By David Munn, CFP
As the year draws to a close, taxpayers aiming to reduce their 2024 tax liability may consider the strategy of bunching itemized deductions. This approach involves timing deductible expenses to maximize their tax impact in alternating years. Combining this with a donor-advised fund (DAF) for charitable giving can yield substantial tax benefits.
Understanding Bunching of Itemized Deductions
The standard deduction for 2024 is $14,600 for single filers and $29,200 for married couples filing jointly. Many taxpayers find their itemized deductions—such as state and local taxes (SALT), mortgage interest, medical expenses, and charitable contributions—fall below this threshold. Consequently, they opt for the standard deduction, leaving potential tax benefits from itemizing on the table.
Bunching deductions involves strategically consolidating deductible expenses in a single year to exceed the standard deduction. For example, instead of making charitable contributions annually, a taxpayer might contribute a larger amount every other year. Similarly, they might prepay property taxes or schedule elective medical procedures in the same year to maximize deductions.
Charitable Contributions and Donor-Advised Funds
Charitable giving is a key component of itemized deduction, and a donor-advised fund can enhance the effectiveness of a bunching strategy. A DAF is a charitable giving account where donors can make an irrevocable contribution, receive an immediate tax deduction, and recommend grants to charities over time.
When combining a DAF with bunching, taxpayers can make a substantial contribution in a single year, achieving several goals:
Immediate Tax Deduction: Contributions to a DAF are tax-deductible in the year they are made, allowing taxpayers to maximize their deductions in high-income years.
Flexibility in Giving: While the deduction is claimed in the year of the contribution, funds in a DAF can be distributed to charities over multiple years. This ensures consistent support for nonprofits even if contributions are made in larger, less frequent amounts.
Investment Growth: Funds in a DAF can be invested, potentially growing tax-free and providing more resources for charitable giving in the future.
Practical Application of Bunching and DAFs
Consider a married couple with $10,000 in state and local taxes (the maximum deductible amount), $8,000 in mortgage interest, and $10,000 in annual charitable contributions. These deductions total $28,000, just slightly below the standard deduction of $29,200. By employing a bunching strategy, they might contribute $20,000 (or more) to a DAF in one year, bringing their total deductions to $38,000. In alternate years, they take the standard deduction, optimizing their tax benefits over a two-year period, while they use the extra funds in the DAF to maintain their normal giving during the years the standard deduction is claimed..
Bunching may also be applied to medical expenses if they exceed 7.5% of adjusted gross income (AGI), though that is less common.
Conclusion
Bunching itemized deductions and leveraging a donor-advised fund is a powerful strategy for taxpayers seeking to maximize tax efficiency while supporting charitable causes. With proper planning, this approach can help taxpayers reduce their tax liability, invest in their communities, and make a more significant philanthropic impact over time.
This material is intended to be educational in nature, and not as a recommendation of any particular strategy, approach, product or concept for any particular advisor or client. This material is not intended as any form of substitute for individualized investment advice. The discussion is general in nature, and therefore not intended to recommend or endorse any asset class, security, or technical aspect of any security for the purpose of allowing a reader to use the approach on their own. Before participating in any investment program or making any investment, clients as well as all other readers are encouraged to consult with their own professional advisers, including investment advisers and tax advisors. Munn Wealth Management, LLC, is registered as an investment adviser (RIA) with the United States Securities and Exchange Commission. Registration as an investment adviser does not imply any certain degree of skill or training. 1323GRZ