CHARITABLE CONTRIBUTIONS: With a Little Planning You Can Save a Lot of Taxes.

ROBERT A. STEINER [*]

Tax Planning 

NOW IS THE TIME to start thinking about your income taxes for year 2001.

Early in 2001 you necessarily have to think about your income taxes for the year 2000. Do your homework. Assemble your records. Report all your income. And, of course, take all your lawful deductions.

However, big tax savings can take place if you do some tax planning. Let us look at the benefits of planning ahead.

Suppose You Want to Contribute $1,000 to the International Society for General Semantics (ISGS)

Example One

You contribute $1,000 in cash to ISGS. On your income tax return you itemize deductions. You take a deduction for the contribution. That reduces your income taxes by $1,000 multiplied by your marginal tax rate.

Your marginal tax rate refers to the top income tax bracket affecting your income. We have a "progressive" (what a delightfully political synonym for "escalating tax rates") income tax system. The top rate at which your income is taxed is referred to as your marginal rate. Let us assume that rate to be 35%. If you were to earn an additional $1,000 in taxable income, that would increase your income tax by $350 ($1,000 x 35% = $350). If you create an additional deduction that reduces your taxable income by $1,000, that reduces your income tax by $350.

When we talk about reducing your taxable income, we simultaneously talk about reducing both your federal income tax and your state income tax.

A word about tax rates: As I write this article, in addition to keeping my nose to the grindstone and my shoulder to the wheel, I am also keeping my ear to the ground. Please pass the liniment.

Hark! I hear talk of an imminent tax cut. They say (and we all know who "they" are) that 1) the tax cut will be passed and signed into law during 2001, and 2) it will be retroactive to January 1, 2001. Consequently, contrary to my original intent for this manuscript, we shan't give any more examples with percentages that represent income tax rates.

Example Two

In 1993, you bought 100 shares of Widget Corporation at just under $3.00 per share. Adding broker's commission, the purchase price totaled $300.

It has gone up considerably. It is now worth just over $1,000. You sell it, and donate the entire proceeds to ISGS. After deducting commissions, the net proceeds amount to exactly $1,000. (Hey, it's my example. I can make it come out even if I wish.)

When you sell the stock, you will pay, tax on the $700 Capital Gain ($1,000 net sale proceeds minus basis [cost plus expenses of purchase] of $300). Then, when you donate the $1,000 proceeds to ISGS, you will get a deduction of $1,000. Since the Capital Gains Tax Rates are lower than the Ordinary Income Tax Rates (applied to the deduction), you will have a net income tax gain on the transaction.

This Example Two was good tax planning, right? Wrong! See Example Three.

Example Three

Slow down! Look at your options. Think about it. Read this article. Talk to your tax advisor.

Instead of selling the stock and donating the cash, as you did in Example Two, what happens if you donate the stock directly to the charity?

You are not taxed on the $700 appreciation on the stock! You will pay Capital Gains Tax of ... Zero! True! You do not pay any tax at all on the appreciation of the stock to the date of the contribution!

And you get an income tax deduction for the full value you donated. That amounts to more than $1,000. Since you donated the stock rather than selling it, there is no broker's commission deducted from its value. That means that your appreciation on the stock was more than $700 ... and it was not taxed at all.

Thus, with a bit of knowledge and prudent tax planning, you got a higher tax deduction, gave a larger donation to ISGS, and eliminated the entire Capital Gains Tax on the appreciation on your stock.

If we multiply the above example by ten, that would mean that you had bought the stock at $3,000, had an appreciation of more than $7,000, and had donated more than $10,000. In that case, you get a tax deduction of more than $10,000, and pay Capital Gains Tax of... still Zero!

There are a couple of other rules to know. Contributions of cash and ordinary income property (explained below) generally are limited to 50% of your adjusted gross income. Contributions of appreciated stock and other capital gain property (explained below) generally are limited to 30% of your adjusted gross income. Any donations in excess of those limits can be carried forward and deducted in the following year.

Donation of Other Assets 

You can donate other assets to charities. These can range from clothing to cars to art work to real estate, and more. There are some rules to consider.

You must determine the fair market value (FMV) on the date of the gift.

If the FMV on the date of the gift is less than your basis in the property, your charitable deduction is the FMV. Basis generally means your cost, as adjusted by additions and improvements, and subtraction of depreciation (if any was deducted on your income tax returns).

If the FMV on the date of the gift is more than your basis in the property, then you must determine whether the property is ordinary income property or capital gain property.

Ordinary income property is property that, if sold at more than your basis, would have resulted in ordinary income. This includes property manufactured or created by you (for example, works of art), or property used in a trade or business.

If the donated property is ordinary income property, or capital gain property held one year or less, your charitable deduction is the FMV on the date of the gift minus the amount that would have been taxable as ordinary income or short-term capital gain if you had sold it.

Capital gain property consists of capital assets which, if sold on the date of the gift, would have resulted in long-term capital gain. This includes such items as investments, securities, jewelry, and other personal property.

Capital gain property held for one year or less is treated as if it were ordinary income property, and does not enjoy the special treatment accorded to long-term capital gain property.

If the donated property is capital gain property that was held for more than one year, your charitable deduction is the FMV on the date of the gift, and you do not pay any tax on the appreciation of the property (as per Example Three, above, when appreciated stock was donated to ISGS).

Donation of Your Time

You are not allowed a deduction for donation of your time. However, do not dismiss this from consideration. If you donate your professional time (if it is valuable to the charity, it is, by definition, professional time) to a charity, you provide them with a great value, with no out-of-pocket cost to you.

Out-of-Pocket Expenses 

You can deduct out-of-pocket expenses you pay on behalf of the charity. There is a standard mileage allowance for the charitable use of your car (for 2000 it was $.14 per mile; for 2001, please watch your newspaper -- there is a major tax-law change coming). Also, you may deduct for such items as tolls, parking, stationery, postage, or any other expenses you pay on behalf of a charity.

Other

The above examples should provide you with sufficient information to put them into effect. If there is any question, or if the amount of the donation is large, please check before taking the deduction.

There are other, more complex methods to save taxes on charitable giving. I shall mention them briefly; however, I urge you to consult professionals before you put them into effect. You might wish to consult with one or more of: an attorney, a tax advisor, or another financial consultant.

There are trusts, special funds, annuities, foundations, and more. Let us take a brief look at a few options available.

Charitable Gift Annuity. Some charities sell annuities. The purchaser receives regular income for life, receives a charitable deduction, and the charity also benefits.

Donor-Advised Fund. If you are prepared to make a charitable gift, but have not yet decided on the charity or charities, or if you want the donation to the charity(ies) to be spread over several years, but you want the tax deduction now, this is worth exploring.

Charitable Remainder Trust. You donate assets to a trust, for which you get a current income tax deduction, and on which you defer or avoid (depending upon how it is put into effect) capital gains tax. During your life, you receive the income from the assets. Or you can set it up so that it provides income for your life and for the life of named beneficiaries. Then, at the death of the donor (and named beneficiaries, if any), the remainder of the assets goes to charity.

Donation From Your Estate. Some people leave money to a charity named in the person's will. That donation is exempt from estate tax.

Review the benefits of giving. Consider the additional benefits when you plan ahead. Plan wisely. Have important documents carefully and professionally drawn. Consult your tax advisor. Consult your attorney.

Good luck with your planning. I hope this has helped.

(*.) Two articles by Robert A. Steiner, "When I Say 'Preposition,' What Do You Think Of?" and "I Am Not a Giraffe and I Can Prove It," appeared in the Fall 1997 ETC and the Fall 1999 ETC, respectively. Mr. Steiner maintains an accounting practice in Pinole, California.