By Brandi Graham, CFP®, CTFA
With increased standard deductions, more taxpayers are finding they are no longer able to deduct cash contributions to charities on their tax returns. Are you looking for smarter ways to maximize your charitable gifts while minimizing taxes? Read on for some strategic methods to give more effectively.
DON’T WRITE A CHECK – Gift Appreciated stocks
When you donate appreciated stock, you do not pay capital gains tax and you are able to deduct the fair market value of the stock on the date of the gift if you itemize your deductions, up to the amount allowed by the IRS. Even if you cannot itemize your deductions on your tax return, you can still get a tax benefit by gifting appreciated stocks to charities. In general, if you were to sell your long-term appreciated stock and then made a cash donation, you would have to report capital gain income on your income tax return and pay capital gains tax. However, if you donate the stock directly to a charity, there is no capital gains tax to pay. The long-term capital gains tax rate is 15% for most and 20% for those in the highest tax brackets. An additional 3.8% Medicare surtax may be due in some cases. You can maximize the amount that goes to charity by as much as 23.8%. By gifting appreciated securities, you can maximize your philanthropic goals and minimize your income taxes.
Not sure how to go about gifting securities to your charity? Your financial advisor will be able to assist in processing the gift.
Bunching Charitable Donations
Bunching your charitable donations is a very good strategy for reducing income taxes. It works by making two or more years of charitable donations in one year and skipping the next year. If you make your regular contributions at the beginning of the tax year and make your contributions for the following year prior to the end of the current year, depending on your level of giving, you may be able to itemize these deductions every other year to receive a tax benefit. Charities generally plan their budgets based on prior year giving. If you double up on your charitable giving, you might want to let the charity know that you will not be contributing in the following year.
Bonus: Combine bunching with gifting appreciated stocks. You increase the likelihood you can itemize and deduct your charitable contributions AND you get to deduct the market value of the appreciated stock without having to pay any capital gain tax.
Donor Advised Funds
A Donor Advised Fund (DAF) is a charitable giving account administered by a public charity. Companies like Schwab, Vanguard, Morgan Stanley and Fidelity have established charitable entities to administer DAFs for individuals. The donor makes irrevocable tax-deductible contributions into the fund. The donor receives an immediate tax benefit and the invested balance grows tax-free. The donor then recommends grants (donations) to charities that the administrator then makes from the DAF over time. Bunching contributions and donating appreciated securities to a DAF enables the donor to maximize tax deductions. Since the investment growth is tax free, the donor is able to maximize the amount going to charity. A DAF provides flexibility to make large contributions into the fund and make designated grants to individual charities over time. Fees and minimum balances vary. Your Financial Advisor can help you find a DAF that meets your needs.
Private Family Foundations
A Family Foundation is a nonprofit organization that is exempt from tax under section 501(c) (3) of the IRS tax code. Similar to a DAF, you receive tax benefits when you contribute to the foundation. However, rather than a third party handling the administration of the foundation, family members serve as trustees or directors and participate in grant making. Managing the foundation can create a sense of family unity and instill philanthropic community involvement with younger generations. Family Foundations are subject to complex tax regulations. Talk with your Financial Advisor or Tax Consultant before you create a Family Foundation.
Charitable Remainder Trusts and Charitable Lead Trusts
Individuals that want an immediate tax benefit but have a need for a steady income stream may benefit from a Charitable Remainder Trust (CRT). A CRT is an irrevocable trust that generates income for the creator or their designated beneficiaries with the remainder going to one or more charities. The income can be either a fixed percentage of the value of the trust or a fixed dollar amount.
A Charitable Lead Trust is a sophisticated tax-planning vehicle. Similar to a Charitable Remainder Trust except the charity is the recipient of the current income stream with the remainder going to the individual’s named beneficiary.
Irrevocable Trusts are sophisticated planning tools that may require legal advice. Consult your Financial Advisor and Attorney if you are considering one of these vehicles.
Tax Deferred Retirement Account Beneficiary Designations to Charities
Not only is this an easy and effective way to give, it does not require an attorney and it is flexible. You can change and adjust your beneficiary designations at any time. If you are considering leaving a charitable gift, designating your retirement account or a portion of it may prove to be a tax efficient strategy. Changes to inherited IRA distribution rules under the “Setting Every Community Up For Retirement Enhancement (SECURE) Act,” have eliminated the “stretch” provision for most non-spouse beneficiaries. Under the old rules, a non-spouse beneficiary was able to take annual required distributions over the beneficiary’s lifetime. The younger the chosen beneficiary, the longer the retirement account could grow tax deferred. However, under the new rules, most non-spouse beneficiaries will be required to withdraw the entire account balance within 10 years of the account owner’s death. Charities, Estates, and some Trusts must withdraw the entire balance within 5 years. For a tax deferred retirement account, this could create a significant tax burden for the beneficiary. It may make more sense to name a tax-exempt charity on the retirement account and leave other non-taxable assets to the non-charitable beneficiary. Additionally, you can name multiple charitable and non-charitable beneficiaries on a retirement account.
Beneficiary designations are not restricted to retirement plans and life insurance policies. Another simple and effective way to give is by placing a payable on death (POD) designation on your bank account or transfer on death (TOD) designation on your investment account. During your lifetime, the designated beneficiary has no right to the account or need to have knowledge of the account. You can change the designated beneficiary at any time and you can name as many beneficiaries as you wish. When you designate a beneficiary on your accounts, you by-pass the probate process which is when your Last Will and Testament is used to determine who receives your assets. Your executor will not need to take any action on accounts with a beneficiary designation.
Qualified Charitable Distributions from your IRA
If you already make gifts to charity and are required to take a required minimum distribution (RMD) from your individual retirement account (IRA), you may be able to reduce your Medicare premium.
Most people will pay $148.50 per month for Medicare part B in 2021. However, if your income is over $88,000 for single filers and $176,000 for joint returns, you will pay more for the same coverage. The “Income Related Monthly Adjustment Amount” (IRMAA) is added to the basic Medicare premium based on modified adjusted gross income (MAGI) reported on your tax return from two years prior. The 2021 IRMAA calculation uses MAGI from tax year 2019. If you are single and your 2019 MAGI was between $88,000 and $111,000, your Medicare premium in 2021 will be $207.90 per month. In addition, you will pay an IRMAA of $12.30 per month in addition to your Medicare part D (prescription plan) premium. That is an additional $71.70 per month, $860.40 for the year more for the same coverage. The IRMAA increases even more if you have higher MAGI.
If you can reduce your MAGI below the bracketed amount, you could reduce or even eliminate your Medicare IRMAA. A very simple way to reduce your MAGI while also contributing to your preferred charity is to give directly from your individual retirement account via a Qualified Charitable Distribution.
Instead of withdrawing your RMD and writing a check to charity, you can complete a Qualified Charitable Distribution (QCD). To make a QCD, your IRA distribution check is made payable to your chosen charity instead of to you. All or a portion of your RMD will by-pass you and go directly to your charity. By electing a QCD, the RMD will not be included in your taxable income, thereby, reducing your MAGI and potentially your Medicare costs. By making the payment directly to the charity, it is excluded from your taxable income altogether. If you were to take your RMD in cash and then write a check to charity, you would take the charitable deduction on schedule A, (if you can itemize deductions) but the RMD would be included in your MAGI and potentially subjecting you to the additional IRMAA premium. How much you pay for Medicare and additional costs for part D coverage depends on your MAGI.
Hint – Another way to reduce your MAGI is to gift appreciated stocks to charities instead of cash. If you are planning to sell a highly appreciated stock, the gain is subject to capital gains tax. Instead of selling the stock and writing a check, gift the stock to the charity. There is no capital gain and if you are able to itemize deductions, you get to deduct the market value of the stock when gifted.
Bonus: Even if you are not subject to the increased Medicare premiums, you may still benefit from completing a QCD.
- Social security income can be taxable up to 85% of the amount received depending on your MAGI. If you can reduce your MAGI with a QCD, you may be able to reduce the amount of your social security income subjected to income tax.
- If you use the standard deduction and are not able to itemize you will effectively gain a “charitable” deduction above the line since the amount given to charity is not taxable to you.
Be sure to check with your financial advisor before implementing these strategies. Your financial advisor can walk you through the ins and outs of these gifting techniques, the paperwork required, and whether doing so would be beneficial for you. Please note you must be 70 ½ to make a QCD.
Brandi Graham is a Senior Advisor with John G. Ullman & Associates, Inc. www.JGUA.com
She is a Certified Financial Planner TM and a Certified Trust and Fiduciary Advisor