Giving is one of the most important parts of a fulfilling life. The act of giving actually makes you less selfish (crazy thought, right?). When you are more generous, you have a lightness to your heart, and you feel less “gummed up” inside. Giving has been a big part of my family’s life no matter our financial situation, and I hope you will consider it as part of your financial plan.
Not to sound selfish (pun intended) but giving can reduce taxes. There are 5 main ways to give that also reduce your tax burden. Now, if you have an estate that approaches $5 million, you will want to consider alternative (and more complicated) giving strategies involving trusts and significant estate planning. If you have further questions about charitable giving, feel free to reach out to me at ryan@ifpinvest.com or 571-969-1459.
Strategy #1: Direct giving. If you itemize deductions on your taxes, you get a deduction for the amount you give to nonprofit organizations (churches, charities, hospitals, other nonprofits, etc.). So, if you make $100,000 and you give $30,000 to charity, you would only have to pay taxes on the $70,000. Your itemized deductions need to the exceed the standard deduction, which, in 2022, is $12,950 (individual filers) and $25,900 (married filing jointly). Itemized deductions include the following.
- Charitable giving*
- State and local taxes up to $10,000*
- Interest paid on your home mortgage (limits apply)*
- Medical, dental, and qualified long-term care expenses (total above 7.5% of AGI)
- Investment interest (margin interest)
- Casualty losses in a federal declared disaster area
- Mortgage insurance (<$100,000 AGI)
* most common
So, if you are single, pay $10,000 in state and local taxes and pay $3,000 in mortgage interest for the year, any amount that you give to charity is tax-deductible because you would be itemizing your deductions. But, if you are married, pay $10,000 in state and local taxes, and pay $5,000 in mortgage interest, you would still need to give $10,900 in charitable giving before it would make sense to itemize your deductions. Since the standard deduction is so high, there is a significant “barrier” to truly utilize the tax advantages of charitable deductions. This leads us into Strategy #2.
Strategy #2: The Deduction Maximation Strategy. This is where you “save up” what you are going to give over multiple years, and then give it. This way, you get significantly above the “standard deduction barrier”. You might want to give an elevated amount in one year as opposed to smaller amounts over multiple years. This way, you take a large itemized deduction one year and then take the standard deduction the other years. Let’s say you make $120,000 per year at your job. You decide to give away $10,000 each year. The chart below shows the tax savings from the deduction maximization strategy.
“Ok Ryan, I see the tax savings here. But what if I have a large amount of money that I want to give away right now… not 3 years from now. Furthermore, I don’t know where I want to give it yet, but I want to save on taxes now.” Well, enter strategy #3.
Strategy #3: Donor Advised Fund (DAF). The DAF allows you to contribute all your charitable giving into one fund. You can open them with investment companies such as Edward Jones. Edward Jones would be called a DAF plan sponsor. You then donate all your allocated giving money to your DAF. In future years, you can direct where the money goes (let’s say the Red Cross). So 2 years from now, you could tell Edward Jones, “I want $5,000 of my DAF to go the Red Cross.” It’s that easy. One slight caveat is that the plan sponsor doesn’t have to send the money exactly where you tell it to go (they aren’t legally obligated), but they generally do follow your guidance. Let’s talk through one more example.
Let’s say you get a $30,000 bonus at year end and you want to give it away to charity. But you only have 1 month to decide where to donate it because the bonus enters your bank account at the end of November. That might not be enough time to decide what charity to give it to. But you can put it in a DAF, and you would get the charitable tax deduction for this year. In future years, you can decide where you ultimately want the money to go.
Strategy #4: Appreciated Stock. If you had to choose between gifting $50,000 in cash and $50,000 in stock that you bought for $20,000 year ago, choose the stock. When you gift appreciated stock, you get to deduct the stock’s value but not pay taxes on the gain. The charity gets the full amount of the gift. You’ve given a $50,000 gift* (with $50,000 of tax deduction savings) that only cost $20,000.
* Note that this strategy might give you some carryover gifting that you will need to apply to future years. Each year, you can only give the value of appreciated stock up to 30% of your AGI. So, if the appreciated stock’s value that you are giving exceeds 30% of your AGI, the remaining value will “carry over” to future years (for 5 more years) for you to utilize in your itemized deductions.
Strategy #5: Qualified Charitable Distribution. If you have an IRA and you are subject to Required Minimum Distributions (RMDs), but you don’t want to take them, then you can direct the IRA to send money directly to a nonprofit organization of your choice. This satisfies the RMD requirement, and you pay no taxes on the distribution.
