Maximize Your Charitable Giving to Save Taxes

Giving generous gifts to causes you deeply care about can be immensely fulfilling. Knowing the ways to gift and donate effectively, however, can be even more rewarding. In this article, we will explore different approaches to gift-giving that not only enhance your tax savings, but also empower you to make a lasting difference. From making charitable donations to creating charitable trusts, we’ll aim to raise your awareness of the potential giving strategies available. By understanding these methods, you can ensure that your contributions not only make a difference, but also provide valuable financial benefits.

Donor-Advised Funds (DAFs)

A Donor-Advised Fund (DAF) is a charitable giving vehicle where donors contribute assets and can receive an immediate tax deduction. Afterwards, they can recommend grants to various charitable organizations over time.

1. Opening and funding of a DAF
   1. The donor opens a DAF account through a sponsoring organization such as Fidelity Charitable, Schwab Charitable, Renaissance Charitable Foundation, etc.
   2. The donor contributes assets such as cash, stocks, real estate, etc. to the DAF
2. How the DAF works
   1. The assets in the DAF are invested and can grow tax-free
   2. Donors can recommend grants to IRS-qualified public charities at their convenience
   3. Although the donor advises on grant distributions, the sponsoring organization has the final say to ensure compliance with the IRS regulations
   4. Donors can remain anonymous or be recognized
   5. Grants can be made immediately or over many years, offering flexibility
3. Tax benefits
   1. Immediate tax deduction: Donors receive an immediate tax deduction for the full amount of the contribution in the year it is made, subject to adjusted gross income limits. You’ll want to make sure this gift, plus other itemized deductions, are overall larger than the standard deduction to receive this benefit
   2. Avoids capital gains tax: Selling appreciated assets like stocks in the DAF do not incur the capital gains tax for the donor
   3. Tax-free growth of fund: Assets in the DAF grow tax-free, which can potentially increase the amount available for future grants
   4. Estate tax savings: Fund’s in the DAF are excluded from a donor’s estate

Private Foundation

A Private Foundation is a charitable organization typically established by an individual, family, or corporation, and primarily funded by its founders. It operates with significant control over its charitable activities and grantmaking.

1. Establishing and funding a private foundation
   1. Establishment: Create a legal entity (non-profit corporation or trust) and register with the IRS for tax-exempt status
   2. Funding: Contribute assets such as cash, stocks, or real estate
2. How the Private Foundation works
   1. Governance: Managed by a board of directors or trustees, often including family members
   2. Investment: Assets are invested to generate income for charitable activities; subject to a 5% annual distribution requirement
   3. Grantmaking: Makes grants to IRS-qualified charities and sometimes directly engages in charitable activities; has full control over grant decisions; grants can be public or anonymous
3. Tax benefits
   1. Tax deduction: Donors receive a tax deduction for contributions, subject to adjusted gross income limits
   2. Avoids capital gains tax: Like a DAF, selling appreciated assets do not incur capital gains taxes
   3. Tax-exempt: Income is generally tax-exempt, with compliance to IRS regulations
   4. Estate tax savings: Donations are excluded from a donor’s estate
4. Compliance and reporting
   1. Annual reporting: File Form 990-PF with the IRS, detailing financial activities and grants
   2. Regulatory compliance: Adhere to IRS rules on self-dealing, excess business holdings, and taxable expenditures
   3. Excise tax: Subject to a 1-2% excise tax on net investment income

Qualified Charitable Distributions (QCDs)

Qualified Charitable Distributions (QCDs) are direct transfers of funds from an IRA to a qualified charity. This strategy can help individuals manage their required minimum distributions (RMDs), while also supporting charitable causes.

1. Eligibility & mechanics
   70. The donor must be 70.5 years or older
   71. The QCD must come from a traditional IRA, although some inherited IRAs may also qualify
   72. The donor transfers a desired amount from their IRA to the qualified charity (up to $105,000 in 2024 and is adjusted annually for inflation)
   73. The distribution must be made directly to the charity to qualify as a QCD
2. Tax benefits
   1. Tax-Free Transfer: The donated amount is not recognized as income on the donor’s tax return
   2. Required Minimum Distribution (RMD) Fulfillment: QCDs count towards an individual’s annual RMD

Charitable Remainder Trusts (CRTs)

A Charitable Remainder Trust (CRT) is an irrevocable trust that provides income to the donor or beneficiaries for a period of time, with the remainder interest passing to one or more charities.

1. Types
   1. Charitable Remainder Annuity Trust (CRAT): Pays a fixed amount to beneficiaries (Ex: $5,000 annually)
   2. Charitable Remainder Unitrust (CRUT): Pays a percentage of the trust’s assets, revalued annually, to the beneficiaries (Ex: 5% annually, revalued based on previous year’s 12/31 value)
2. Setup & operation
   1. The donor creates and transfers assets into the CRT and receives an immediate partial tax deduction
   2. Gift taxes are applicable when beneficiaries are considered non-spousal
3. Payouts & term
   1. Beneficiaries receive income for a specified term (up to 20 years) or for the life of one or more individuals
   2. At the end of the term or upon the death of the last beneficiary, the remaining assets go to the designated charities
4. Tax benefits
   1. Partial Tax Deduction: The donor receives an immediate partial tax deduction based on the calculated present value of the remainder interest going to charity
   2. Tax-Exempt Investment Income: Investment income earned in a CRT is exempt from tax. It is not until the income stream is received that the beneficiary will have to pay income tax
   3. Capital gains tax avoidance: When selling donated appreciated assets like stocks, the donor will avoid paying capital gains tax
   4. Payments received by the beneficiaries will be taxed as distributions of the trust’s income and gains during the year in the following order: ordinary income, capital gains, other income (i.e., tax-exempt income) and principal (not subject to tax)
   5. Estate tax savings: CRTs are irrevocable trusts, which means they cannot be modified or adjusted without permission from the beneficiaries. Because of this, the donor is able to remove this asset from inclusion in their estate, avoiding probate and estate taxes

Charitable Lead Trust (CLTs)

A Charitable Lead Trust (CLT) is an irrevocable trust designed to provide income to a charity for a period of time, with the remainder interest eventually passing to a non-charitable beneficiary, such as a family member.

1. Types
   1. Charitable Lead Annuity Trust (CLAT): Pays a fixed amount to a charity (Ex: $5,000 annually)
   2. Charitable Lead Unitrust (CLUT): Pays a percentage of the trust’s assets, revalued annually, to the charity (Ex: 5% annually, revalued based on previous year’s 12/31 value)
2. Setup & operation
   1. The donor creates the CLT and contributes assets to it
   2. The trust pays the charity an annual amount (either fixed or variable) for the duration of the trust term
3. Term & remainder
   1. The trust term can be a specified number of years (not limited to 20 years like a CRT) or based on the lifetime of individuals
   2. After the trust term ends, the remaining assets are distributed to the non-charitable beneficiaries
4. Tax implications
   1. Grantor CLT: The donor may receive an immediate income tax deduction for the present value of the payment to charity, but must include the trust income on their personal tax return
   2. Non-Grantor CLT: The trust itself receives a deduction for the charitable payments, and the donor receives gift/estate tax benefits as the assets are removed from the donor’s estate, but there is no immediate tax deduction, and any investment earnings are taxed to the trust

Conclusion

Each of these gifting options offer unique advantages and considerations for charitable giving. Understanding these vehicles helps donors align their philanthropic goals with their financial and tax planning strategies. Whether seeking flexibility, immediate tax benefits, income streams, or estate planning advantages, these tools provide diverse pathways to support charitable causes while optimizing tax outcomes. Consulting with financial advisors and tax professionals is crucial for navigating these options effectively.

In summary, giving generously and strategically managing your taxes are not mutually exclusive endeavors. By exploring various methods of charitable contributions and understanding the associated tax benefits, you can make a significant impact while also optimizing your financial situation.

Whether it’s through direct donations, planned giving, or investment strategies, being informed about the intersection of philanthropy and tax savings empowers you to give more effectively. Ultimately, with thoughtful planning and a clear understanding of tax advantages, you can enhance the benefits of your generosity for both the recipients and you. At AFM, we are happy to discuss these topics and to assist in their implementation.

Presented by Lucas Campbell