The task of being a good steward is always top of mind for me. It’s an honor to have the opportunity to help our clients make good decisions with their money.
Over the years, I’ve had the privilege of working with some very successful people. But what’s even more rewarding is to work with generous people who have a desire to give back. For some, the primary focus is on passing their wealth down to their children and then on to their children’s children. And for others, there is more of a charitable focus. Today, I’d like to focus on the latter.
Many of our clients are already contributing to charity in some way. Over the years I’ve noticed that many people make on-going cash contributions to a church or favorite charity. While these cash contributions may be partially tax-deductible, there may be a more impactful and more tax-efficient way to give. Before making a charitable contribution this year, consider the following:
Qualified Charitable Contributions (QCD)
If you’re an IRA owner over the age of 70 ½, you can make a tax-free Qualified Charitable Contribution (QCD) of up to $100,000 from your IRA. A QCD can be particularly useful for those who do not itemize their taxes.
This is a great way for those who take the standard deduction to benefit from a charitable contribution. It’s typically more tax-advantaged to make a QCD from your IRA, than making a cash contribution to a charity. The QCD also counts towards satisfying your Required Minimum Distribution, so long as the funds come out before the 12/31 deadline.
Just be advised that private foundations and donor advised funds do not qualify as eligible recipients.
Donor Advised Funds (DAF)
A donor-advised fund is essentially a giving account that can be setup at most custodians like Charles Schwab & Co., Fidelity, etc. Donors can contribute cash, appreciated stock, real estate, or even an interest in privately owned businesses.
DAFs are very cost-effective and can offer better tax advantages than private foundations. But what I like the most about a DAF is its simplicity. They’re very easy to establish and administer with no need for a board of directors. Donors can make contributions to multiple qualified charities and the custodian takes care of all administrative requirements.
Unfortunately, the lifespan of a DAF is limited to the original donor’s lifetime or the two succeeding generations. Donors are also limited to qualifying charities. Most foundations are not considered to be a qualified charity; however, a foundation is permitted to contribute to, or fully convert to a DAF.
Our clients typically contribute highly appreciated stock to DAFs to shelter the capital gain. Once the stock is in the DAF, the shares can either be held long term or sold tax-free. The donor can then contribute the proceeds to any qualifying 501C(3) organization on the day of his choosing. The tax deduction for stock with a long-term capital gain is limited 30% of AGI (compared to 20% for a private foundation).
Private Foundations are a bit more complex but can also offer some compelling advantages. For instance, a foundation can play a key role in generational planning for higher net worth families (typically funded with a least $5 Mill). They’re often setup in perpetuity, providing family members an opportunity to serve on the board to collaborate and do something positive for generations to come.
In my opinion, the long-term control and family collaboration are the most attractive aspects of a private foundation. And unlike Donor Advised Funds, a foundation can be used for scholarships, individual grants for travel or study, and can engage in direct charitable activities. You can even pay family members as foundation employees.
Unfortunately, private foundations can be costly and administratively cumbersome. The IRS also requires a 5% payout rate – meaning the foundation must distribute at least 5% of their net investment assets each year.
A private foundation can be great for someone looking to maintain a high level of control and flexibility. They’re typically associated with larger-scale gifts. Those who choose to start a private foundation typically contribute highly appreciated stock or private equity to their foundation to shelter the capital gain.
Once the stock is held within the foundation, it can be held for future growth & income. Or it can be sold tax-free and then managed by the appointed board. The tax deduction for stock with a long-term capital gain is limited to 20% of AGI (compared to 30% for a DAF).
Charitable Trusts (CRT, CLT, etc.)
Charitable trusts fall into two basic camps, depending on when you want the donations to go to the charity: Charitable Lead Trusts (CLT) and Charitable Remainder Trusts (CRT).
- Charitable lead trusts can be a great option for those who would like to create a stream of income to a charity for a set period of time, but then leave the principal to their heirs.
- Charitable remainder trusts do the exact opposite of a CLT. CRT’s provide a stream of income to the donor while living, and the remainder is then left to the charity at the donor’s passing.
Charitable trusts come in all shapes and sizes. There are several different variations of CLTs and CRTs so it’s important to visit with your estate planning attorney to find the trust that best fits your needs. Charitable trusts are irrevocable, so once you transfer your assets into the trust you no longer own them.
When it comes to charitable giving, the available options can seem daunting. If you’d like to discuss the options in greater detail, feel free to reach out to your financial advisor. If you’d like us to recommend an attorney that specializes in charitable giving, we can do that too. We partner with the best professionals in the industry. We look forward to hearing from you!
Sources: schwab.com, fidelity.com, & fppathfinder.com