Many financial advisors have viewed charitable giving primarily as a vehicle for reducing the amount of wealth their client lose to taxes. It’s a reasonable default setting, given that the professional’s responsibility generally is defined as maximizing wealth, and charitable deductions help to do that.
What many financial advisors don’t recognize is that, as important as the tax benefits of charitable giving might be, deductions aren’t always why clients give to charity. Some clients do so first and foremost because they want to make the world a better place; tax benefits are a secondary consideration.
Why should this matter to you? Because it’s the financial advisor’s job to help the client balance these considerations – to help them find the best ways to realize their charitable ambitions while also maximizing tax benefits. After all, paying less in taxes means they have more to give to the causes they care about. That’s why it’s important to understand tax laws related to giving and to be aware of changes to tax law – including ones this year that relate to IRAs, Roth IRAs, estate taxes, standard deductions, and more.
It’s not just about taxes
Let’s return for a moment to a point I made above: While people care about the tax implications of giving, that’s not necessarily why they give. In fact, a 2021 study by Bank of America and the Lilly School of Philanthropy found that only 56% of respondents said tax benefits were their motivation for charitable giving. What did motivate them? Their belief in the mission of an organization, the belief that the gift would make a difference, and the personal satisfaction they get from a gift.
In other words, if tax deductions are the only reason financial advisors discuss charitable giving with their clients, they’re likely missing the bigger point for many of their clients. At the same time, they’re missing an opportunity to demonstrate their value by helping clients pursue their charitable-giving objectives in the most tax-effective ways. By keeping an eye on the tax impacts of clients’ giving, financial advisors allow their clients to think more about high goals and worry less about the details.
So here’s what financial advisors need to do just that.
Start with the basics
While the tax code can feel like a moving target, advisors and their client have access to a number of evergreen tax planning strategies that can help achieve their objectives. Following are some important ones to know about.
Giving appreciated securities.
Clients with highly appreciated securities can enjoy a considerable benefit by transferring stocks, mutuals funds or ETFs directly to a charitable organization rather than selling the assets and giving the proceeds to charity. The process is relatively simple. Financial advisors or the client contact the targeted charity to get stock transfer instructions – which likely will include DTC transfer instructions to a brokerage account registered to the charity – and move the assets.
This approach triggers considerable tax benefits. First of all, the contribution of the appreciated securities will be eligible for a charitable contribution deduction based on the security’s fair market value on the date it was received in the charity’s account (not the date the transfer was initiated or the date the security was ultimately sold). But that’s not all: Because the assets are never sold by the donor, no capital gain is realized, which means clients don’t have to pay capital gains taxes on the transaction.
This benefit can be enhanced by contributing the assets to a donor-advised fund (DAF). Because a DAF is sponsored by a public charity, the contribution receives the same benefits as a gift directly to a charity, but with additional benefits: Once the DAF is established, it can issue grants to charitable organizations with input from the donor, the donor can continue to contribute to the DAF in the future, and the ability to guide its granting can be passed on to future generations. The result is an ongoing resource for charitable giving and the establishment of a family legacy.
For clients who generally claim the standard deduction, bunching charitable gifts and contributing them to a DAF can help them maximize tax benefits and charitable impact. In this approach, in one year the client contributes into a DAF the amount they might typically contribute to charity over two or more years, itemizing the deductions for that single year. In the ensuing years, the client takes the standard deduction while the DAF can grant out to charity the amount the client typically would have given from their cash flow.
Taking a Qualified Charitable Distribution
A good strategy for any client over age 70.5, especially those at required minimum distribution (RMD) age and/or those who take the standard deduction, a Qualified Charitable Distribution (QCD) allows the client to benefit from making a distribution from their IRA directly to charity. While this distribution satisfies an RMD, it is treated as non-taxable to the IRA owner, up to $105,000 per year. This distribution does not qualify for a charitable contribution deduction – it’s primary benefit is that it eliminates the tax impact that would come from receiving the RMD as ordinary income. One point to keep in mind: A QCD cannot be used to make a contribution to a DAF.
Understand changes to the tax code
It’s not too soon to start thinking about this year’s taxes, and that means being aware of changes to the tax code that will affect your clients. Following are some of the highlights related to charitable giving and taxes.
SECURE Act 2.0
While not brand new, this SECURE Act sparked changes in 2023 that are worth remembering in 2024. (Read more about the Act’s effects on charitable giving in our blog.) Most notably, perhaps, the QCD limit for 2024 will be indexed for inflation, allowing an IRA owner to give up to $105,000 as a tax-free distribution to charity. Historically, the maximum has been $100,000.
Rising Standard Deduction
While roughly 90% of taxpayers claim the standard deduction, that wasn’t always the case. Credit the Tax Cuts and Jobs Act of 2017 (TCJA) with dramatically increasing the number of taxpayers opting for this “easy button” rather than itemizing charitable, medical and other deductible expenses. In light of this new reality, it’s important to know that, indexed for inflation, the standard deduction for 2024 is $14,600 for individuals and $29,200 for married filing jointly filers – good information to have when considering the bunching strategy mentioned above.
Tax Cuts and Jobs Act Sunset
When the Tax Cut and Jobs Act (TCJA) was enacted in 2017, it came with a sunset at the end of 2025 – which, at the time, seemed like an eternity away. Now that we’re in the “golden hour” of TCJA, though, we have to consider its impact on charitable gift planning. Following are areas where we’re seeing change.
- Roth conversions. Roth conversions have been extremely popular in the era of the TCJA, as relatively lower tax brackets have made it beneficial to move assets from a traditional IRA to a Roth. Because this maneuver results in taxable income to your client, consider offsetting it with a charitable contribution into a DAF. By executing a Roth conversion and pre-funding future charitable giving now, clients can benefit before tax brackets revert to pre-TCJA levels.
- Estate taxes. TCJA significantly increased the estate tax exemption. As a result, its sunset might make estate tax planning more relevant than ever to clients. Help clients understand that charitable giving, both now and in the future, can help to lower their gross estate, and naming a charity (including a donor-advised fund or other charitable vehicle) in a will or trust, or as a beneficiary of an IRA or other investment asset, can lower their taxable estate at death.
- Higher tax brackets and lower standard deductions. Clients might find themselves in a higher tax bracket in 2026 at the same time they lose access to the higher standard deduction amounts. As such, this year might be a great time to use the bunching strategy to pre-fund charitable giving into a DAF while claiming the relatively high standard deduction one last time in 2025.
Focus on the bigger picture
Remember: If clients are like most Americans, they give to charity. And if they’re like the respondents to that Bank of America study, a lot of them give primarily in order to do good, but they also want to reap the tax benefits. Charitable giving offers wealth advisors a tremendous opportunity to increase their value by helping clients achieve both of those objectives.
If you’d like to learn more about how to discuss charitable giving and taxes with your clients, talk to our experts at Ren.