Tax-efficient charitable donations
There are several ways to assist charities you support. This includes providing goods, donating your time or contributing financially. While writing a check is the most common form of financial support, donating appreciated securities can provide charities the same value while maximizing the gift from an income tax standpoint. Separately, if you have reached the age of 70½, an alternative donation method to consider is a Qualified Charitable Distribution (QCD). This allows you to use up to $100,000 of your Required Minimum Distribution from your IRA each year and donate it directly to a charity, creating an above-the-line deduction.
Donor Advised Fund
The benefit of donating appreciated securities can be amplified using a Donor Advised Fund (DAF). When you sell an investment with unrealized gains, you create additional income to report on that year’s tax return. If, instead, you donate an appreciated investment directly to a charity, no capital gains are incurred on the transaction. The charity receives the same monetary benefit and you avoid the additional income tax.
DAFs are qualified charities that can receive your contribution of appreciated investments. Upon funding, the taxpayer receives a charitable deduction for the value of the investment contributed to be included on that year’s income tax return. The investment is then sold inside the DAF, which is why no capital gains are reported by the taxpayer. When you are ready, the DAF allows you to recommend grants to your desired charity, while providing flexibility on the amount and timing of the grant. This could include contributing to a DAF in one year, but ultimately recommending grants to other charities in future years.
The concept of “bunching” charitable donations for multiple years into a single calendar year is even more important in light of the new tax legislation implemented at the beginning of 2018. As part of this legislation, you may find yourself claiming the standard deduction, as opposed to itemizing, especially if you don’t have a mortgage. Because of this, your charitable contributions may not provide any tax benefit. Working with your JMG advisor to “bunch” charitable contributions can be a helpful way to reduce your income taxes while still satisfying your charitable desires. One stipulation to keep in mind is that you cannot use a DAF to satisfy a pledge. As long as you avoid a formal pledge, this is not an issue.
To summarize, the use of a DAF can provide you with the following benefits:
- Immediate tax savings – Since the DAF is a charitable organization, even if you are funding multiple years of donations, you still get the full charitable deduction in the year of contribution – not when the charity ultimately receives the funds. Funding multiple years of donations may be particularly valuable if you’re in a high-income tax bracket this year or find yourself claiming the standard deduction.
- Tax-free growth – The funds that remain in the DAF can be invested and any growth is tax-free. This will add to the funds available for charitable grants in the future.
- Capital gains avoidance – If you’re considering liquidating appreciated investments, first consider funding future charitable contributions through a DAF to avoid the capital gains tax. Even if you want to keep your appreciated investment, you can donate it to the DAF and use cash to buy back the investment, which can reduce future taxes on capital gains.
- Minimize reporting requirement – The IRS has become more stringent on the requirement for charitable contribution receipts. By making one donation to the DAF, you’re only required to report the DAF donation and won’t need to keep records for subsequent grants to charities from the DAF.
Qualified Charitable Distributions
If you’re over the age of 70½, you have the option of completing a QCD. Each taxpayer can use up to $100,000 of his IRA’s Required Minimum Distribution annually and donate it directly to charity. By donating the distribution directly to a charity, you do not report that income on your tax return. This is a great opportunity to receive a tax benefit for your charitable intentions, even if you don’t itemize your deductions.