Charitable Giving and Taxation: Should the
Government Give Tax Breaks to the Rich for
Making Charitable Contributions?
Kimberley Scharf
University of Warwick
London School of Economics
Fifth Workshop on Foundations
Torino
October 16, 2015
Supporting minority interests in tough times
I
There are lots of questions in tough times
I
I
I
I
I
I
What should government do?
Balance the budget?
Balance through taxes or spending?
Increase taxes?
Decrease spending?
There are lots of answers
Good times/tough times
I
In good times, the budget is more relaxed ⇒ tax incentives
more affordable
I
Politicians are more relaxed ⇒ supporting minority interests
more viable
I
Not so in tough times – possibly even if the tax incentives are
for giving and the minority interests are those of wealthy
donors
Two questions
1 Would a reduction in tax incentives improve the budget?
I
I
The answer is . . . maybe
It depends on how donors respond in terms of their total giving
(aggregate response)
2 Should the government use tax incentives to support the
minority interests of rich donors?
I
I
The answer is . . . maybe
It depends on how donors respond in terms of the bundle of
causes to which they give (compositional response)
Very Important
I
All answers are completely independent of ideology – this is all
about the economics
Tax incentives
I
Different kinds in different countries (e.g. mortgage interest
payment relief, pensions, donations)
I
They are costly for government
I
Contributions to private activities produce a private benefit ⇒
there are no direct implications for public spending
I
Contributions to charity affect the private provision of a public
good or service (which to some degree substitutes for public
provision) ⇒ there may be implications for government budget
How people respond to tax incentives affects the
government budget
I
Suppose, for the sake of argument, that someone has a total
amount of before tax income (Y) and this is divided so that
Y =P +T +D
I
P is private stuff like a house, clothing, entertainment (private
yacht, upkeep of mansion, etc. if rich)
I
T is taxes
I
D is donations to charity
One way people might respond to a reduction in tax
expenditures
Y = P ↓ +T ↑ + D
I
Y doesn’t change, T goes up, P goes down, nothing happens
to D
I
Thinking is a bit naive
I
It assumes that donors are inert with respect to the donation
decision
I
Ample evidence that donors are not, they will respond
I
They may change their aggregate donations
Another equally plausible response
Y =P +T ↑+D ↓
I
Y doesn’t change, T goes up, money going into P could be
“spoken for” and so P can’t change ⇒ the increase in T would
be have to absorbed by a reduction in D ⇒ if government has
to step in to exactly make up for the shortfall in D ⇒ effect
on the budget would be zero
Another equally plausible response
Y ↓ = P ↑ +T ↑↓ + D ↓
I
Y goes down, T goes up or down, donor gets irritated and
increases P ⇒ the fall in Y, increase in T and increase in P
would then have to be more than fully absorbed by a reduction
in D ⇒ if government has to step in to make up for the
shortfall in D ⇒ effect on the budget would be negative
Which of these scenarios is the right one depends on what
people actually do
I
Economists look at this in terms of the effect of policy changes
on the ‘price of giving
I
Just like the price of candy affects how much candy people
buy, the ‘price of giving’ affects how much people donate and
a change in tax relief (or tax rates) changes this price
I
So whether or not revenue goes up by more than the fall in
spending (or down by more or stays the same), depends on
how responsive donors are to changes in the ‘price of giving’
Measuring donor responses to changes in the price of giving
I
The price elasticity of giving is a number that measures the
sensitivity of donor responses to changes in the price of giving
I
Evidence about it is limited and mostly based on US data
I
Best UK evidence suggests that reducing tax relief might make
private consumption bigger for wealthier donors ⇒ donations
might fall by more than the increase in taxes ⇒ fewer
donations in aggregate ⇒ as a result, government might have
to spend more on financing the incentive, than charities receive
⇒ not an effective use of public funds
Conclusion about Question 1 – Would a reduction in tax
incentives improve the budget?
I
Depends on the evidence
I
Donors react to changes in tax expenditures by changing
aggregate donations
I
These aggregate donation responses matter for budgetary
outcomes
I
Public policy should take them into account ⇒ they need
evidence
I
It also needs evidence if there are political concerns about
using public money to finance minority interests
I
This does not depend upon political ideology, as we will see
Question 2. Tax incentives used to support the minority
interests of rich?
I
The rich donate a lot of money to charity and claim
disproportionate share of tax relief
*
Charitable*giving*and*tax*relief*in*America*(2010)*
Source:*Congressional*Budget*Office,*US*Government*
Total*donations*
D*$212bn*
Tax*relief*paid*
out*D*$39bn*
76%*of*total*went
to*taxpayers*with**
income*over*
$100,000*
43%*from*
taxpayers*with*
income*less*than*
$100,000*
$33bn*claimed*by*
taxpayers*with*
income*over*
$100,000*
*
The interests of the rich
I
The rich have different interests than do the majority
(education, culture, ballet e.g.)
Contributions by Income and Subsector, 2005, as Percent of Total (U.S.A.)
Income
Less than
$100,000
$100,000
to $200,000
23.7
3.0
3.7
1.2
1.1
0.4
2.4
35.6
4.5
0.9
1.0
0.4
0.5
0.2
0.5
7.9
$200,000 $1 million
to $1 million
or more
Total
Subsector
Religion
Combined
Basic needs (1)
Health
Education
Arts
Other
Total
8.3
4.0
2.1
1.9
11.5
5.4
2.9
36.2
3.4
0.8
0.8
5.1
5.1
3.1
1.9
20.3
Source: Patterns of Household Charitable Giving by Income Group, 2005 (Indianapolis:
Center on Philanthropy, Summer 2007), Table 9
(1) Providing food, shelter, or other necessities.
Table 4
Share of Tax Returns, Income, and Contributions and Percent Itemizers, by Income, 2008
40.0
8.8
7.5
8.7
18.2
9.1
7.8
100.0
Giving of the rich relative to the poor
I
For the UK
Table&3:&Comparing&rich&donors&to&UK&donors&&
Cause$
%$who$donate$to$
each$cause$
Rich
UK$
Donors$
Donors$
%$of$the$total$
amount$donated$
Rich$
UK$
Donors$
Donors$
Culture$&$Recreation$
12%!
4%!
6%!
3%!
Education$&$Research$
47%!
45%!
16%!
21%!
Health!
53%!
33%!
8%!
15%!
Social$Services!
62%!
43%!
14%!
18%!
Environment!
26%!
19%!
7%!
9%!
Development$&$Housing$
21%!
9%!
3%!
3%!
International!
59%!
17%!
14%!
10%!
Religion!
47%!
13%!
19%!
16%!
11%!
5%!
Other!
!
!
$
$
Number$of$donations$per$year$
Figure!1!shows!a!histogram!of!the!number!of!donations!individuals!made!per!year.!Since!th
histogram!had!a!long!tail!going!out!to!more!than!800!donations,!we!have!grouped!donation
Giving tax relief to the rich in good times
I
Even if tax breaks result in more collective goods in aggregate
and at a lower cost, the composition of provision is determined
by a rich minority
I
Might not be such a bad thing in good times. Why?
I
Argument is that the political system is biased ⇒ gives rise to
dictatorship of majority
I
But subsidising minority tastes offsets this bias ⇒ government
support of minority interests is ‘good’ for democracy
Giving tax relief to the rich in tough times
I
But in tough times, subsidising minority interests may not be
politically or economically affordable
I
Majority might not want tax breaks being used to subsidise pet
causes of the minority
I
Government might react by reorganising tax expenditures so
that they are restricted to majority interests
Is this a good idea?
I
It is naive to think that the government should stop subsidising
minority tastes in order to pursue the priorities of the majority
I
And this is not an ideological stance
I
Donors will respond by changing the composition of the causes
that they support
I
This might affect the budget in unintended ways
Shifting tax incentives away from minority tastes
I
Shifting tax incentives away from minority tastes ⇒ price of
giving increases for causes supported by minorities and
decreases for causes supported by majorities
I
Rich donors respond by redistributing their donations across
the causes that they support
I
Overall distributional effect will depend upon whether donor
thinks causes are complements or substitutes for one another,
and that depends on preferences of the rich
I
Use an example to illustrate
One charitable cause is a rescue centre for poodles
Rich support a different kind of rescue centre for poodles
What should government do?
I
Should we ban tax breaks on donations to this charity?
I
Maybe yes. Maybe no. It depends on compositional responses
Fancy hairdos for poodles and Cancer Research UK
I
Suppose big donors to Cancer Research UK are also poodle
owners who are keen on rescuing poodles and their fancy
hairdos
I
And who think of poodle hairdos and cancer research as being
complementary to each other (like shoes are to shoelaces . . . )
I
Then, if relief is chopped for donations to rescue centres for
poodles and their fancy hairdos, donations to Cancer Research
UK will also fall
I
This would not alleviate political pressure and might worsen
public finances
I
Government might want to subsidise fancy poodle hairdos,
even if they are a minority interest despised by the majority
The answer to Question 2?
I
Depends on the evidence, but there is almost none!
Discussion
I
Non-economists don’t really think about effects of responses
to policy
I
But not thinking about responses could lead policymakers to
come to completely wrong conclusions about policy and lead
them to develop completely silly policies
I
But other things matter too . . .
Technology choices and donor responses
I
I
Choices of technologies and how those interact with donors’
choices have implications for efficiency and public policy
Raises at least two more questions of importance
3 Are donors afraid of charities’ fixed costs?
4 In the presence of fixed costs, can the rich control the
charitable agenda?
Fixed costs
I
I
In economic terms, fixed costs are costs that do not scale up
with output
In accounting terms, they can be some kinds of administrative
costs or overhead costs or other costs associated with things
like
I
I
I
I
IT systems
Financial systems
Skills training
Salaries in some situations
Fixed costs and scale economies
I
Taking advantage of scale economies ⇒ fixed costs need to be
incurred, because that is how scale economies are exploited
I
This is justified only for a certain scale of operations,
otherwise the spend on the machine is wasted
I
Implications of fixed costs and scale economies for efficiency in
the private sector are very well understood and studied
Fixed costs and scale economies in the private sector
I
Fixed costs do not present a challenge for private firms: in
private markets, the most cost effective technology will win
I
For firms that use fixed cost technologies, goods can be
offered at a cheaper price ⇒ customers can be stolen from less
efficient firms, which are driven out of the marketplace
Fixed costs and scale economies in the non-profit sector
I
In the non-profit sector, even though charitable goods and
services cannot be ‘bought’ and ‘sold’ as they are in private
markets
I
But, in order to be cost effective, charities (of all sizes) must
incur fixed costs as their scale of operation increases
But does not seem to be what we see
I
This idea of cost effectiveness and fixed costs seems to present
special challenges to charities
I
And this seems very strange for economists who are mainly
concerned about efficiency
I
We see that charities seem to relate to fixed costs differently
than do private firms
Fixed costs seems to present special challenges for charities
I
Charities seem to worry about how fixed costs affect their
position and viability
“There’s an idea out there that a charity is good if it only
spends 20% on administration and fundraising and 80% on
program costs, and if you’re out of that approximate range,
somehow you’re bad or inefficient”
(Rosemary McCarney, Plan Canada)
Fixed costs seems to present special challenges for charities
I
There seems to be a perception in the non-profit sector that,
for some reason, donors do not want to pay for fixed costs
“. . . we believe that a highly efficient charity should be
spending just 15% on overhead, so we give our best score to
charities that spend 85% or more on programs . . . we give top
marks for fundraising organizations that flow 90% or more of
their expenditures to other charities, leaving just 10% for
overhead”
(Moneysense, Charity 100)
Challenges have implications for sectoral efficiency
I
They seem to imply that a ‘good’ charity has a small fraction
of fixed costs relative to variable costs
I
Fixed costs seem to be thought of as being wasteful
I
Variable costs seem to be interpreted as measuring actual
program activities
I
But this makes no sense from an economics point of view
For an economist . . .
I
It is like saying that research and development expenditures
that result in innovations are wasteful
Wasteful
Even more wasteful
The efficiency implications
I
If donors are reluctant to pay for fixed costs, and if this is the
situation that charities are faced with ⇒ no guarantee that the
most cost effective charities are selected by donors ⇒
inefficiency in the sector
I
If charities respond to concerns by adopting inefficient
strategies that avoid fixed costs ⇒ innovation slowdown in the
sector ⇒ inefficiency in the sector
I
⇒ there is an efficiency based economic rationale for
government intervention targeted towards fixed costs
Our research
I
We are researching this question and trying to understand
underlying mechanisms
I
Analytical findings are that analysis of performance of the
non-profit sector requires different economic tools than the
ones we use when analysing performance in the for-profit sector
I
Preliminary lab experiments suggest that donors do relate to
fixed costs in a peculiar way; and one reason for this is that
they think of provision that involves relatively large fixed costs
as being more ‘risky.’
How subjects relate to fixed costs in the lab
I
In situations where small groups of subjects have to choose
between two options involving fixed costs – a higher fixed cost
option which is more efficient and which payoff dominates –
for the same money, provision is higher – a less efficient lower
fixed cost option . . .
I
The efficient option is chosen only 63% of the time
Evidence points choices being driven by behavioural reasons
I
Our evidence suggests that subjects think of high-fixed cost
option as being ’riskier’ than low-fixed cost option ⇒ poor
coordination ⇒ subjects spread out between the two options
⇒ waste/inefficiency through duplication of fixed costs
I
Our evidence also suggests that this coordination induced
inefficiency is more serious, the bigger is the difference in fixed
costs between the two options
Lab results on performance with two contribution options
Conclusions from Question 3
I
This is academic research
I
This underpins more general analysis that studies the role that
technology plays in shaping donor coordination problems and
competition in the non-profit sector (e.g. contestability)
I
Our baseline analytical and empirical evidence suggests
(1) Donor responses to fixed costs do appear problematic
(2) They can cause serious inefficiencies in the sector and
innovation slowdown
I
Both results provide a rationale for corrective government
intervention systematically targeted to fixed costs; and have
important implications for fundraising and reporting of costs
What about Question 4 - In the presence of fixed costs, can
the rich control the charitable agenda?
I
Think about the coordinating role that large donors can play
I
In situations where you have different charities providing the
same services
I
Donors have to coordinate on something otherwise there is
waste
I
Large donors are naturally coordinated since they can put all of
their donations onto one thing
I
This can be an economically efficient because large donors can
trigger coordination by funding fixed costs, and then smaller
donors might coordinate around that ⇒ potential for efficiency
enhancing coordination on the ‘right’ provider
Issues
I
To the extent that there are different priorities and views
about the missions that charities should adopt, then large
donors might naturally use their advantage in ‘herding’
donations towards their own favourite cause, which might not
be the mission that smaller donors prefer
I
We have conducted experiments around this and have found
evidence that this happens
I
This is work in progress, but the agenda raises a number of
serious issues and there are a number of important
implications – including political economy implications
THANK YOU!!