Liberal Logic Would Hurt Charities

President Obama and many others of his political persuasion view the nonprofit sector as a controllable, even unnecessary to some leftists, sector of the economy. The theory is that the nonprofit sector removes monetary resources from government thereby reducing the transfer of wealth and giving wealthy taxpayers yet another tax break. Such fundamental flaws in liberal logic cause many on the left to call for the reduction or elimination of charitable tax deductions.

Obama proposed to reduce the charitable deduction in all of his budget proposals. Bernie Becker of The Hill recently paraphrased the Treasury Secretary to illustrate the Obama Administration's position on the charitable deduction. "Timothy Geithner defended the White House plan," wrote Becker, "suggesting both that the fiscal situation had forced the administration's hand and that it was not fair to give the richest households a larger deduction for donating the same amount as less wealthy taxpayers." But, would cutting the charitable deduction on wealthy taxpayers level the socioeconomic playing field?

Martin Feldstein noted in 2009 that Obama's proposal would have a neutral impact on the wealthy. "President Obama's proposal to limit the tax deductibility of charitable contributions would effectively transfer more than $7 billion a year from the nation's charitable institutions to the federal government. But the high-income taxpayers affected by the rule change are likely to cut their charitable giving by as much as the increase in their tax bills, which would, ironically, leave their remaining income and personal consumption unchanged" wrote Feldstein.

Feldstein continued, "In effect, the change would be a tax on the charities, reducing their receipts by a dollar for every dollar of extra revenue the government collects. It is hard to imagine a rationale for taxing schools, hospitals, medical research budgets and arts organizations in this way."

Proponents of the Obama proposal would respond that a cut in the deduction wouldn't affect charities because the government provides grants to those charities. That more tax revenues could lead to more grant funding. Or they would argue that taxes fund social welfare programs that eliminate the need for nonprofits. Although many charities receive government grants, the cost of processing those funds are far greater than direct private donations so it doesn't make economic sense to encourage grant funding over private donations.

Suppose you donate 100 dollars to your favorite charity. That 100 dollar donation would be an immediate transfer of ten dollars with no intermediary processing costs. Now suppose you would rather support government grants buy paying higher taxes.

Your 100 dollars would be part of the tax preparation on which you would spend money or have opportunity costs if you prepare your own taxes. Then paid bureaucrats would have to process your 100 dollars through the IRS and several other federal agencies. Eventually, your 100 dollars would end up in the charity via a grant. What would have cost nothing to process in a direct private donation would now cost much more to process as a government grant.

What about social welfare programs? Well, as government assumes a greater role in social welfare, citizens tend to question the necessity of charities and donate less. Arthur Brooks illustrated this phenomenon in Who Really Cares? Brooks also discussed how welfare reform of the mid 1990s impacted charitable giving.

Charitable donations among the poor increased and the poverty rate decreased. As welfare handouts became more stringent, donations to charities from all income levels increased. What was most surprising in Brooks' discussion was that "On average, the working poor family gives more than three times as much money to charity as the welfare family," wrote Brooks, "The most responsible reading of all this evidence is that it is not poverty per se that makes people uncharitable—but rather the government's conventional policies for eradicating it."

A cut in the charitable tax deduction would impact charities negatively. The federal government would likely increase social welfare spending causing a decrease in charitable donations. Government grants would not fill the void. Further, government grants would be a form of control over charities. As charities relied more on grants, the government would have more influence on charitable missions and functions. Charities that didn't conform to government grant stipulations would lose funding.

What about the fairness of the tax code about which Secretary Geithner spoke? Here's a general overview of the tax deduction debate: Currently, charitable donations are tied to the income tax bracket. If you're in the 35% bracket, you could deduct 35% of charitable donation. If you're in the 28% bracket, you could deduct 28% of your donation, and so on. That is unfair. Why should wealthy taxpayers get a bigger break than less fortunate taxpayers? According to liberal logic, the remedy to the unfair charitable tax deduction is to reduce the amount the wealthy could deduct. This makes sense to the left because it brings more revenue into the federal government.

Instead of the left's solution, the tax code should encourage everyone to donate to nonprofits. The deduction for lower income brackets should increase to match the upper income bracket's deductable rate. Why not let every income bracket deduct 35% or 45% or more? Doing so would increase charitable donations. This would give more opportunities for nonprofits to serve their distinctive communities according to their missions without the threat of the federal government pulling grant funding.

The relative separation of the nonprofit sector and government must remain or charities will become proxies of the government, indistinguishable from their grant funders. Charities provide numerous opportunities for individuals to support causes in which they believe. Government eliminates that individual choice. Not only that, donations from the private sector to the nonprofit sector cost far less to process than government grants. There is far more bang for the donated buck with the government in the middle. Charities are far more efficient than the government so the government's role should be one of encouragement and support, not controller.