20 percent, and in 1954 it was increased to 30 percent for some charities.
Now, normal people do not donate 30 percent of their income to charity. (Disclosure: I donate 30 percent of my income to charity). In general, people donating that much money are independently wealthy and have a wealth that far exceeds their annual income. So the primary group affected by these changes was wealthy people.
At the same time, a different set of changes to the tax code effectively took the income tax deduction away from ordinary Americans. In 1943, the year before these changes to the tax code were introduced, 75 percent of households were eligible to take the charitable-contribution deduction (the other 25 percent did not file tax returns at all). In 1944, almost all of those households were better off taking the newly introduced standard deduction, and only 14 percent itemized (and were thus eligible for the tax rebate for their donations).
So the tax deduction for charitable giving got better for rich people while becoming increasingly inapplicable to everyone else. The paper argues that these developments (plus the extremely high tax rates on the rich at the time) drove a huge surge in individual and corporate foundations. (The big incentives went away by the time of Reagan’s tax reforms, but the foundations remain to this day.)
These big shifts to the tax code have been reinforced recently with the 2017 Republican tax bill. It is estimated that just over 10 percent of taxpayers will itemize their taxes under the new changes, meaning that only 10 percent of taxpayers have their giving subsidized. At the same time, you can now claim a deduction for donating up to 60 percent of your income.
Do we mean to be a society that subsidizes giving by the rich while taxing giving by everybody else? The report convincingly argues that when the deduction was introduced, yes, that’s exactly what we meant to do. It’s less clear that most Americans or even most policymakers endorse those side effects of our tax code today.
And it would be possible to do better. The US could revise our laws to do away with the charitable deduction and give a uniform credit for charitable contribution so the rich and the poor get the same amount of money back from the government when they donate. (Canada does something similar to this.) This was actually considered during the debate over the 2017 tax bill but didn’t make it into the final version. (Charitable donations do seem to respond to tax incentives, so depending how this was done it could either increase or decrease charitable giving.)
If we want to incentivize philanthropy, incentivizing philanthropy only from rich people is an absurd way to go about it, a leftover vestige of an attitude about billionaire giving that no one — even its proponents — really endorses anymore. We owe it to taxpayers and nonprofits alike to do better.
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