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Tax Planning for the Charitably Inclined - Episode 22 Thumbnail

Tax Planning for the Charitably Inclined - Episode 22

We focus on tax planning here at Eagle Ridge Wealth Advisors. Today I’m covering four ways to use charitable giving to your advantage to reduce your tax liability.

Listen to Episode 22 Here:


You can listen online through the direct player above, or a much easier way to listen is by subscribing to the podcast through a free podcast app on your phone.  The podcast is available on iTunes, Spotify, Google Play Music, iHeartRadio, and Stitcher, and several others! 

Recent Changes

Looking at the 2018 tax law changes, the 2020 SECURE Act, and the pandemic-related CARES Act, we have had quite a few changes to the tax code these past few years. The 2018 Tax Cuts and Jobs Act essentially doubled the standard deduction and removed many ways to itemize deductions.

The few itemized deductions remaining include charitable contributions, state and local taxes (limited to $10,000), and mortgage interest. Presently, only about 5% of people can claim a deduction for giving charitably under the 2018 tax law. Most people are left using the standard deduction which is just over $12,000 for a single person or just over $24,000 for married filing jointly.

Even though itemizing deductions has become more difficult with the higher standard deduction, there are strategies you can use to help your charitable giving reduce your tax liability. 

4 Ways to Use Charitable Contributions to Reduce Taxes 

1. Use donor-advised funds.

Donor-advised funds have been around for a while, and they are a great way to donate cash or appreciated securities. Donor-advised funds are flexible, and you can specify where the money goes and how often you wish to donate from the fund. This is a great way to offset an inheritance or a sale of a business.

You can also use a donor-advised fund to itemize deductions every few years or every other year in what is known as charitable lumping, charitable clumping, charitable bunching, or charitable stacking. 

Here’s an example of how this works: Let’s say you normally donate $10,000 annually to your church or any charity. If you’re married your exemption is $24,000 (rounded); and if you donate 3 years of your contributions all at once to a donor-advised fund ($10,000 x 3 years = $30,000 – $24,000 = $6,000), you could itemize your deductions and receive an extra $6,000 deduction.

Here's another example: If you donate 5 years of giving all at once, you would have and extra $26,000 ($10,000 x 5 years = $50,000 – $24,000 = $26,000) in deductions. Plus, the money in a donor-advised fund can also be invested, so it has the potential to grow and increase the amount of future donations.

One thing to note with a donor-advised fund is when you donate the money, it is irrevocable, so it’s essentially the same as if you had already given the money to the charity.

2. Donate appreciated investments.

If you have investments that have appreciated a bit you can donate them directly to the charity of your choice. This way you avoid long-term capital gains and you can itemize the deduction if it qualifies, but even if it doesn’t qualify, you’re still avoiding the long-term capital gains taxes so it’s still a good strategy. You must donate the shares directly, which means that you must donate directly from your trustee or custodian to the charity’s trustee or custodian. The charity can then sell the assets and pay no tax on the appreciated gains because of their tax-exempt status.

A great way to receive a double tax savings is to use appreciated assets to donate to a donor-advised fund. This way you are avoiding the taxes on long-term capital gains and you can use the amount donated to itemize deductions and reduce tax liability a second time. So, you double the savings!

3. Take Qualified Charitable Distributions (QCDs).

In 2020 the SECURE Act has raised the age you must take the required minimum distribution (RMD) from your tax-deferred accounts from 70.5 to 72. However, for those charitably inclined, you can still use a qualified charitable distribution at age 70.5. This money would come directly from your IRA to a charity of your choice, and you are able to exclude that amount from your reported income.

This is a way to take your RMD and reap other tax benefits as well. Many tax consequences come from retirees' adjusted gross income (AGI), and a QCD will reduce AGI, which could lead to less of your social security being taxed and/or lower your Medicare premiums.

Similar to donating appreciated assets, a QCD must go directly from your trustee or custodian to the charity.

4. Gifting at death to save taxes for heirs.

Most people don’t need to worry about the federal estate tax since they will leave less than $11 million to their heirs (the estate tax exemption in Illinois is $4 million), but there are ways you can improve your heirs’ tax situation. If you would like to allocate part of your estate to charity, be sure to use a pretax asset like an IRA or 401K. This way your beneficiaries don’t have to pay taxes on those assets.

You do not want to use a taxable account to donate because those beneficiaries will receive a stepped-up basis on those assets. Life insurance proceeds are tax free to the recipient, so you don’t want to donate those to charity, and Roth accounts maintain their tax-free status, so you wouldn’t want to donate that money either.  

For more on estate planning, see Estate Planning Misconceptions.

These four strategies can help you continue your charitable giving and also reduce your tax liability.

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