Do well while doing good with a charitable gift annuity.
How they work
As the name suggests, you fund a CGA with a charitable donation. In return, you get a stream of income that can last the rest of your life or for the lives of two people, such as yourself and your spouse.
Example: Ann and George Wilson want to support their favorite charity, which offers CGAs. The Wilsons decide to contribute $200,000.
Their chosen charity, like many others, uses tables from the American Council on Gift Annuities to set payout rates. Those rates vary by the age of the donors. When they fund their gift annuity, Ann is 58 and George is 66. The relevant table shows a 4% payout rate. Therefore, the Wilsons will receive $8,000 (4% of $200,000) a year as long as either is alive.
More or less
If the Wilsons receive 4% cash flow from their CGA, they'll get more spending money than they would get from a bank account or money market fund, given todays low yields. They'll be tapping principal in order to do so, which means they won't have access to the donated assets, and they won't be able to leave those assets to their heirs. The Wilsons are willing to fund their CGA because they have other assets for lifetime needs and eventual bequests.
On the other hand, the Wilsons probably would be able to get a higher lifetime payout by buying a commercial annuity from an insurance company. Again, the Wilsons are aware of the tradeoffs involved. They accept reduced cash flow in return for knowing they've benefitted a worthy cause; the Wilsons also will receive recognition from the charity as well as several tax advantages.
In this example, the Wilsons will be receiving a partial return of principal with every payment from the charity. Consequently, the money they receive from the CGA will be partly taxable and partly tax-free. The Wilsons funded the CGA with appreciated assets held more than one year, so they can treat some of the taxable portion of their payments as long-term capital gains, which probably will be taxed at favorable rates.
Also, the Wilsons will receive a tax deduction for their contribution. They contributed appreciated assets held more than a year, so their deduction will be based on the full $200,000 market value of those assets. Depending on interest rates in effect at the time of the contribution, the Wilsons might receive an upfront tax deduction around $20,000 to $25,000. (However, if the value of the annuity was more than the amount contributed, the Wilsons would not get a deduction.)
The older you are when you fund a CGA, the larger the portion of your contribution you can deduct. Also, an individual funding a single life annuity will receive a larger tax deduction than a couple of similar age requesting a joint CGA.
CGAs tend to be straightforward, with a definite payout for your investment. Charities and other nonprofits offering CGAs can walk you through the details. Nevertheless, you should keep in mind that a CGA is secured only by the issuer's assets, so you should do your homework in order to be comfortable that the charity is financially sound.
Did You Know?
The number of publicly listed companies in the U.S. declined 43.5% from the peak in 1997 through 2011. During that time period, maintaining the number of public companies would have required nearly 388 initial public offerings (IPOs) a year. Instead, the actual annual number of IPOs has been only 128 per year since the dot-com bubble burst in 2000.
Source: Grant Thornton LLP