Mary Lago, CFP®, CTFA
Principal Wealth Management Chair
Our colleague, Mary Lago, CFP®, CTFA, recently wrote a piece for the Spokane Journal of Business. In it, she discusses how financial strategies can optimize charitable giving. Read Mary’s article below:
Financial strategies can optimize charitable giving
According to Giving USA, Americans contributed $466.23 billion to U.S. charities in 2021, and 67% of that—$326.87 billion—was given by individuals, not corporations.
It is wonderful to pause and consider the tremendous impact this magnitude of philanthropy has on our society, including empowering education, inspiring faith, alleviating human suffering, and advancing health care.
There are also tremendous tax benefits to be reaped for donors, with the greatest savings available to those who plan strategically. Charitable giving strategies range from a simple contribution of cash, to bunching contributions of appreciated securities through a donor-advised fund, and then more complex techniques, such as charitable trusts. There are many strategies along the giving spectrum, and often a combination of these options will prove most effective in fulfilling donors’ charitable intent as well as maximizing the tax benefits.
Before addressing the various strategies, it is important to understand eligibility and limitations for tax deductions. In general, charitable deductions are claimed as part of itemized deductions on Schedule A of the federal income tax return.
It only makes sense to itemize your tax deductions if the total of your deductions exceeds the standard deduction available to tax filers without the hassle of itemizing. For 2022, the standard deduction is $12,950 per individual or $25,900 for married couples filing jointly. Some individuals would not exceed this threshold through their charitable giving and other typical deductions, such as state and local taxes—currently capped at $10,000 annually—or interest on a qualifying mortgage. Strategies such as bunching their charitable contributions for multiple years into a single tax year could help exceed the threshold.
In addition to minimum itemized deductions, donors also are subject to maximum charitable contributions that can be claimed as a percentage of their adjusted gross income. Donors may be able to deduct charitable contributions of up to 60% of their AGI using a combination of case and long-term appreciated property, which has a 30% cap, so long as the support is for public charities. Reduced limits apply to other entities such as private foundations. To the degree contributions exceed these limits, the deduction may be carried forward for up to five additional years.
As part of a provision introduced with the CARES Act and now extended through 2025, filers may also claim an above-the-line deduction of $300 per individual without the need to itemize or exceed standard deductions.
With these parameters in mind, here is an overview of common charitable strategies:
Direct contributions of “cash” have the advantage of extreme simplicity. The donor may write a check, text a code, charge a card, or drop some change in the canister. For cash gifts to be eligible for a tax deduction, any contribution of $250 or more must be supported by records of the transaction meeting IRS requirements.
Contributions of appreciated assets, such as stock, held for more than one year may be particularly valuable as the donor is able to claim the full market value of the asset as a charitable deduction, while also avoiding the capital gains taxes otherwise due if the asset was sold by the individual prior to the contribution. Many charitable organizations have the capacity to receive gifts of appreciated assets, but donor-advised funds can help facilitate gifts, often simplifying the process for the donor and charitable organization.
Donor-advised funds are qualified charitable entities sponsored by an organization, such as Innovia Foundation, Idaho Community Foundation, or Schwab Charitable, in which the donor “advises” the fund administrator as to the desired charitable recipients and amounts. This release of control allows donors to deduct the gift at the time the donor-advised fund is funded, rather than when the funds are ultimately distributed to charities.
This ability to separate the tax deduction from the ultimate distribution allows donors to group several years of planned charitable giving into a single year, while maintaining annual support of their favorite charities. This strategy may move a taxpayer above the standard deduction threshold into the itemized deduction threshold to maximize tax deductibility. It may also be used in years in which a donor has significantly higher than normal taxable income.
Qualified charitable distributions, which are the direct contribution of funds from an individual retirement account to charity, may optimize tax and other benefits for donors who aren’t itemizing their deductions. This approach is most appropriate for those who are subject to required minimum distributions from IRAs and not dependent on the income. For those who aren’t itemizing deductions on their income tax returns and have the desire to support charities, qualified charitable distributions likely will be advantageous as the approach avoids the realization of income that is generally triggered by distributions from traditional non-Roth IRAs.
Qualified charitable distributions are limited to $100,000 per year, per IRA account owner and are only available to those over age 70 1/2. In addition, qualified charitable distributions may only be made to public charities and may not be made to foundations or donor-advised funds.
Charitable trusts can be very powerful tools for deferring gains, maximizing tax deductions, and even transferring wealth to future generations, but are more complex than many gifts.
Charitable remainder trusts are most appropriate for individuals with charitable intent—especially those planning an estate contribution—who would like to receive a stream of income for a period of time and leave the remaining balance to charity. For the agreement to leave the balance to charity, the individual receives a current income tax deduction for the calculated remainder value and also defers any gain realized on the sale of assets until the funds are received by the individual. This ability to defer gain has made charitable remainder trusts a popular choice for those selling highly appreciated assets such as real estate, business interests, and concentrated stock positions.
Charitable lead trusts pay the current income stream to charity and the balance to a named individual. These trusts are less common than charitable remainder trusts and are often used with the goal of limiting estate tax exposure.
With the relative flexibility and popularity of donor-advised-funds, private foundations are now used in more select circumstances. Maximum charitable deductions for contributions to private foundations are more restrictive at up to 30% of AGI (20% may be appreciated assets). In addition, there are significant costs, governance, and operational requirements for private foundations that require a specialized team of professionals to help manage the legal, tax, and investment nuances.
There are a number of factors that will impact the right approach for each donor, such as timing, complexity, cash flow, and ability to claim tax deductions. More often than not, a combination of approaches evaluated on an ongoing basis with a team of tax, legal, and financial advisers will lead to the most powerful results for both the community and the donor.