Charitable contributions historically have provided tax benefits, and that may be especially true in 2013. Those contributions reduce your taxable income, which may keep you from moving into a higher tax bracket. Moreover, 2013 has been a rewarding year for investors, but taking gains that increase your gross income may trigger added taxes. Thus, giving appreciated securities held more than one year to charity can be an effective maneuver this year.
Example 1: Phil Roberts regularly donates $10,000 to his alma mater each year. He holds $20,000 worth of shares of ABC Mutual Fund, bought years ago for $10,000. Phil is considering selling the shares this year. Instead, Phil donates the $20,000 of fund shares to the university in December 2013, fulfilling his charitable intent for 2013 and 2014. With this donation, he gets a $20,000 tax deduction for 2013 and avoids tax on the $10,000 appreciation. In Phil’s high tax bracket, federal and state taxes might have cost him around $3,000 on a sale generating a $10,000 long-term capital gain. With this strategy, the $20,000 Phil would have donated in 2013 and 2014 stays in his checking account, so Phil can spend or reinvest that money. If you are interested in donating appreciated securities held more than a year, for a full tax deduction, contact the intended recipient. When you get the information from the charity, tell your financial adviser how the donation should be handled.
The previously mentioned strategy can work well if Phil is making one $20,000 donation. Suppose, however, that Phil wants to make, say, donations of $2,000 to each of 10 different charities. Processing all those share transfers may be very cumbersome. As an alternative, Phil can make a $20,000 donation to a donor advised fund. Many financial firms and community foundations offer such funds. Once the money is in the fund, Phil can simply advise the fund to make 10 $2,000 “grants” to his chosen charities. He can defer the grants until a future year and still get the upfront tax benefit if he transfers the shares to the donor advised fund in 2013.
Strategy for seniors
Although Congress made many recent tax law changes permanent, some provisions still must be renewed every year or two. For example, the so-called “IRA charitable rollover” is allowed in 2013 but its future fate is uncertain. This tax benefit applies only to taxpayers age 70½ or older. If you are in that age group, you can transfer IRA money to a charity or charities of your choice, up to a total of $100,000 in 2013. Executed directly, such a transfer can satisfy your required minimum distribution (RMD) for the year.
Example 2: Eve Walker, age 75, has a large IRA. Although Eve does not need the money, she must take at least a $17,000 RMD from her IRA in 2013. So far this year, Eve has not taken any IRA distributions. Eve typically donates $5,000 to each of her four favorite charities every year. This year, she transfers a total of $20,000 to the four charities from her IRA. The $20,000 distribution satisfies her $17,000 RMD for the year. For these IRA charitable rollovers, Eve gets no charitable tax deduction. Why, then, should she do them? Because qualified charitable distributions do not count as taxable income. If Eve had taken her RMD for 2013, the $17,000 taxable withdrawal would have swollen her adjusted gross income (AGI) for 2013. A higher AGI, in turn, might have subjected Eve to special taxes or deprived her of certain tax benefits.