By Michael Donahoe, CFP®
Can you think of one person who doesn’t want to minimize their taxes and be generous at the same time? Neither can I. Donor-advised funds could be a great option to lower your taxable income, which will then decrease the amount you pay in taxes and simultaneously give more money to causes you care about. It’s a win-win situation.
Charitable Giving Under The Tax Cuts and Jobs Act (TCJA)
If you’re charitably inclined, you’re probably used to itemizing your deductions. However, with the increased standard deduction and the limit on deductions for state and local taxes, you may not have received as much of a tax benefit for your giving in the past few years since the TCJA went into effect in 2017 as you have previously. Basically, you only get a tax benefit for a fifth of your charitable giving.
What Is a Donor-Advised Fund?
This is why donor-advised funds (DAF) are gaining popularity. A DAF acts as a philanthropic savings account. You put money into it for the purpose of giving to charity and let it sit there until you are ready to give. Unlike a savings account, though, all contributions are irrevocable. Once you put an asset into a DAF, you can’t take it back.
Because you can’t take back your contributions, they are considered complete charitable gifts and immediately tax-deductible. You can take the tax deduction right away even if you wait several years to pass the money on to charity. Though you don’t technically retain ownership when you put money or assets into a DAF, you are still able to guide, request, and recommend where the money goes. You get to name your DAF account, advisors, successors, and beneficiaries, and the holder of the DAF makes the ultimate decision on where the funds go. If you’re worried about letting control of your money go, know that most DAF holders will honor donor wishes as long as the recommendation complies with legal and tax requirements and grant-making policies.
Tax Benefits of a Donor-Advised Fund
DAFs offer several tax benefits. First, you get to take an immediate deduction when you contribute, even if the money has yet to be given to the charity of your choice. Any limit to the deduction you’re allowed to take depends on what kind of assets you contribute to the DAF.
Publicly traded securities are a popular asset to contribute to a DAF. This is because you can avoid paying long-term capital gains taxes and still deduct the fair market value of the securities (if held over a year). If you buy a security at $100 and put it in a DAF when it’s worth $200, you get to deduct $200 of charitable giving without paying taxes on the $100 in gains.
Contributions of long-term capital gain property, like appreciated securities, can be deducted up to 30% of adjusted gross income (AGI). For all other contributions, including cash, you can deduct up to 60% of your AGI. If your contributions exceed your deductible limit, you can carry them forward to the next tax year.
Also, all contributions can be invested within the DAF to grow tax-free. Once assets are in a DAF, they belong to a charity and are therefore exempt from taxes.
How Are Donor-Advised Funds Used?
Let’s assume all your spending numbers will be the same for the years 2022 and 2023. The 2022 standard deduction for a married couple filing jointly is $25,900, and for now, we’ll assume it stays the same for 2023. If you continue to give and itemize as usual, then you will have itemized deductions of $26,000 each year. That means you only receive a tax benefit for $100 of your giving in both 2022 and 2023 ($26,000 itemized minus the standard deduction) and your total deductions over the two years are $52,000.
Now, instead imagine that you open a donor-advised fund in 2022 and contribute $20,000 to it to cover your charitable giving for 2022 and 2023. In 2021, you will have itemized deductions of $36,000. Then in 2023 you can simply take the standard deduction since you have no charitable giving to report. Your total deductions over the two years will be $61,100.
By utilizing a donor-advised fund, you end up with $9,100 more in deductions over the course of two years. If you are in the 24% tax bracket, that’s a tax savings of over $2,000. If you donate appreciated securities to the DAF, your tax savings will be even greater because you will not face capital gains tax on the disposal of the assets.
Are You Ready to Save Money With a Donor-Advised Fund?
Don’t let tax laws keep you from donating to charities and organizations you care about. Even with the new higher standard deductions, donor-advised funds make it possible to continue receiving a tax benefit for charitable giving. If you want to learn more about how a donor-advised fund can minimize your taxes so you can increase your generosity, our team at Harvest Asset Group is here to help. Call us at (207) 775-1151 or email us at firstname.lastname@example.org to get started.
Michael Donahoe is the founder and principal of Harvest Asset Group, LLC, an independent, fee-only financial planning and investment management advisory firm in Portland, Maine. Michael enjoyed a successful corporate career in marketing and sales before transitioning to the financial planning profession, founding his firm in 2012, where he now leads the client services team and serves as the firm’s chief compliance officer. Michael earned his MBA degree from George Washington University and completed his educational requirements to earn the CFP® mark of distinction at the University of California, Berkeley. He is a Fee-Only and NAPFA registered financial advisor, a designation which followed the completion of rigorous continuing education requirements. Michael has lived in the Portland area since relocating from San Francisco in 1995 to be closer to family. He is active in community affairs and spends his non-working time enjoying the natural beauty of Maine.