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Retirees, get initial tax relief for delayed charitable giving

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Americans are a generous people, donating billions of dollars to charities each year, nearly $ 450 billion in 2019 alone. Although the U.S. government rewards donations with tax relief, the Tax Cuts and Jobs Act of 2017 made eligibility more difficult by increasing the amount of the standard deduction. To get a tax benefit from your donations in 2021, your total itemized deductions for the year, including charitable donations, must exceed $ 12,550 for individuals and $ 25,100 for married tax filers.

These new rules make the donation of a single large donation tax more advantageous than spreading it out over time., but “people might not want the charity to receive everything at the same time,” says Neel Shah, estate planning lawyer and certified financial planner at Shah Total Planning in Monroe Township, NJ. Charitable goals may also change over time, or they might not know which charity to donate to. ”

If you are in this situation, a donor advised fund might be the solution. These accounts allow you to deduct your contributions today while deferring actual charitable donations until later. The money can be distributed over time to one or more eligible charities of your choice. “At its most basic level, a donor advised fund is like a philanthropic and flexible spending account,” says Christine Donovan, vice president of institutional advisor and foundation practice at Northern Trust. Since you fund the account with an irrevocable donation, you cannot get the money back, but you are still in control of when to donate, how much, and where, although some fund providers may restrict charities. eligible funds you can donate to.

The most common way to fund these accounts is cash. Rather than giving $ 10,000 a year to a charity and not meeting the standard deduction limit, you could transfer $ 100,000 to a donor-advised fund, receiving immediate tax relief for up to six digits, then distribute $ 10,000 per year from the account. Shah recommends scouring your brokerage portfolio for any valued security to donate, as you will get “the full deduction and completely avoid your capital gains taxes.”

The amount you can deduct in any given year, however, is limited to 60% of your adjusted gross income for a cash donation and 30% of the AGI for fixed assets like valued stocks. Any unused deduction can be carried forward and used to offset your taxes for up to five years. If you donate an investment that has been held for less than a year, you can only deduct your initial base cost of purchasing the asset, not your earnings.

While you can donate other assets like real estate or company stock, financial experts warn against doing so. “Once the gift is made, you give up enjoying it,” Shah said. “With these other assets, there is more risk of missteps and abuse.” For example, if you donate real estate, you can no longer stay in the property for free, and if you donate from a private company, you can only receive a fair wage if you continue to work there after giving up the property. to the donor. advised fund.

If you make a mistake and break these rules, it will cost you dearly. The IRS could retroactively refuse your donation. Not only would you lose the deduction and owe taxes in arrears, the IRS could also charge you interest and underpayment penalties because you claimed an invalid deduction. For assets such as cars, real estate, and private businesses, it is best to sell the property first and then use the money from the sale for your donation.

Not all organizations are candidates for donations. Only public charities qualified by the IRS and certain private foundations are eligible. Churches, schools, and municipal governments in the United States are also eligible. When in doubt about the organization’s status with the IRS, Shah warns not to use the funds advised by donors to give to the charity. Always verify that what you want to support qualifies by asking the company that manages the donor advised fund, your financial advisor, or the charity itself.

Donor-advised funds have other benefits besides tax breaks. Automatic donations to charities can be scheduled and even made anonymously. The money in the account can be kept in cash or invested in mutual funds, exchange traded funds, hedge funds or other options of the account provider. If you don’t want to manage the investments, you can hire an advisor to do it for you. All gains from investing in the donor advised fund are tax-free, potentially generating even more money to donate in the future. Of course, if your investments lose value, you will have less to give.

Compared to charitable trusts or a private foundation, funds are also simple and profitable. “Donor-advised funds do not require staff associated with private foundations, as the donor does not need to keep records, submit a 990 file or board meetings,” says Donovan. You also avoid the additional tax reporting requirements, paperwork, and maintenance costs of running a trust.

You can even delay donating the money until your death. During your lifetime, you determine how and when you want to donate the funds, and then leave your handpicked successor to manage the account to follow after you pass away.

Brokerage firms, especially if you already invest in them, are the most affordable and convenient way to open a donor-advised fund. Three of the biggest brokerages – Fidelity, Schwab and Vanguard – “do all of the heavy lifting in terms of setting up the account for you,” says Brian Stivers, owner of Stivers Financial Services in Knoxville, Tenn.

A donor advised fund usually costs nothing to set up, but there is usually an annual maintenance fee to keep the account open. The annual fees at Schwab, Vanguard and Fidelity are decreasing; all start at 0.6% and decrease as counts increase. Annual fees for other providers may be 1% or more, especially for smaller balances. Minimum deposits also vary. Fidelity and Schwab don’t have one, but Vanguard needs at least $ 25,000 to open a donor-advised fund.

If you invest the balance, you’ll have standard brokerage investment fees based on the funds you choose and, if you hire an advisor, a management fee – the same you would pay if you hired the person on your behalf. retirement or brokerage. .

Other fund providers include philanthropic service companies, such as the American Endowment Foundation and the National Philanthropic Trust. Non-brokerage providers, however, often have 0.7% to 0.85% higher administrative fees and outsource the investment. Some providers may specialize in a certain type of charity or in a particular location, such as the Silicon Valley Community Foundation, the National Christian Foundation, or a fund managed by a university.

Smaller, cause-specific funds are more likely to restrict which charities you can donate to. For example, a fund run by a university may require that a percentage of your donations go to school, or a religious fund may only approve charities that follow certain moral guidelines. Larger programs will generally approve grants to virtually any organization approved by the IRS.

Stivers says donor-advised funds make the most sense for people with net worth between $ 500,000 and $ 5 million, because they are probably already giving the ideal amount to take advantage of the tax benefits. Someone with higher equity might find the extra work and cost of a private trust or foundation justifiable to donate larger sums. Anyone who makes smaller donations, like $ 1,000 a year, can certainly open a donor-advised fund, but it may not be worth it, Shah says.

Stivers points out that these charitable giving tools often work best for donors without immediate family members to inherit. “For those who don’t have children or grandchildren, many of them like the idea of ​​deciding during their lifetime where the money will go after they leave.”

If you have heirs, donor-advised funds provide a great opportunity to teach the importance of charitable giving to a younger generation. It’s a great way to leave a legacy, says Stivers.

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