Being charitable - without going broke.
Individuals and corporations: Sec. 170(a) allows a deduction for "any charitable contribution ... payment of which is made within the taxable year" to certain tax-exempt, nonprofit organizations. Sec. 170(c) defines "charitable contribution." Under Sec. 170(b), the deduction is available to individuals and corporations. Contributions made by an individual during life are subject to limits, however; cash contributions are fully deductible (net of any goods or services received) and are generally limited to 50%, (30%, in certain cases) of the contributor's adjusted gross income (AGI). Contributions of appreciated capital gain property are generally deductible at fair market value (FMV) on the date of contribution and are limited to 30% (20%, in certain cases) of AGI; see Sec. 170(b)(1).
Trusts and estates: For a trust or estate, Sec. 642(c)(1) provides that "there shall be allowed as a deduction in computing its taxable income ... any amount of the gross income, without limitation, which pursuant to the terms of the governing instrument is, during the taxable year, paid for a purpose specified in section 170(c)."Thus, for the trust or estate to take a deduction, the distributee charity must meet the same requirements as one receiving a deductible contribution from an individual or corporation, but the deduction available to a trust and estate is unlimited.
Timing: Timing is essential when strategizing to gain the maximum tax benefit from a charitable contribution. The tax benefit of the deduction for an individual during life is computed as the contributor's marginal income tax rate multiplied by the deduction, plus the future tax benefits resulting from the reduction in the contributor's estate. An estate will only benefit from a charitable deduction if there is a taxable estate and the Federal estate tax is still in effect. Under current law, the Federal estate tax will phase out in 2010 and revert to 2001 law in 2011; see Sec. 2001.
How to Contribute
Individuals and families have different reasons and objectives for making charitable contributions. Further, there are numerous ways to accomplish charitable goals during life. The following are some options to achieve a tax benefit during life:
* Outright charitable gifts of cash, securities or other assets: The donor relinquishes ownership and control at time of gifting.
* Lifetime charitable lead trust, unitrust or annuity trust: These are usually taxable trusts that are allowed an unlimited income tax charitable deduction for gross income paid to a charity; see Sec. 170(f)(2)(B). Income is distributed to charity for a specified number of years; the remainder can pass to noncharitable, designated beneficiaries.
* Lifetime charitable remainder trust, unitrust or annuity trust (Sec. 664): These trusts are tax-exempt as long as they do not have unrelated business taxable income. Cashflows are paid to the donor for a specified period; assets transfer to a designated charity at the end of such time.
* Pooled income fund trust (Sec. 642(c)(3) and (5)): The donor transfers funds to a charity and receives an income interest during life. The charity is entitled to the remainder.
* Gift of remainder interest in real property to charity: The individual has a life interest in the contributed assets; the remainder passes to a charity at death.
* Creation of a private foundation (Sec. 509): The donor funds the charity and sets the charitable purpose. Donations to private foundations may trigger less favorable income tax treatment than those to public charities.
* Establishment of a donor-advised fund at a community foundation or financial institution: The donor gets an immediate tax deduction at FMV. The donor relinquishes asset ownership, but retains limited control as to distribution of funds.
* Donor-managed investment account: The donor funds a separate account within a charity and retains management privileges.
* Creation of a supporting foundation to benefit a particular public charity.
* Inclusion of charities as beneficiaries in a generation-skipping dynasty trust.
During Life or at Death?
The question whether charitable gifts should be made during life or at death is still (and possibly always will be) up for debate, because multiple factors-tax, financial and personal-must be considered. Not all of the factors are subject to quantification. Thus, it is important that tax professionals understand both clients' financial situations and their personal goals, so they can advise them on the best charitable-giving strategy, using the instrument(s) that will best meet their needs and objectives. Lifetime contributions generally allow the donor a charitable deduction (if it exceeds the percent-of-income limit, the deduction carries forward for five years; see Sec. 170(d)(1)).
Giving to charity during life does not necessarily mean compromising financial status. In certain situations, charitable giving can actually increase cashflow during life. If a donor wants to maintain asset control or management, there are options that will allow that, while providing tax savings. Giving to charity during life will inevitably reduce the size of the donor's estate, thus saving tax in the year of the contribution, as well as estate tax at death.
As Warren Buffet's example shows, being charitable does not mean going broke. Charitable planning can help ensure that client goals are met in the process.
FROM RIVKA BIER AND SHARON M. URBAN, CPA, J.D., MBA, LL.M., ELLIN & TUCKER, CHARTERED, BALTIMORE, MD
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|Author:||Urban, Sharon M.|
|Publication:||The Tax Adviser|
|Date:||Oct 1, 2006|
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