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Too many people make their charitable donations backwards. Towards the end of the year, there is a renewed interest in contributions. That’s a shame. The benefits of charitable giving are often maximized when you think about giving early in the year and throughout the year. This way you maximize deductions and impact and you can integrate charitable giving with the rest of your financial, retirement and estate plans.
Writing a check to charity is the easiest way to give. But other giving strategies can generate multiple benefits.
Because the standard deduction was doubled in the 2017 tax law, a minority of taxpayers deduct expenses itemized on Schedule A, which means a minority of people receive tax benefits on their donations, especially s don’t plan early and often.
One strategy is to consolidate several years of planned charitable contributions into a single year. Then, your total itemized expenses may exceed the standard deduction, giving you an additional tax advantage on contributions.
One pooling strategy is to donate a few years of charitable contributions in a lump sum to a donor-advised fund (DAF). You get a tax deduction in the year of the contribution, but distribute the money to charities over time in any pattern you want. In the meantime, the contribution is invested tax-free in the DAF.
A contribution to a DAF does not have to be made in cash or by cheque. Many CFOs and charities will accept a wide range of assets. One of the best ways to make charitable donations is to donate valued investments, such as stocks, mutual funds, real estate, cryptocurrencies, and more.
A gift of appreciated investment property entitles you to a tax deduction equal to the fair market value of the property on the date of the gift. No capital gains tax is due on the appreciation that occurred while you owned the property. Donating a valued investment often yields more after-tax benefits than writing a check after separately selling the investment and paying taxes on the gain.
When looking for guaranteed lifetime income in addition to protecting investment gains and generating a tax deduction, there are two strategies to consider.
You can make a contribution to the charity in exchange for a charitable annuity. The annuity pays you an income for life or over several years, depending on your choice. You will receive a lower income payment than a commercial annuity, and the difference is donated to charity. The present value of the donation is deductible.
For example, a 65-year-old married couple and a 66-year-old married couple make a cash contribution of $100,000 to a charity in exchange for a charitable annuity. Lifetime payments must begin immediately.
They will receive a charitable donation deduction of $27,766 this year. Each year, they will be paid $3,900, regardless of their lifespan. For 24.5 years, $2,948 of the payments will be tax-free and only $951 will be taxed as ordinary income. After that, the full amount of each payment will be taxed as ordinary income. Details are subject to change monthly as interest rates change.
If the couple funds the annuity with a gift of appreciated investment property instead of cash, their gain will be taxed as part of the annuity payments prorated to their life expectancy.
Another donation that generates annual income is the charitable remainder trust.
Give money or appreciated property to the trust. The trust sells any property tax-free and reinvests the proceeds. You receive annual income from the trust for life or for a period of years, depending on your choice. Payments can be either a fixed amount (known as a charitable residual annuity trust) or a fixed percentage of the annual value of the trust (known as a charitable residual annuity trust).
After your death or the end of the income period, the charity receives whatever is left in the trust, called the residual interest.
Either way, you get an immediate tax deduction equal to the present value of the charity’s estimated residual interest. There is no current tax on the gain you have earned in the investment. Instead, a portion of each income payment will be taxed as a long-term capital gain for your life expectancy.
IRS regulations determine the tax deduction and define the parameters of the annual income that can be paid.
Traditional IRAs are a good way for some taxpayers to make charitable donations.
Anyone with a charitable bent and over the age of 70.5 should consider making qualified charitable distributions (QCDs) from a traditional IRA.
In a QCD, a donation is made directly from the IRA to a charity. You receive no deduction, but the distribution is not included in your gross income. Also, if you receive any Required Minimum Distributions (RMD), the contribution counts towards your RMD for the year. Thus, you receive credit for taking the RMD without it increasing your gross income. Details on CDQs are here.
A paid-up permanent life insurance policy that you no longer need may generate tax benefits if you donate the policy to charity.
When you transfer a policy with a paid-up value to a charity, you are entitled to a charitable donation deduction equal to the paid-up value. The charity itself will designate the beneficiary. Life insurance benefits will not be included in your estate and will benefit the charity.
When life insurance is not fully paid up, you can transfer ownership to the charity. You make contributions to the charity to pay the premiums. You are eligible for a charitable contribution deduction for the payment of premiums.
There are several ways to make charitable donations that generate tax deductions and potentially other benefits. Start planning early in the year, and you’ll not only benefit from charity, but increase your after-tax wealth.
