Leanne Fryer Broyles, Esq.

Part I

Everyone has their own personal reasons for charitable giving, whether it be sharing with those less fortunate, supporting an alma mater, or assisting a deserving cause or an organization that means something to them.

Regardless of your charitable motives, before making a substantial gift or bequest to a charity, you should always consult your financial advisors. They can help you optimize your charitable gift or bequest by advising you on the “WHAT” and the “HOW” aspects of the planned gift. While achieving your charitable goals, your advisors can ensure that you receive the best possible tax benefit from your generosity, and that your giving plan suits your non-charitable financial needs and goals.

The WHAT

Believe it or not, some assets are better to give to charity than others. This is because they have differing tax attributes. If you are planning to give a portion of your estate to charitable beneficiaries and a portion to non-charitable beneficiaries, both you and your non-charitable beneficiaries can reap huge benefits from a well-thought-out charitable plan. Specifically, traditional IRAs and low-basis capital assets (like appreciated stock) make great types of assets for charitable giving. See the below examples for an explanation of why.

Traditional IRAs: Traditional IRAs are generally a great asset to leave to charity at death. Why? When individuals inherit IRAs they must pay income tax at ordinary rates upon withdrawn funds. The inherited IRA is therefore in a way worth less to an individual beneficiary than its fair market value. This is especially true if the individual is in a high tax bracket and subject to a 39.6% federal income tax on the withdrawal. A charity on the other hand is tax exempt and can withdraw the funds tax free.

For example, given a $2 million estate, half of which is a traditional IRA, and where there are charitable and non-charitable beneficiaries, leaving the $1,000,000 IRA to the charity and the $1,000,000 non-IRA assets to the non-charitable beneficiaries results in the non-charitable beneficiary receiving substantially more benefits than if the decedent left the IRA to the heirs and the other assets to the charity. If the non-charitable beneficiaries were in a top tax bracket, to utilize the IRA they would need to pay tax of nearly $400,000, leaving only $600,000 for their use. The charity receives $1,000,000 no matter the source of the assets. In this example, by leaving the $1,000,000 IRA to the charity instead of the individual, you create more to go around for your beneficiaries!

Low-Basis Capital Assets: Similarly, if you are considering making a lifetime gift, it’s often advisable to use capital assets in which you have a low basis and that you’ve held for at least a year, rather than cash. This is because the assets are worth more to the charity than to you (again, because they aren’t subject to capital gain tax upon selling the asset), and you receive an income tax deduction based on the fair market value of the gift. It is generally better to donate appreciated assets than cash to charities, and nearly always preferable to donate the stock rather than sell and donate the proceeds. See the below example for why.

For example, if you are a top tax bracket taxpayer making a donation this year and are choosing between giving $500 cash or $600 in appreciated securities in which you have a $100 basis, making a gift of the appreciated securities produces a better result all around from a tax perspective. If you were to sell the appreciated securities for liquidity, you would be required to recognize a taxable capital gain, barring an exemption. This would produce a capital gain tax of 20% on the $500 gain ($100, plus state and local tax and the net investment income tax). Therefore, while the assets are worth a full $600 to the charity, they are worth less than $500 to you because of the tax consequences of liquidating them. Because you can deduct the fair market value of donated assets to a charity ($600 for the stock, and $500 for the cash) you would also get a bigger deduction by donating the stock.

The HOW

No less important than the WHAT, your CPA, financial advisor, or estate planning attorney can advise you as to how to leave your charitable legacy. Outside of giving a gift or bequest outright to a charity, there are other options worthy of consideration depending on the size of your donation and your income and estate tax planning needs. Donor Advised Funds, Private Foundations, Charitable Lead Trusts, and Charitable Remainder Trusts are all possible options if you are planning to leave a substantial amount to the charity. Which method is optimal for you depends on your personal situation. Each method of gifting carries with it its own rules for income tax deductions (how much and when), facilitates a different degree of control over the assets and beneficiaries, and may offer a retained stream of income. Stay tuned for Part II of this post next month for a discussion of Charitable Remainder Trusts.