You can pay your state tax bill two ways: you can either pay your taxes to the state government or you can redirect your taxes owed to charity.
In Virginia, both the Neighborhood Assistance Program (NAP) and the Education Improvement Scholarships offer a state tax credit of up to 65% of your total charitable contribution. These tax credits can then be used on your Virginia state tax return to reduce your tax owed dollar-for-dollar.
You can request any percentage of state tax credits up to 65% of the value of the gift. If you are requesting 15% or less of the value of your gift, then the whole value of your gift is deductible on your federal return. Otherwise, you can only deduct the value of your gift minus the state tax credits you received.
To determine how many credits you’d like to receive and how much to give, there are three tax-efficient strategies.
1) If you want to maximize how much the charity receives…
First, if you have an amount you have already decided you would give to this charity even if they didn’t have tax credits, then you can simply add your state tax owed to that target.
For example, imagine you normally give $4,000 to charity, receive a $4,000 charitable deduction, and your Virginia state tax bill is $6,500. In this strategy you would give $4,000 + $6,500 = $10,500. This gets you sufficient tax credits to meet your charitable intention and also sufficient tax credits to satisfy your tax bill.
The next step in this plan though is to make sure the amount of tax credits you are acquiring is less than the maximum limit of 65%. In this example, it is under the limit because $6,500 / $10,500 = 61.90%.
However, if your tax owed is significantly larger than your charitable intentions, then this strategy will not work. For example, imagine with the same charitable intentions you owe $15,000 in state tax. Then, $15,000 + $4,000 = $19,000 and $15,000 / $19,000 = 78.95% which is over the limit.
This strategy is helpful because it merely redirects your tax owed to the charity of your choice, does not impoverish your federal charitable deduction, and means your preferred charity receives more funding.
However, if you find that this first methodology gets a NAP credit target that is over the limit, try the second way.
2) If you are primarily acquiring state tax credits…
Second, you could take the Virginia state tax you expect to owe and divide by 65% (0.65). This will give you how much you would want to give in order to ensure that you receive sufficient state tax credits to cover your Virginia state tax bill.
In our first example, this would be $6,500 / 0.65 = $10,000. A gift of $10,000 with the maximum 65% credit acquisition would get you sufficient tax credits to cover your taxes owed.
In the second example, this would be $15,000 / 0.65 = $23,077. A gift of $23,077 with the maximum 65% credit acquisition would get you sufficient tax credits to cover your taxes owed. However, it means that you would be giving $8,077 ($23,077 – $15,000) to the charity above your taxes owed. In our example, this is higher than your original charitable gift target of $4,000.
This second strategy is helpful because it ensures that all of your taxes owed have been satisfied via charitable giving. It can be troublesome though if the excess gift over the tax credits is higher than your intended charitable giving budget.
This is where the third strategy can be helpful.
3) If you are primarily giving to charity…
Third, you could take the amount you intend to give and divide by 35% (1 – 0.65).
In both our first example and second example, this would be a total giving target of $4,000 / 0.35 = $11,429 and a tax credit acquisition of $11,429 * 0.65 = $7,428. You can see that this amount of tax credits means that in our first example you would have a carryover and in our second example you would still need to pay some of your state tax to the state government.
Which of these three methodologies you prefer depends on your reason for giving. However, regardless of which you choose, it is admirable that you are taking the time to give to charity in the first place.
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