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How to Give It Away
An examination of gifting options for the philanthropically minded.
Roger Silk | 04-10-01
An examination of gifting options for the philanthropically minded.
This is the first of a series of articles on MorningstarAdvisor.com that will focus on philanthropy and its growing role in the advisory world.
Before I start, let me lay my cards on the table. I believe that in most cases where it is feasible, a private foundation is the option of choice. But I'll be covering all of the options that advisors need to be aware of in order to properly serve their clients. Please feel free to e-mail me any time you have questions, comments, or suggestions. If possible, I'll answer you personally. If appropriate, I'll deal with your input in this column.
In this column, I'll address the differences between the four basic philanthropic alternatives. I'll examine each option in depth in subsequent columns.
The Four Basic Philanthropic Alternatives
There are four basic alternatives for donors who have significant charitable goals.
- Create their own private foundation.
- Give money outright to a charity or charities of their choice.
- Endow a "supporting organization" for a charity of their choice.
- Contribute to a "donor-advised fund."
Each of these alternatives has a distinct set of characteristics. The following table compares the key tax, control, and compliance features of each:
| Characteristics of Philanthropic Alternatives |
|
|
|
|
|
| Features |
Private
Foundation |
Outright
Gift |
Supporting
Organization |
Donor-Advised
Fund |
|
| Immediate income-tax deduction. |
Yes |
Yes |
Yes |
Yes |
|
| Gifts are not subject to estate tax. |
Yes |
Yes |
Yes |
Yes |
|
| Donor retains legal control. |
Yes |
No |
No |
No |
|
| Organization can be legally controlled by donor's family in perpetuity. |
Yes |
No |
No |
No |
|
| Donor is responsible for annual compliance with relevant rules. |
Yes |
No |
No |
No |
|
| When to use each type of entity. |
In most cases, if client expects total donations (over time) of at least $500,000. |
In special situations. |
In special situations. |
When amounts
are small;
when control doesn't matter. |
|
| Ability to change into one of the other alternatives. |
Yes.
A private foundation can contribute some or all of its assets to any of the other alternatives. |
No |
No |
No |
As is clear from this table, only the private foundation offers both the tax and control benefits. The price is that foundations require somewhat burdensome paperwork and compliance, though these can be outsourced to a comprehensive professional management firm.
Income Tax Deduction Limitations, Estate Tax, and Excise Tax Treatment
We all know that contributions to charity are deductible. But like so many things having to do with taxes, this apparently simple proposition becomes more complicated when looked at up close.
While all gifts to charity--whether outright gifts, private foundations, donor-advised funds, or supporting organizations--are deductible for estate tax purposes (please note, however, that Charitable Remainder Trusts can create estate tax traps for the unwary), the income-tax rules are more complex.
As the table below shows, all charitable contributions are subject to limitations on the amount that can be deducted for income tax purposes. The most that a donor can ever deduct in a single year is 50% of his adjusted gross income (AGI). For example, if adjusted gross income were $1 million, the maximum deductible contribution would be $500,000.
But from here on, the rules become somewhat complicated. Public charities have one set of limitations and private foundations another. For public charities, the overall limit of deductibility is 50% of AGI. Of this 50%, up to 30% of AGI may be in the form of long term capital gain property (such as appreciated stock, unleveraged real estate, or closely held stock held for over a year). The other 20% may be in the form of cash (or basis property). A donor could also give up to 50% of his AGI in cash and deduct it.
Deductions for contributions to private foundations are limited to 30% of AGI. Of this 30%, up to 20% may be in the form of appreciated publicly traded stock held for over a year. Since a donor may deduct contributions to both a private foundation and a public charity, your client may give 30% of his income in cash to his private foundation and another 20% in cash to a public charity. These contributions would all be deductible in the year they were made.
| Tax Limitations |
|
|
|
|
|
| Features |
Private
Foundation |
Outright
Gift |
Supporting
Organization |
Donor-Advised
Fund |
|
Tax deduction for contributions
of capital gain property. |
20% AGI limit
(Only appreciated publicly traded stock qualifies.) |
30% AGI limit |
30% AGI limit |
30% AGI limit |
|
| Tax deduction for cash distributions. |
30% AGI limit |
50% AGI limit |
50% AGI limit |
50% AGI limit |
|
| Donor retains legal control. |
Yes |
No |
No |
No |
|
| Tax on investment income. |
2% or 1% excise tax on net investment income. |
No |
No |
No |
If a donor gives more than 50% of his AGI in a year, he or she may carry forward the amount over 50% and deduct it in the future for up to five years. So, for example, if a donor usually earns $1 million a year and wants to contribute $1 million to his foundation and deduct it all, the carry-forward rules allow him to do this. In year one, he contributes the $1 million. He would then deduct $300,000 (i.e., 30%) in years one, two, and three. In year four, he would deduct the remaining $100,000. Just keep in mind that the AGI limitations apply in subsequent years as well.
In my next column, I'll address the giving solution that's probably optimal for most of the clients that an advisor will be working with, namely a private foundation.
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