It’s That Time Of Year For Being Charitable In Your Giving
By: Randall A. Denha, J.D., LL.M.
For many, charitable giving is a way of life. Whether it is to support an organization that has touched your life in a meaningful way, a school or university that put you on the road to success, or simply a cause that you feel passionate about, charitable giving not only offers emotional benefits, but practical ones as well. You have the ability to change the world, or at the very least, your little corner of it.
For motivated donors, one question is how much to give throughout your lifetime and what to leave as charitable gifts in your will or trust. Charitable gift planning can be a simple process. For example, you can write a check, hand over cash, transfer stock or sign a quit-claim deed to real estate directly to the charity of your choosing. On the other hand, there are more involved strategies whereby you can give and receive depending on your unique circumstances.
For those who are not concerned about the use of the assets during their lifetime – for care, or enjoyment – a charitable gift may be a regular occurrence. Others may choose to pass on assets after their death, in addition to, or sometimes in place of, passing on assets to family members.
Charitable giving not only benefits those in need, but also brings you and your family personal satisfaction. Good deeds endure long after financial benefits are realized. The top reasons why people give are:
- Because they are asked
- Compassion for those in need
- Personally believe in the cause
- Affected by the cause
- Give back to the community
There are many different techniques that can be used to give to charity, some easy and others more involved. The following is an overview of popular techniques which should be considered.
- Direct Gifts Made During Lifetime
A direct gift made during one’s lifetime is simply an outright donation to charity. Upon transfer, the recipient becomes the owner of the gifted property and is able to immediately benefit from it. In addition, to being able to enjoy the act of gifting, the donor may recognize an immediate income tax deduction for a portion, if not all, of the fair market value of the property. Additionally, direct gifts can be used to avoid estate taxation on the donated assets and also reduce the donor’s income tax liability. The main drawback to direct gifts made during a donor’s lifetime is that donor will be unable to use the property or derive income from it after the time of transfer.
- Direct Gifts Made at Death
Similar to a direct gift made during one’s lifetime, a direct gift at death is the outright donation of property to a charity, with the main difference being the timing of the transfer. While this type of gift is similar to direct gifts made during one’s lifetime in its tax implications, it has the potential to provide two significant additional benefits: the donor is able to make use of the property during lifetime and the donation can be revocable until death. Therefore, this technique may be attractive to donors who require the use of their property throughout their life for personally enjoyment or financial benefit or to donors who may want to change the size or recipient of their gift in the future. A significant downside is that the donor will not be able to see the positive effects of their gifting during their lifetime, since the transfers would not be made until the donor’s death.
- Charitable Gift Annuity
Another useful option in charitable giving is a charitable gift annuity. A charitable gift annuity is crafted such that the donor transfers the gift to the charity and the charity pays the donor a lifetime annuity for an agreed upon amount. The primary advantage of this technique is that the donor continues to receive an income stream from the gifted assets even after the donation. The income stream can even be extended beyond the donor’s life with proper structuring. Yet, even though the donor is still receiving income from the asset, they also receive a current income tax deduction for the difference between the amount gifted and the value of the annuity to the donor. Further, this technique can serve as a means of transferring low basis assets, while avoiding recognition of capital gains, and decreasing estate tax liability.
The benefits of this technique notwithstanding, a charitable gift annuity is not the perfect fit for everyone. Once a transfer is made, the charity becomes the owner of the property. As a result, the donor loses the ability to direct management of the assets, and the charity, not the donor’s heirs, will continue to hold title to the property after the donor’s death.
- Charitable Lead Trust
A charitable lead trust can serve as a good alternative to a charitable gift annuity. Specifically, a charitable lead trust is structured such that the donor irrevocably transfers assets into a trust which makes annual payments to a public charity for a term of years. Once the term has expired, the remaining assets are distributed to the donor’s named heirs. The primary advantage of this technique is that a donor is able to retain the ability to distribute this property to their heirs. Additionally, any appreciation in the assets value post-transfer will escape estate taxation. In some instances, the donor will receive an income tax deduction, but not all. Since this trust is not tax exempt, there are ways to structure this trust to allow the donor to obtain an income tax charitable deduction equal to the value of the charitable lead interest upon creation of the trust,
While a charitable lead trust is always a viable option, it can be particularly advantageous in low interest rate environments. As the federal interest rate declines, a charitable lead trust produces a greater charitable deduction and a lower taxable gift.
- Donor Advised Fund
Donor-advised funds (“DAF”) offer many of the benefits of a private foundation (outlined below) without the headaches. Some of the advantages are that it allows you, as the donor, to receive an immediate tax deduction for the full amount of your charitable donation, invest the principal free of taxes and distribute funds to charities that you and your successors care about most over time. Establishing an account in a DAF can be arranged at most major brokerage firms, as well as through community foundations and single-issue charity sponsors. The initial amount needed to open a DAF account and the required future minimum additions and charity gifts varies based on the specific sponsor. Other than your donation into the fund, the detailed substantiation paperwork for your gifts to underlying charities is eliminated. A DAF provides you the paperwork or website access to support your additions as well as research links for 501(c)(3) charities that you may choose to support.
Under the new 2018 tax law, you may benefit by contributing to a DAF in alternating years to assure that you can itemize deductions. As long as you itemize deductions on your income tax return, you can write off the amount you contribute to your DAF account as a charitable contribution for that same year. Be aware that a donor cannot receive any personal benefit (i.e., goods and services), such as a charity dinner or ticket, in exchange for a donation from a DAF. Once funds go into a DAF, they cannot be retracted for or by the donor — the charitable gift is irrevocable.
In a donor advised fund, the donor gifts assets to a fund in one or more installments and then the fund distributes those assets gradually to public charities at the direction of the donor. Neither the donor nor the donor’s heirs retain rights to the donated property in the future. This structure offers a number of potential benefits. From a personal perspective, a donor advised fund allows the donor to avoid responsibility for the administration of the fund and investment of the assets within it. And as far as taxation is concerned, the tax attributes are particularly beneficial: the donor will receive a current income tax deduction for the fair market value of the property donated (though this may be limited in certain circumstances), the donated assets avoid estate taxation, and the donor can transfer any low basis assets without recognition of capital gains.
However, with a donor advised fund, a donor will have only limited control of fund management and administration, which may not be preferable for some donors who would like to be more involved in the fund’s activities. Additionally, this technique only allows donations to public charities and not private foundations.
- Private Foundation
Aside from direct gifts during life or at death, the private foundation may be the most widely recognized charitable giving technique. And this is for good reason: the primary goal of many donors in choosing to exercise this option is to leave a lasting legacy. A private foundation is structured such that the donor creates the foundation and permanently transfers assets to it during their lifetime and/or upon death. A trustee or manager is then appointed to the foundation and is required to distribute the assets over time to chosen charities. As noted, one of the largest benefits that this technique offers is the ability to create a family-name legacy for perpetuity. Additionally, a private foundation does offer the donor and the donor’s family the ability to stay involved in the management and distribution of the assets. As for the tax benefits, the donor will receive a current income tax deduction for the basis of the assets that are transferred, the donated assets will avoid estate taxation, and the donor can transfer low basis assets without recognition of capital gains.
While these are all important tax benefits, the fact that the donor receives an immediate income deduction for the basis of the transferred assets, as opposed to the fair market value, will decrease the income tax benefits for donors. In a similar vein, private foundations are rather expensive enterprises. They are more expensive to create and maintain than a donor advised fund and, because of the minimum annual distribution, the donor must ensure that there are enough assets in the foundation, or risk premature termination. Therefore, though not every donor need be as wealthy as Bill and Melinda Gates, the creation of a private foundation is a significant financial undertaking.
- Charitable Remainder Trust
Another technique, the charitable remainder trust, is the reverse of charitable lead trust in terms of beneficiary distributions. Instead of creating a trust that makes payments to a charity for a set period of time, with the remainder of the assets passing to the donor’s heirs, a charitable remainder trust makes payments to the donor or their heirs until the death of the last income beneficiary. Upon the death of the last income beneficiary, the remaining assets are transferred to the named charity.
Aside from the lifetime income that the donor and their family will receive from the trust, one of the most useful attributes of a charitable remainder trust is the flexibility that it provides. Although the donor’s transfer to the trust is irrevocable, a charitable remainder trust reserves for the donor the right to change the charitable beneficiaries. This flexibility is not always present with other charitable gifting techniques. The donor also receives favorable tax treatment in the form of an income tax deduction for the value of the remainder interest in the year of the transfer, the donor can transfer low basis assets without recognition of capital gains, and the donor does not pay an estate tax on the property passing to charity.
