The Globe and Mail recently had an opinion piece criticizing changes to the rules relating to donations of marketable securities for some taxpayers who are also affected by the alternative minimum tax (“AMT”). In essence, next year, but not this year, there will be an overhaul of the AMT system and some very wealthy donors who are affected by AMT will get slightly less tax benefits for donations of marketable securities.
My takeaway from this is that if you are very wealthy and affected by the AMT, consider giving as much as possible this year if you want to maximize your tax benefit. Also, can we just agree that niche lucrative tax benefits for donating to charity, even if you really like them, are not a basic human right and constitutionally protected? It is a reminder that it is possible that in a few years, the Federal government may eliminate the extra benefits that donations of marketable securities provide and if you want to make a sizeable charitable donation, you might want to use this mechanism of donating appreciated marketable securities sooner rather than later. You can also see our blog in 2018 in which we quote from a Federal government tax expenditure report dealing with donations of marketable securities, and the writing is on the wall that it is an inefficient, ineffective and non-equitable tax incentive.
The Globe opinion piece argues that these changes could “stifle large charitable gifts.”. The article notes, “So it would seem inappropriate to introduce tax laws that would negatively affect donations from wealthier folks. After all, tax rules that encourage charitable giving are not loopholes or tax schemes to somehow enrich the wealthy. When a person donates to charity, it costs them real money out of their pocket – even after the tax incentives.”
As it is now, wealthy donors in Canada get very good tax incentives for donations to charities. Far more than in many countries. Also, far more than average Canadians receive when they donate to charity. If various levels of government in Canada had unlimited money, then probably no one would care. But the Canadian governments and provincial governments have limited money, and when people donate to charity, it will obviously help certain charities, but it does result in less money for governments who provide programs such as health care, roads, etc.
Finance has for decades provided a preference for donations of marketable securities over cash and other assets, but the world has changed, and the needs we have in Canada are perhaps more acute at the moment. With all the conflicting issues (should we have lower or higher tax rates, broader taxation, fewer deductions, more social and defence spending, etc.), Finance has been less enamoured with this particular tax incentive because it can result in certain donors, making donations, getting a receipt, accumulating a lot of money in foundations and DAFs, and it’s costing donors far less than it costs other taxpayers. The change is trying to restore a tiny amount more balance in the tax system.
Why should average Canadians get, say 40% when they donate to charities and the ultra-wealthy get, say, an 80% tax benefit? Now maybe the ultra-wealthy will only get 75%.
The AMT is a tax that applies to the very wealthy, who might not pay much of any taxes if it was not for the AMT. As you know, most Canadians are not affected by AMT. That is probably why most people have never heard of it. Most of even the very wealthy probably don’t pay any AMT, but some people who receive certain types of income such as “tax shelter deductions, interest expenses and/or carrying charges related to tax shelter loans, employee stock option deductions, the lifetime capital gains exemption, Canadian dividends and realized capital gains”. Now added to this list will be appreciated marketable security donations.
Apparently, about 32,000 people will be affected by AMT. With these changes coming into effect in 2024, it actually will affect a lot fewer people as the amount when AMT kicks in has been raised. Those 32,000 people and their returns are of 31 million returns filed by Canadians each year. So, it affects one in a thousand taxpayers. Also, these changes will result in some Canadians paying less taxes – perhaps they will have more disposable income and donate more to charity!
But with the general overhaul of the AMT system, of which changes dealing with donations of marketable securities is only a small part, it will result in some of the most wealthy paying more taxes. The AMT rate is raised from 15% to 20.5%. Think about that. So, some very wealthy people have gotten away for a long time in either paying little to no taxes or just 15%. In an Advisor’s Edge article it notes, “The 2022 budget said that 28% of tax filers with income above $400,000 — the top 0.5% of earners — paid an average federal income tax rate of 15% or less in 2019. More than one in 10 of those top earners paid less than 5%, according to 2019 tax returns.”
Now some of those wealthy people will pay 20.5% potentially only on income, not on wealth. Some of those wealthy people, instead of complaining about how they may have to pay more, might want to consider that for a long time, they paid far less than many Canadians earning a lot less than them, and this has resulted in those very wealthy people accumulating huge amounts of wealth as well various levels of government had less tax revenue and fewer programs for those in need and infrastructure and/or those governments have been running deficits and increasing debt.
Wealthy people don’t just happen to pay very low tax rates. They work hard with professional advisors to structure their affairs to pay less taxes, and the increased AMT rates will still allow them to pay lower taxes, but not as low as they got away with in the past.
I have seen many calculations relating to the AMT changes. As a result of the complexity of the AMT system – that for example, amounts paid in AMT may be carried forward for up to seven years and may reduce in some cases future tax liabilities – one has to be careful when looking at these particular calculations and drawing too many conclusions about how people will act and its impact on individual taxpayers. For some people, AMT is more of a pre-payment than an actual tax depending on decisions those people make in future years.
I would argue that a lack of trust in the charitable sector and a lack of transparency/accountability of many charities may be bigger factors in deterring donors from donating to charities and funders from funding charities than a change in the tax system.
Let us also keep in mind that the charity sector has revenue of over $334 billion. Receipted donations are approximately $21 billion. The number of personal tax returns filed each year that have donations listed is about 4.9 million per year, and in those 4.9 million tax returns they claimed about $11.8 billion in 2021. Corporate donations might be about $3 billion. That leaves about $5 or $6 billion in donations not even being claimed on tax returns. Sorry, I should have put a content warning on the last sentence, as I am sure that a couple of tax experts just had a heart attack when they read that!
On a separate note, the number of individuals who make marketable security donations to charities in Canada is about 5,000 per year. Yes, only 5,000 of the 4.9 million Canadian donors are making marketable security donations. We don’t know how many of them are affected by AMT. Also, we don’t even know exactly how much is given in marketable securities to registered charities because our system is not very transparent.
As we noted in a blog in 2015, much of the donations of marketable securities apparently come from corporations and corporations are not affected by the AMT. In fact, you can see from this RBC note on corporate donations that if you have appreciated marketable securities in a corporation and personally, it is probably better to donate through the corporation (and that note was before any discussion of the AMT changes).
If you intend to make a donation of publicly traded securities with accrued gains, it is generally preferable, from a tax perspective, to donate the securities with the largest accrued capital gains regardless of whether they are held personally or through your corporation. This is because you want to maximize the benefit of eliminating the capital gains accrued on your holdings. However, if you have surplus assets in your corporation that you wish to withdraw, you may want to consider first donating the securities with accrued gains in your corporation and then withdrawing the funds. This is because by donating securities directly from your corporation, your corporation can receive the elimination of the capital gain, the donation tax deduction as well as the addition to the CDA which provides you with the ability to withdraw assets from your corporation on a tax-free basis.
Some think this change will be very negative for the charity sector and want to lobby government to prevent this change. I don’t share their gloom and doom. If the charity sector wants to get very engaged, I can suggest many areas better than complaining about changes to the AMT.
Some of the ultra-wealthy will get slightly less tax benefit when they donate marketable securities beginning next year. Despite the criticisms of the change, I don’t actually think that it will have much effect on operating charities. First, because I don’t think that there will be a decline. The amount being accumulated by some wealthy people is so great that it is almost incomprehensible, and the tax benefits are still extremely generous for donating to charity. Second, there is a lot of academic literature that shows one of the least important reasons for donations is the tax benefits. BTW, this is very hard for some tax lawyers and some tax accountants to understand or agree with that premise and I am not going to spend a lot of energy on it but that is what those academics say. Third, there will be little impact on operating charities because much of the funds donated using appreciated marketable securities go to private foundations and often it is only disbursed in small amounts like 3.5% or 5% to operating charities. So, there is a big difference between donations to registered charities versus donations to operating charities. With my first point, I don’t think there will be a big decline, but if there is a big decline, then expect little impact on operating charities. Also, some donors will give more this year (perhaps double up on donations) because of the upcoming change, so a more fair comparison would be 2022 donations of appreciated marketable securities (before this announced change) to 2025 donations of marketable securities. In other words, if a donor doubles their donation this year, it is not unexpected that they will give less next year.
If you want to worry about a decline in revenue for charities, you should focus on whether governments make cuts in funding – a 10% cut in government funding (federal, provincial and municipal) to the charity sector would require charities to double their fundraising returns in order to just stay even. With all the pressures on governments at the moment, a 10% cut is not unforeseeable, and that is what is worrying to some who care about the charity sector. The charity aspect of the changes to the AMT is relatively minor and the extra revenue raised by the new AMT make it more likely that huge cuts to government funding of charities will be less likely.
The changes to the AMT did not abolish the tremendous benefit of donating appreciated marketable securities but are just chipping away at it. I would not be at all surprised in the next few years if the Department of Finance completely eliminates the extra benefit for donating marketable securities. Finance has already eliminated the proposed benefit that never was brought into force for gifts of real estate and private company shares.
Therefore, for many enlightened donors, who are strongly interested in the tax incentives, it would make a lot of sense to arrange further donations this year. If you are a HNW individual interested in philanthropy, talk to your tax advisor, and I am sure they can do a calculation for you as to how much more beneficial donating this year will be compared to next year. Furthermore, as the tax benefits relating to the donation of appreciable marketable securities are not sacrosanct, it may make sense to think about making donations over the next few years more speedily.
For those who are thinking about lobbying the Federal government on this AMT change and who are more strategic in nature, just remember that it might be a reminder to the Federal government and the public of how little some wealthy people actually pay in taxes, and it may advance the date that the Federal government abolishes the tax incentive on donating appreciated marketable securities and rather treats all donations equally. There are issues of horizontal and vertical equity in the tax system that should be remembered. It makes little sense that an individual who donates $1 million in cash gets far less tax incentives than a person who donates $1 million in appreciated marketable securities. Also, if one cares about generosity and rewarding it, it makes little sense that a billionaire with $100 million in income in a year gets more tax benefits from a $10,000 donation than a person, say, earning $150,000 with very few assets who makes an equally large donation. Perhaps it is better not to remind the Department of Finance or have them think too much about the topic!