If you’re in a position to provide assistance, a year-end goal might be making a charitable contribution. But do you know the most tax-efficient way to do so?
It always seems to come too quickly: the hustle and bustle of the holiday season and a final mad dash to accomplish your business and personal goals before year-end.
If you’re in a position to provide assistance, one of your goals might be making a charitable contribution. But do you know the most tax-efficient way to do so?
Everyone’s heard of the Bill and Melinda Gates Foundation, the Pew Charitable Trust and other large charities established by ultra-affluent Americans. But how generous are the so-called “mass affluent”—those individuals that have a net worth of $1 million or more and an annual income of $200,000 and up?
A recent article by Karen Demaster in “Financial Advisor” discusses two recent studies that indicate this group is increasing its charitable contributions and that the trend will likely continue moving forward. The “2014 U.S. Trust Study of High Net Worth Philanthropy,” which included 632 U.S. households with a net worth of $1 million or more and an annual income of $200,000 or more, concluded “Giving levels are up and the future looks bright.” Another study conducted by UBS, “Doing Well at Doing Good,” which included 1,372 investors with at least $1 million in investable assets and smaller groups of Gen Xers and millennials with less in investable assets, reached a similar conclusion: “In spite of the recent economic uncertainty, America's ‘giving gene’ remains intact, and donations of money have actually increased.”
According to U.S. Trust, the average amount wealthy individuals gave to charity last year increased 28%, and 98% of high net-worth households donated to charity in 2013—compared to 95% in 2011. This marks the highest rate of high net-worth participation in charitable giving since the study began in 2006. Demasters notes that most (85%) wealthy donors plan to give as much in the next three to five years as they have in the past. That’s up from just 76% who said they would do the same when asked the question two years ago.
So what’s the most tax-efficient way for higher-income earners or people with appreciated assets to make gifts to their desired charity? First, those who own publically traded stock that will generate long-term capital gains taxes (they’ve held it over a year) will realize a much more favorable income tax result by donating the appreciated stock directly to the charity rather than selling the stock first and then donating the cash proceeds to the charity. You can thank the tax treatment afforded to qualified charities, which permits the donor to receive the full value of the stock as a deduction (subject to the 30% annual limit as a percentage of adjusted gross income, which includes a five-year carryover of the unused portion).
Consider the following example:
| Financial Situation | Sell stock and donate net proceeds (cash) to charity | Donate stock directly to charity |
| Current fair market value of securities | 1,000 shares at $55/share=$55,000 | 1,000 shares at $55/share=$55,000 |
| Federal long-term capital gains paid (20% of $50,000) | $10,000 | $10,000 eliminated |
| Charitable contribution/deduction | $45,000 | $55,000 |
| Value of charitable deduction | $18,000 | $22,000 |
| Donor tax savings | $8,000 | $22,000 |
For many independent insurance agents that have ownership in their agencies, the largest appreciated stock is the agency stock. This stock is typically illiquid, but the same charitable concept applies, although it will involve an additional step if they donate their closely held C-corporation stock: an independent valuation to satisfy IRS rules. (Additional considerations exist for S Corps, LLCs and LPs that could involve recognition of ordinary income.) The same concept of receiving a full-market-value deduction holds true by donating the shares to the charity or donor-advised fund—the terms of the sale cannot be “prearranged,” but the agency can have an agreement in place to buy back stock offered to the agency.
Tax advice is prudent for this type of transaction, but the potential savings can be significant. Agency owners that are selling their agency could consider holding back some of the stock to donate to charity which then sells it to the buyer.
Interested in giving back to the industry? Consider making a donation to InVEST®. Founded in 1970, this grassroots non-profit teams educators with representatives from the insurance industry to provide insurance instruction and career opportunities to students. This year, InVEST’s “YAC Gives Back” silent auction and direct contributions raised more than $111,000 to provide scholarships to students who plan to pursue insurance careers after graduation.
Dave Evans is a certified financial planner and an IA contributor.
