Tax Considerations and Maximizing the Impact of your Gifts
By Elizabeth A. Brown
While taking care of your family is the first priority for estate planning, many individuals with adult children wonder, “How much is enough?” and “How much is too much?” As attorneys, many of us have lived a life of service to our communities, served on the board of nonprofits, and have made deliberate efforts to give back to our community. Dedicating a portion of your remaining wealth to charitable giving is one way to continue giving back, even after death. You do not need to donate multimillion-dollar gifts to make an impact. There are many ways to integrate charitable giving into your estate plan, some of which have favorable tax advantages now, and others have future tax advantages.
Here are some options you may wish to discuss with your estate planner:
Grouping Charitable Gifts: Tax reform legislation that went into effect in 2018 provided a significant increase in the standard deductions and eliminated many personal deductions. As a result, fewer individuals itemize these tax deductions.
The elimination of personal deductions removes an incentive to make annual gifts to charity. However, with some advanced planning, you can make charitable gifts now and reduce your current income tax bill. If, for example, you would like to make a charitable donation, but do not have sufficient itemized deductions to exceed the increased standard deduction, you may want to group your charitable deduction by making one large gift during a single year equal to the total donations you would generally spread out over several years. The advantage of grouping the gift is that you can itemize the year that you make the large gift (charitable donations are tax deductible up to 50% of your adjusted gross income) and then take the standard deduction in future years.
Donor-Advised Fund: An advanced spin on the idea of grouping charitable gifts, is using donor-advised funds to benefit from making one large tax-deductible gift in year one and then making distributions over time. Rather than making gifts directly to charities, you can contribute assets to a donor-advised fund and from which you will make grants to the desired charity or charities. Donor-advised funds are ideal for those who may not be able to itemize on an annual basis. You can make a larger donation or transfer assets or equities to a donor-advised fund, itemize the year that you make the large gift, but delay distributions to subsequent years. Also, with donor-advised funds, you can take advantage of the income tax deduction, even if you, as the donor, have not determined which charity will benefit. This strategy can be combined with other strategies such as donating appreciated assets which will allow you to increase your tax savings by giving appreciated securities to a donor-advised fund.
Transferring Appreciated Assets: If you own highly-appreciated assets, donating these assets rather than cash may yield a greater tax benefit, since you can deduct the full value of the securities (if held more than one year) without paying capital gains on the appreciation. Likewise, if you donate to a tax-exempt charitable organization, the organization will not pay the capital gains taxes.
Donations from IRA Accounts: If you have reached the age of 72½ and are required to take required minimum distributions (RMDs), a logical charitable gift is to transfer from the IRA in a qualified charitable distribution (QCD), or make an “IRA charitable rollover.” Donors may transfer up to $100,000 per year from an IRA directly to a charity and have it count toward the required RMD. The benefit of transferring the RMD directly to the charity is that the RMD is not taxable income to the donor. Since the income is not taxable to the donor, the distribution is not deductible, and, as a result, you do not need to itemize deductions to benefit from this income tax-saving strategy. To take advantage of this strategy, you can request a checking account for the IRA that will allow you to make donations directly from the retirement account.
Charitable Trusts: Charitable trusts can have many tax incentives and financial benefits for those who have assets that they do not need to live on or wish to pass down to future generations. There are two primary types of charitable trusts: charitable leads trusts and charitable remainder trusts. While both types of trusts allow a donor to select a charity to benefit from the trust’s assets, the trusts serve different needs.
Charitable lead trust: A charitable lead trust distributes a portion of the trust assets to one or more charities during the term of the trust, and then subsequently distributes the remaining assets to beneficiaries. There are two types of CLTs: 1) a charitable lead annuity trust (CLAT), which makes annual payments to charity equal to a fixed dollar amount or a fixed percentage of the trust assets’ initial value, and 2) a charitable lead unitrust (CLUT), which pays out a set percentage of the trust assets’ value, recalculated annually. CLATs are attractive when interest rates are low. A charity’s interest is equal to the total payments it will receive over the trust term, discounted to present value using the Section 7520 rate, a conservative interest rate set monthly by the IRS. If the trust assets outperform the 7520 rate, your beneficiaries will receive assets beyond the taxable gift that is reported when the trust was established.
Charitable remainder trust: This type of trust is an irrevocable transfer of cash or property. The trust then distributes a portion of income or principal to the creator of the trust. When the trust terminates, the charity receives the remaining assets. A charitable remainder trust allows you to give to the trust and get a partial tax deduction. At the end of the specified lifetime, the remaining assets must be distributed to the charity. You or someone you name will have an income stream for up to 20 years or for the life of one or more beneficiaries. At the close of the trust, one or more of your named charities receive the remainder of the donated assets. You will not pay estate taxes on the property when you die because it is deemed the charity’s property. Further, the charity is not subject to capital gains taxes – so if the charity sells the assets, neither you nor the charity will pay capital gains taxes.
If you are interested in learning more about how to maximize charitable giving, contact a qualified estate planning attorney who can assist you with implementing these strategies.
Elizabeth Brown is an attorney with Pierce Atwood. She has more than 20 years of experience representing individuals and businesses in estate planning, business succession planning, business formations, commercial transactions and corporate governance issues. Click here to visit Elizabeth’s full bio.