By FPA member Scott Michalek, MBA, CFP®
Last Updated: August 8, 2011
Most people make charitable gifts because they are charitably inclined and want to help a specific organization or cause. This sense of helping others who may be less fortunate should be the driving force behind your decision to make gifts; however, there are tax advantages to charitable gifting that you should also understand.
Most people realize that their charitable gifts may qualify as itemized deductions (subject to certain limits) on their tax returns, which reduces taxable income and results in paying less income tax. What most people may not fully understand are the advantages of using appreciated securities or Individual Retirement Account (IRA) assets, instead of cash, to fund your charitable gifts.
Suppose you want to make a $5,000 gift to your favorite charitable organization. And suppose you have $5,000 of XYZ stock, with a cost basis of only $2,500. If you write a check to the charitable organization, the gift costs you a full $5,000. If you gift the XYZ stock instead, the $5,000 gift will actually only cost you $4,625. This is because no one (neither you nor the charitable organization) has to pay the 15 percent long-term capital gains tax on the $2,500 of embedded gains in the stock. This “savings” increases proportionately as the value of the gift increases and/or the cost basis of the security gifted decreases.
If you are over age 70 ½ and have IRA assets, but do not have any highly appreciated securities in your personal investment account, you may want to talk to your financial advisor to explore the appropriateness of using IRA assets to fund charitable gifts (currently this strategy is scheduled to expire at the end of 2011). If you are subject to required minimum distributions (RMDs) from your IRA, but do not actually need the cash flow to support your current standard of living (because you have other sources of cash flow like pension income, annuity payments, or personal investment income), gifting IRA assets may make sense. The charitable gifts will help satisfy your RMD for the year.
Gifts of IRA assets (up to an aggregate maximum of $100,000 per year) are not reflected as taxable income on your tax return and you do not reflect the charitable gift as an itemized deduction. The advantage of using IRA assets over cash is that it reduces your adjusted gross income (AGI), which in turn reduces the floor for the deduction of medical expenses and other miscellaneous deductions. Therefore, your itemized deductions may be greater. “Above the line” deductions are typically worth more to you than “below the line” deductions.
If you make significant charitable gifts each year and would like to explore all the strategies that may be appropriate to meet your gifting objectives, as well as reduce taxes, contact your financial advisor to discuss your options in more detail.
FPA member Scott Michalek, MBA, CFP®, is a Principal and Financial Advisor with Wescott Financial Advisory Group LLC.