Charitable Giving: The Tax-Wise Way

Americans—especially the affluent—are some of the most charitable people in the world. Chances are, you use some of your wealth to support favorite causes or organizations that are important to you. But those contributions may not be having as significant an impact as they could—and you’re possibly missing out on some valuable charitable tax benefits that could help you and your favorite charities.

Here’s how to assess the effectiveness of your giving and some strategies that could potentially put real power behind your philanthropy.

The State of Affluent Giving

According to an AES Nation survey of wealthy individuals with investable assets of $500,000 or more, 74 percent of the affluent say they make significant charitable contributions every year. That suggests that the affluent are willing and able to support causes they care about. Unfortunately, only some surveyed donors use tax-efficient strategies as part of their annual giving efforts. As seen in the exhibit, only one in five does more than write checks to charitable organizations yearly.

Tax-Efficient Giving

Simply put, tax-wise charitable planning is the process of making a significant philanthropic gift (either during the person’s life or at death) that is part of a financial or estate plan—and doing so as tax-efficiently as possible.

Tax-wise charitable planning is usually best accomplished as part of an overall wealth plan that addresses other vital issues such as wealth transfer, wealth protection, and cash flow needs. When affluent donors can consider their various assets and how they are structured, there is the potential to make meaningful charitable gifts that also provide significant tax benefits. Generally, proactive wealth planning that considers an affluent donor’s broader financial situation can lead to much better outcomes than so-called checkbook philanthropy, in which charitable gifts are made from cash flow.

Important: Effective tax-wise charitable planning focuses first on a person’s philanthropic agenda and then on how to be as tax-efficient as possible. The most critical component of the process is the intention to use wealth to achieve charitable goals.

Tax-Wise Charitable Planning Strategies

There are many ways to make charitable gifts beyond simply writing checks regularly. Three commonly used approaches are:

· Charitable trusts. Different types of charitable trusts have various tax benefits for the donors and the charities. Charitable trusts are often used as part of comprehensive wealth plans—especially estate plans—because they can potentially mitigate various taxes and move assets between generations.

· Donor-advised funds. A donor-advised fund is typically established by a financial services firm, community foundation, or charitable group, which manages the fund’s day-to-day operations. Donors make irrevocable contributions to the donor-advised fund, and those assets are invested and grow tax-free over time. Donors can then recommend which charities should receive their financial contributions, and the donor-advised fund makes the grants.

· Private foundations. A private foundation is a not-for-profit organization funded primarily by a person, family, or corporation. The assets in a private foundation, called the “endowment,” are regularly invested in producing income used to make grants to other charities and support the operation of the private foundation.

Some key points to keep in mind about private foundations and donor-advised funds—two of the more commonly used options used by philanthropically motivated individuals:

· A private foundation gives the donor maximum control. This is not the case with a donor-advised fund, which technically allows the donor only to recommend which organizations receive money. That said, donor-advised funds, in almost all cases, honor these recommendations (assuming the recipient organization is a registered charity).

· A donor-advised fund manages the assets of the firm entrusted with the money (such as a mutual fund company or community foundation). The donor (or their advisors) manages the assets with a private foundation.

· From a cost perspective, a private foundation is more expensive to set up and manage than a donor-advised fund.

· In the case of a private foundation, there are unlimited succession possibilities. This enables a family to exercise control and instill the importance of philanthropy across many generations. In contrast, many donor-advised funds have limitations on succession. In situations where such limits are reached, the assets in the donor-advised fund go into a general pool at the fund company, community foundation, or other sponsoring organization.

Making A Difference

Making tax-wise charitable planning an integral part of your wealth planning efforts can be very beneficial. That said, the core of tax-wise charitable planning should be your desire to impact one or more charities.

For those who want to make a difference, charitable strategies such as those outlined here could be compelling wealth management solutions—and some of the best ways to do well by doing good.

Take some time to think about your charitable intentions and goals, both today and in the future. Armed with that information, you can explore and assess various ways to pursue tax-efficient philanthropy.