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A gift to a charity with qualifying 501(c)(3) status is an effective way of minimizing your income and estate tax bills while meeting your altruistic goals. Charitable gifts – whether made during your lifetime or at death – generally provide a deduction equal to the fair market value of the gifted property. While the income and estate tax savings is a plus, we often find that what drives our clients’ charitable giving is the opportunity to support a certain cause and/or to establish a philanthropic legacy.
There are various techniques to consider when determining the best manner in which to make a charitable gift – depending on your goals and the type of assets you are donating. In any of these scenarios, several of which are described below, our goal is to maximize your income and estate tax savings while simultaneously meeting your charitable and personal goals.
Under your Will or Revocable Trust, you can allocate a stated percentage of your estate or an exact dollar amount to a qualified charity. Alternatively, you can allocate specific property to the qualified charity. You can make a gift to a qualified charity under your Will or Trust either directly or by some other means, including creating a charitable trust, donor-advised fund, private foundation or endowment fund – whichever entity best meets your needs.
Beneficiary of a Retirement Plan or IRA
You can designate a qualified charity as a beneficiary of a stated percentage of or specific dollar amount from your retirement plan or IRA. Note, however, that some retirement plans and IRAs only allow you to divide the account in percentage allocations.
If you are charitably inclined, naming a qualified charity as a beneficiary of a retirement plan or IRA is one of the most tax-efficient vehicles to make the transfer. Unlike your loved ones, charities do not pay any income tax on the proceeds from retirement plans or IRAs. For example, if a qualified charity received $100,000 from an IRA, it would receive this amount income-tax free. Conversely, if an individual receives $100,000 from a traditional IRA, he or she would have to pay income taxes on that amount.
Since retirement plans and IRAs pass by beneficiary designation and, thus, outside of your Will/Trust, it is important that you coordinate your beneficiary designations with your overall estate plan. If you name a qualified charity as a beneficiary under your Will or Trust and also under your retirement plan or IRA, you could unintentionally double up on the amount you want allocated to the qualified charity.
Charitable Remainder Trust
A charitable remainder trust (“CRT”) is a split-interest trust that you can establish either during your lifetime or upon your passing under your Will or Trust. The “split-interest” portion means that there is a combination of charitable and non-charitable beneficiaries. More specifically, with a CRT, an individual receives either a fixed amount or stated percentage each year for his or her lifetime or for a term of no more than 20 years. After the individual’s interest terminates, the charity(ies) will receive the balance of the trust. This is a great tool if you want to provide some benefit to your loved ones but ultimately want the remaining amount to go to charity.
A CRT is particularly beneficial if you contribute highly appreciated property to the trust. Since the CRT is a tax-exempt entity, the income taxes are not assessed on transactions that would normally result in the imposition of taxes (for example, the sale of assets). Thus, a CRT can sell appreciated assets and achieve diversification without incurring income/capital gains, which, in turn, may produce a higher yield from the investments and a larger payout for the beneficiaries.
Notably, you can name yourself or your spouse as the non-charitable beneficiary, which allows you to obtain the benefits of the CRT from an estate and income tax perspective while retaining an income interest in the property.
Charitable Lead Trust
A variation of the CRT is a charitable lead trust (“CLT”). With a CLT, the charity gets the initial interest, which is either a fixed amount or stated percentage, and the individual beneficiary gets the remainder interest. This is an effective tool if the individual beneficiary does not need the interest now, but he or she (or his or her heirs) may need the principal in the future.
You can create an endowment fund at a charitable organization – either during your lifetime or at your passing – to perpetuate your goals for the charity. This fund is restricted in the sense that only a portion of the fund – usually the income – is spent for the stated charitable purpose. This, in turn, may allow the principal to grow.
A private foundation is an entity established by an individual or a family, usually for philanthropic purposes. A foundation is privately funded and managed by its own Board of Directors or Trustees, which are often comprised of family members. The Directors or Trustees control how the contributions are invested and distributed among charities. Thus, a private foundation can give a donor and family members more control over the gifted assets. However, a private foundation is usually more expensive to establish and maintain than other charitable giving vehicles; you generally do not get as large as a deduction as you would by contributing to a public charity and there are many restrictive rules pertaining to its governance.
A donor-advised fund is a vehicle for charitable giving where the donor makes contributions to the fund, which is held by a public charity, and the fund invests the money in an account that the donor creates. The donor (or the account advisor selected by donor during lifetime or at death) “advises” the fund where his or her contributions should go (i.e., what charities), and then the fund makes distributions to the charities. Note, a donor-advised fund is not required to follow the donor’s suggestions, but generally does so. In contrast, private foundations allow for more control and flexibility over the contributions by making direct grants to the selected charities. Generally, however, a donor-advised fund is easier to establish and maintain and provides larger deductions than a private foundation.
Community foundations are similar to a donor-advised fund except that they are designed to support a specific geographic area, typically a city, county or region. For example, a contribution to the Community Foundation for the National Capital Region will serve charities in Washington, D.C., and the surrounding area. Generally, you establish a fund at the community foundation and recommend grants to be distributed to qualified charities in the community. Thus, a community foundation allows you to establish a legacy in your community while having the support of the foundation’s resources.
As there are several exceptions and limitations to the above, we invite you to contact one of the attorneys in our estates and trusts department at 301-340-2020 for more information. We recommend that you always consult with a tax advisor to ensure the most efficient tax result when making charitable gifts.
Estates + Trusts at Stein Sperling
Stein Sperling’s Estates and Trusts practice provides a broad range of services that include the organization and development of estate plans, assistance in the administration of trusts and estates, and working with clients step-by-step through the probate process. Our attorneys combine experience, knowledge and the practical applications of estate, trust, business and tax laws with innovative approaches designed to meet clients’ needs and objectives.
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