The Care Act's Tax Incentives

Title I of the CARE Act contains a number of provisions designed to encourage charitable giving by individuals and businesses. Individual taxpayers who currently do not itemize their charitable contributions and those who want to assign their individual retirement accounts (IRAs) to charities would be able to do so and benefit from favorable tax treatment. Corporations would be able to give more to charities over the next two years, and nonprofits would be encouraged to make more social investments.

Specifically, the CARE Act includes provisions for:

• Taxpayers who do not itemize. Millions of taxpayers currently use the standard deduction to lower their tax bills rather than itemize deductible expenses. In nearly all cases, this choice is driven by IRS regulations that require the use of the standard deduction when itemized deductions are less than the standard deduction. A deduction for non-itemizers was phased out beginning in 1987. Thus, millions of taxpayers do not get to deduct their charitable contributions, which can only be claimed on the Schedule A itemized deduction form. The CARE Act would restore the deductibility of charitable contributions for non-itemizers--but only for two years.⁷ An individual would be able to deduct $400 in gifts, and a couple could claim a deduction of up to $800 in charitable donations.
• Tax-free distributions from IRAs. Current law taxes gifts to charities made by taxpayers from the proceeds of their IRAs. However, many taxpayers have substantial retirement accounts that could supply income for their retirement and still allow charitable gifts. For taxpayers who have reached the age of 67, these gifts would be tax-free under the CARE Act.
• A temporary increase in corporate giving. The CARE Act provides for a two-year increase in the percentage of income that a corporation can deduct in charitable gifts. Current law sets a cap of 10 percent of income. The CARE Act would increase this to 15 percent by 2003 before dropping to 10 percent again in 2004.
• A more liberal allowance for deducting gifts of books, food, and bonds. Current law limits the deductions that corporate taxpayers can claim for the contributions of these items. The CARE Act relaxes these limits, thereby permitting companies whose products could benefit "the ill, the needy, or infants" to make larger contributions.
• A reduction in nonprofit excise taxes. A number of private nonprofit foundations and trusts currently pay excise taxes on a portion of their income. The CARE Act provides for a reduction in the excise tax rate from 2 percent to 1 percent if the trust or foundation funds certain presumably charitable activities.

Charitable contributions are very likely to grow from at least two of these tax provisions. Permitting individuals with substantial IRAs to make tax-free charitable contributions and increasing the cap on corporate contributions does significantly reduce taxes on these types of taxpayers. These taxpayers also are capable of significantly changing their contribution levels over a short time period. Thus, S. 1924 holds out some promise of expanding the current level of charitable giving.⁸

Despite the well-intentioned nature of all of the bill's tax incentives, however, the CARE Act's other tax provisions will likely fall short of the goal of expanding charitable gifts. A large and growing body of research indicates that the level of charitable giving among middle-class taxpayers generally does not change when tax law does. What does matter for the charitable gifts of these taxpayers is the level of after-tax income.⁹

In addition, the CARE Act creates temporary tax breaks: Most of the deductions and tax rate changes revert to current law on January 1, 2004, and thus cannot be counted on to produce a permanent change in taxpayer behavior. Add this shortcoming to the likelihood that only a few of the proposed tax changes will unlock charitable gifts, and the tax provisions may not produce the increase in charitable contributions that the bill's sponsors envision.

The Care Act's Individual Development Accounts

Title II of the CARE Act would create a new form of tax-advantaged savings account called an individual development account (IDA). Low-income adults between the ages of 18 and 61 could open an account and make contributions that a sponsoring bank or community organization could match. The matching contributions would receive a dollar-for-dollar tax credit of up to $500 per account. IDA participants would be expected to attend classes on managing money and assets, and local experiments with IDAs indicate that about 12 hours of such education produces significant changes in the participants' success with the program.

The intent of IDAs is to create financial independence among low-income workers who otherwise might live on and off government welfare programs. A nationwide experiment with IDAs--the American Dream Demonstration (ADD) project administered by the Center for Enterprise Development--indicates that this goal is achievable. The average participant made a deposit in seven out of 12 program months, with the average monthly deposit just over $25. With a 2 for 1 match, the average IDA amounted to $900 after one year. After two years of the experiment, 81 percent of participants remained active.¹⁰

The monies in these accounts, however, could be spent only on particular assets or activities and still be eligible for matching dollars. Buying a first home, starting or expanding a micro business, or purchasing post-secondary education (including job training) would qualify; medical care, transportation, and day-care expenses presumably would not. In the American Dream Demonstration project, 57 percent of those participants who had not yet made a withdrawal told evaluators that they were waiting to use their funds to buy a house; 15 percent were going to use it for post-secondary education; 18 percent, for starting or expanding a micro business; 4 percent, for home repair; 4 percent, for retirement; and 2 percent, for job training.¹¹ Those participants who had made a matched withdrawal spent the funds as follows: 18 percent spent their funds on a home purchase; 22 percent had spent the money on post-secondary education; 30 percent, on micro businesses; 20 percent, on home repair; 9 percent, on retirement; and 3 percent, on job training.

While the ADD experiment relied on matching funds from nonprofit organizations, the CARE Act's IDA program would expand the pool of matching organizations to include financial institutions whose contributions would be offset by a dollar-for-dollar tax credit. Of the many challenges that face the implementation of individual development accounts, the use of tax credits may be the "sleeping giant." Including a tax credit in a program that relies almost entirely on an infrastructure of charitable and nonprofit organizations introduces the politics of tax credits into a realm of social work where it may not be needed. The Act's sponsors suggest that the tax credit cost of the legislation may be $1.7 billion over the next 10 years. That amount would not appear to be beyond the independent sector's means. Thus, insisting on a tax credit for financial institutions does not appear to be essential for the success of this initiative.

The Care Act's Treatment of Religious Charities

S. 1924 contains several provisions to encourage the direct participation of religious organizations with government funding. Title III calls for the "equal treatment of non-governmental providers" in federally funded programs. It would prohibit government agencies from forcing FBOs to (1) remove religious icons or Scripture from their facilities; (2) amend religious provisions in their chartering documents; or (3) amend religious qualifications for membership on their governing boards. Title III also would authorize large community organizations receiving government grants to award subcontracts or subgrants to smaller grassroots groups, with an eye to increasing competition among providers.

These rules would be universal: They would apply to all federal, state, or local social-service programs that involve federal money. That is important because it would mark an accommodation for religious belief across federal welfare policy.¹²

Title IV of S. 1924 also would invite religious participation by encouraging congregations and charitable groups to set up separate nonprofits to administer social services. The "E-Z Pass" proposal would streamline the application process to obtain a 501(c)(3) designation. This is a useful idea: An
E-Z Pass approach would make it simpler for providers to qualify for federal grants and contracts, confirm an organization's eligibility to receive tax-exempt donations, and help protect parent organizations--such as churches and synagogues--from government audits.

Nothing in these provisions, however, fundamentally challenges the status quo: the secularizing drift of government's social-welfare system. Not only do federal grants and contracts for social services tend to exclude faith-based providers outright, but most require religious elements to be purged or strictly quarantined. Many government officials even oppose programs in which religious activity is voluntary and privately funded.¹³

It is precisely at this point, however, that the real test of religious liberty occurs. The First Amendment requires that government do more than merely tolerate organizations that hold religious viewpoints in private: It must accommodate those viewpoints by creating public space for them, allowing religious values and religious speech to inform the content of programs helping the needy. Otherwise, the free exercise of religion becomes a meaningless slogan.¹⁴

S. 1924 does not meet this test of religious liberty. While encouraging faith-based charities to participate in federal funding, the bill fails to change the basic rules of the game--rules that help to keep religious values and institutions mostly on the sidelines of social-welfare policy. In short, the legislation would make it easier for faith-based organizations to receive direct federal support but would offer no legal assurance that such groups could preserve their religious mission once they got it.

The Principles of Religious Freedom

Congress can do better for the nation's religious institutions that assist the needy--indeed, it already has. A significant challenge to the existing system arrived with passage of the 1996 Welfare Reform Act, which includes a provision called "charitable choice." The law codifies the most recent U.S. Supreme Court rulings on government aid to religious organizations. In brief, charitable choice allows faith-based organizations to receive federal funding "without impairing the religious character" of such providers. While the law's most important religious liberty protections are contained in H.R. 7, they are missing from S. 1924.¹⁵

Under charitable choice, organizations maintain sole control over "the definition, development, practice and expression" of their religious mission. Though prohibiting government from directly funding religion, the law accommodates religious activities that are privately funded and voluntary.¹⁶ Faith-based organizations also retain their exemption from certain anti-discrimination laws that affect hiring policies. In other words, they can use religion as a criterion for employment.¹⁷ Finally, the law allows federal grants to be converted to vouchers or certificates and redeemed at programs that are infused with religious teaching--no questions asked.

Existing charitable choice law, however, affects only about $20 billion in Temporary Assistance to Needy Families (TANF) money, community services block grants, and drug and alcohol treatment programs.¹⁸ House supporters of H.R. 7--notably co-sponsors J. C. Watts (R-OK) and Tony Hall (D-OH)--fought hard to extend its protections. Their bill would cover 80 additional federal programs receiving more than $53 billion in fiscal year 2001.¹⁹

So far, however, the Senate has balked at the provisions. Senator Santorum has testified in favor of charitable choice and strongly supports expansion of the law, calling its provisions "essential to religious freedom.²⁰ He represents an increasingly lonely voice. His co-sponsor for S. 1924, Senator Joseph Lieberman (D-CT), has publicly reversed his pledge to extend the law's protections to other federal programs. Senator Lieberman now wants to "preserve the option not to be locked into that language"--meaning the language of the 1996 legislation he proudly endorsed.²¹ The result is that important religious liberty provisions have been dropped from the Senate bill.

That does not necessarily signal a congressional retreat from the principles of charitable choice, but neither is it a step forward. Under Title VII of the CARE Act, for example, Congress would create a separate funding stream for maternity group homes and authorize $33 million in additional money.²² Although the Title III provisions of the bill--the "equal treatment of non-governmental providers"--would apply to maternity-home funding, the money would not be governed by existing charitable choice law. This would present a problem, since churches or other religious institutions support the vast majority of maternity homes.²³ Once they accept federal support, it is unclear whether they could preserve the religious aspects of their programs--such as Bible studies, prayer meetings, or parenting classes based on religious teachings.

Without religious programs and religiously informed instruction, ministry leaders say their hands would be tied. "Many of the women we serve have experienced abuse and neglect. They often become hopeless, and they don't believe they're loved or valuable," says Peggy Hartshorn, president of Heartbeat International, an association of crisis pregnancy and maternity centers. "The biblical message we bring is that they were created unique and special, and there is something called forgiveness. And that's the key message these women often need to hear.²⁴ If faith-based maternity programs are not free to deliver that message, they are not likely to participate in government funding.

Expanding the Reach of Compassionate Care

To fulfill the President's pledge to expand the reach of religious charities while protecting their independence from government, the Senate should:

• Examine the need for using tax credits and subsidies in lieu of more active involvement by nonprofits in the support of individual development accounts. These accounts help low-income Americans develop savings for key life events (such as homeownership and education) by matching their savings with the contributions of nonprofits and financial institutions. Given the enormous resources of U.S. grant-making nonprofit organizations, eliciting matching funds by offering tax credits to banks may be unnecessary.
• Attach the religious freedom protections of the charitable choice law to the maternity-home provisions (Title VII) of the CARE Act. The bill's equal treatment provisions, though useful, are insufficient to protect maternity homes that consider religious values and activities crucial to the success of their programs. The charitable choice law, by contrast, accommodates religious activities that are voluntary and privately funded--activities that are typically offered by maternity-home providers.
• Authorize states to convert the additional $33 million in Title VII of the Act to certificates for needy families. Women could use the certificates at maternity homes of their choice--secular or religious. Under current law, the certificate or voucher approach gives both faith-based organizations and recipients the most flexibility. Poor families already enjoy this option under federally funded child-care programs, which offer them vouchers for day-care centers of their choice--secular or church-based. Such programs have been operating since 1990 without a single court case to challenge their constitutionality.²⁵

Conclusion

Amending the CARE Act in these ways would advance the President's commitment to promote what he calls the "armies of compassion" to combat family and social breakdown. By emphasizing tax incentives to boost charitable giving, the bill would properly focus attention on the role of private philanthropy in addressing social ills.

By extending the charitable choice law to federal funding for maternity homes, the bill would offer public support for America's Good Samaritans while protecting their religious liberty. Most important, it would empower poor families, instead of government bureaucrats, and widen the choices of compassionate care available to families in crisis.

Joseph Loconte is William E. Simon Fellow in Religion and a Free Society, and William W. Beach is Director of the Center for Data Analysis, at The Heritage Foundation.