The proof is in the refund
I realize this title sounds like click bait. I promise that it isn’t. This is a real, grow-your-hoard strategy that can result in an effective tax reduction of 6% and an increase of every dollar you give by a factor of 11. It’s possible that you could tweak the numbers for your own personal situation and realize EVEN GREATER savings. For my own finances, I have achieved effective tax reductions of 2%, 5% and 6% over the prior three tax years, with donation multipliers of 6:1, 10:1 and 9:1 as I’ve honed my strategy!
Every year I am receiving approximately $10,000 in tax refunds that I would not have otherwise been entitled to. And every year my charities are receiving greater than $20,000 from my net contribution of $2,000 (i.e. I gave $12,000 and got $10,000 back).
Many of my acquaintances believe that this isn’t possible or that this strategy isn’t available to them. Part of the reason why I’m writing this post is because I am asked about it all the time and the doubters need proof! So I’m here to say that just because TurboTax doesn’t prompt you to use these credits doesn’t mean they don’t exist.
The key is looking into specific state tax credits in addition to the “normal” federal and state deductions.
The secret is the CCCC
The credit I will focus on here is the Child Care Contribution Credit which is offered by Colorado. This is a nonrefundable credit that can carry over for up to 5 years. What does that mean? It means that if you owe $5000 in tax to Colorado you can claim a credit up to $5000 in that tax year. You can also give enough to claim a bigger credit, say $6000, and then carry that $1000 forward to use the following tax year. Even more exciting for the hoarders among us is that this is a credit, not a deduction. That means that you take it off the END of your taxes. If you owe $5000 in tax to Colorado and you claim a $5000 credit then you will owe ZERO to the state. They will literally write you a check refunding every dollar you paid them in that tax year. Then you can take this refund and reinvest it to grow your hoard. Talk about a WIN!
The Child Care Contribution Credit gives you a 50% credit for every dollar you donate to eligible organizations. That’s right: 50%. When combined with the “normal” federal deductions, you can significantly reduce your taxes with this giving strategy. Also, it does not have an income phase out and you can claim up to a mind-boggling $100,000 in credits per year.
So why don’t more people use this credit? Because it’s buried in the details! In order to claim it you have to know it exists, and until 2016 you had to file a paper return to access it. Your financial advisor doesn’t know. Your CPA probably doesn’t know. Your mom probably doesn’t know either.
But the Altruistic Dragon DOES know, because she is obsessed with both growing and GIVING her hoard!
Examples of the CCCC in action
So let’s get down to the details. I’ll start by showing you a cold, hard example. Then I’ll explain the specifics.
See how that works? Give nothing to charity and pay $30,871 in federal and state tax. Give $10,000 to charity and pay $8,168 less! (Now, some of you will quibble that you may not get ALL of that money back into your bank account, but the fact remains that you will decrease the amount you owe by that amount). In 2016 I would have received a refund of $1,115 if I had not used this strategy. With this strategy in place I received a refund of $10,663. That is real money for my treasure pile!
Example 1 assumes that you are single, childless and in the 28% tax bracket. But it is available for everyone and it is not at all complicated to implement; simply give to an eligible charity, receive your tax confirmation letter from them in January, then fill in a Colorado Form 104CR (line 24 in 2016). Easy!
Note that in Example 1, the credit alone results in a multiplier of $5.5 for every $1 you give. To really jazz your numbers and get to the 11:1 ratio, throw in a corporate match! I realize this option isn’t available to everyone. But a high percentage of you who are focused on growing your hoard work for companies that participate in matching programs. Don’t let them go to waste! In fact, many of these matching programs do not support religious organizations which may be your primary contribution area. If that’s the case, consider using your match for a tax credit eligible nonprofit. Your community will thank you – and it’s free money!
Also, you’ll see that I included a maximum 401k contribution of $18k. Because of course you’re growing your hoard via tax sheltering! However, removing that contribution actually INCREASES the value of the Child Care Contribution Credit, as you can see in Example 2, because your Federal Taxable Income goes up:
That’s great, Dragon, but what if I don’t earn that kind of hoard-growing income? No worries! This strategy is still for you! Here’s an example of a single filer earning $75k/year, contributing $3k/year to a 401k and giving $4.7k/year towards the tax credit:
Maximizing this credit involves getting your state tax as close to zero as possible. Don’t be afraid to think big here. You can literally give twice as much as your state taxes without seeing a noticeable effect on your net contribution.
To address another question, let’s look at the difference between giving the same amount of money with the tax credit and without it:
In this scenario you can see that your gift of $10k to a non-CCCC tax credit eligible organization reduces your effective tax rate by 3%. Not awful, but not that amazing either. Go big! Use the credit!
Sweet, Dragon! I want to use it! What organizations are eligible for this credit? Quite a few, actually. The intent of the credit is to incentivize private funding of child care. The Mile High United Way has a good list of eligible agencies here (you can give through MHUW or directly to one of the agencies listed; more info on the DEZ credit below). Some religious organizations also qualify, such as the Boulder Jewish Community Center. There are many others (note that I am not promoting, just providing info) such as Bright by Three, CASA Pikes Peak, and the City of Boulder. A quick call to your agency of choice will confirm whether they have filed the appropriate paperwork.
What will make my multiplier go down?
In the spirit of addressing as many situations as possible, here are some things that will reduce your donation multiplier:
- Not exceeding the standard deduction prior to adding your charitable contributions
- Giving to both eligible and non-eligible organizations
- Giving more than 2x your state tax liability (although the carryover credit will apply the following year)
Also, in the past Colorado has limited this credit to 50% and 75% of the allowable amount in certain tax years (i.e. if you gave $10k and were eligible for $5k, you could only claim $2.5k in that tax year). This was due to budget shortfalls. HOWEVER, the credits were not lost; they were simply carried over until the budget was restored. (This is why my 2014 multiplier was not as high as it could have been.)
Reasons you’re not taking advantage of this strategy
So, it’s possible that you have read through this, gotten curious and then decided not to pursue it for one of the following reasons:
- You think it’s complicated.
- You do not want to write a check for the full amount in December and then wait to get your refund in February.
- You don’t feel inspired by early child care.
- You don’t live in Colorado.
My responses are:
- It’s not complicated. Knowing exactly what your multiplier will be is a little tricky but you can use this strategy very easily just by estimating your annual state tax bill and giving twice as much.
- This is a cash flow issue, and it is real. One of the secrets to growing a big hoard is that you have to have money to make money. This is one of those situations.
- I totally get this! Consider using the similar Enterprise Zone tax credit instead (it’s also known as the Denver Enterprise Zone or DEZ if it’s within the Denver city boundaries). It is a 25% credit, as opposed to 50%, but it works the same way. You can check out eligible agencies that are partnered with the Mile High United Way, Habitat for Humanity, and Denver Kids for inspiration. There are many others.
- Bummer! Colorado is awesome! But if you don’t want to move here I suggest looking at programs that your state offers. Or leave a comment with your state and I will research it for you. I love this kind of thing!
What do you think? Are any of you already using this strategy? Have I missed anything or been unclear? Please leave a comment and let me know.