Can I Lower My Taxes with a Donor-Advised Fund?
Due to the passing of the Tax Cuts and Jobs Act of 2017, the Tax Policy center estimates that the number of households claiming an itemized deduction for their gifts to non-profits will be reduced from 37 million to about 16 million in 2018. The result is the TCJA will reduce the marginal tax benefit of giving to charity by more than 25%.1
Why the difference? The biggest reason is that the standard deduction under the new law has increased to $12,000 for individuals (up from $6,350 in 2017) and $24,000 for married couples (up from $12,700 in 2017). Another reason is the deduction for state, local, and property tax has been capped at $10,000.
Therefore, for those that find themselves with an itemized deduction amount that is below the new standard deduction, they will essentially not receive any additional tax benefit for those charitable gifts.
One strategy that has gained momentum because of the new tax law is the use of a Donor-Advised Fund. A Donor-Advised Fund is like a charitable investment account. It allows an individual to make charitable contributions to the Donor-Advised Fund and receive a tax-deduction in the year of the contribution.
However, funds can remain in the Donor-Advised Fund, be invested for tax-free growth over time, and then be distributed in the future to virtually any IRS-qualified public charity through recommended grants.2
Can Donor-Advised Funds Help Reduce My Taxes?
Due to the increased difficulty in itemizing as a result of the TCJA, some taxpayers are considering the benefits of bunching charitable deductions in certain years. Donor-Advised Funds can play a role in this strategy.
For example, if John and Jane routinely make charitable contributions of roughly $12,000 each year, and have capped out on their state, local, and property tax deductions at $10,000, they would have a total of $22,000 of itemized deductions, which under the new law, would not be enough to itemize. They would essentially take the standard deduction of $24,000 and not gain any real tax benefit from their charitable gifts.
However, if John and Jane decide to bunch their charitable contributions every other tax year, they could make charitable contributions of $24,000 in the first year, and still get an additional $10,000 in a deduction for their state, local, and property taxes. This would give them $34,000 in deductions in the first year. The next year, they would not have any charitable contributions and would thus take the standard deduction of $24,000.
By comparison, if they gave an equal amount in year one and two, they would have deductions totaling $48,000 (equal to the standard deduction for both years). However, if they bunch their charitable gifts, they would have deductions totaling $58,000 ($34,000 in year one, and the standard $24,000 in year two).
What are the Benefits of a Donor-Advised Fund
Bunching charitable contributions is strategy that can be used with or without a Donor-Advised Fund. But, there are a few advantages of doing it with a Donor-Advised Fund.
- Timing: With a Donor-Advised Fund, you can choose when to send your charitable gifts to the non-profit organizations you support. This provides a good alternative for those looking to do year-end tax planning, who would have otherwise been forced to make their donations all at once, in a lump sum.
- Tax-free growth: As mentioned above, the assets inside a Donor-Advised Fund can be invested and can grow tax-free. This could allow you to give more to the charitable causes you support over time.
- Flexibility on Choosing the Recipient: If you’re unsure of what non-profit organization(s) you’d like to support, but know you’d like to bunch your charitable contributions, a Donor-Advised Fund would give you the flexibility to choose the causes you’d like to support, but only when you’ve had enough time to evaluate which charities you’d like to donate to.
- Long-term appreciated assets: By donating stocks, bonds, or other long-term appreciated assets to a Donor-Advised Fund, you generally won’t have to pay capital gains tax, and you can take an income tax deduction in the amount of the full fair-market value of the assets, up to 30% of your adjusted gross income.
- Simplified Record-Keeping: By making one donation to a Donor Advised Fund, you’ll only need one tax substantiation letter.
- More Favorable Giving Limits: Donor Advised Funds allow donors to take a deduction of up to 50% of AGI for cash contributions and 30% of AGI for appreciated securities; compared to 30% of AGI for cash contributions and 20% of AGI for appreciated securities donated to a private foundation.3
Is a Donor-Advised Fund Right for You?
As with anything involving tax planning, it’s always best to consult with a qualified tax specialist for specific advice, but here are a few reasons why a Donor-Advised Fund might be good for you.
- You are a highly-engaged charitable giver
- You are expecting a high-income tax year
- You wish you had more time to decide where to give before December 31st
- You are looking for ways to reduce your taxes
- You have long-term appreciated assets with unrealized capital gains
- You wish to provide a legacy of giving
Donor-Advised Funds are certainly not a good fit for everyone. However, as taxpayers look for more ways to lower taxes in a post-TCJA world, Donor-Advised Funds could provide another way to reduce taxes. To ensure that using a Donor-Advised Fund is a good strategy for you, consult with a qualified tax specialist and investment advisor about your specific situation.
1 T18-0009 – Impact on the Tax Benefit of Charitable Deduction of H.R.1, The Tax Cuts and Jobs Act, By Expanded Cash Income Level, 2018. https://www.taxpolicycenter.org/model-estimates/impact-itemized-deductions-tax-cuts-and-jobs-act-jan-2018/t18-0009-impact-tax
2What is a Donor Advised Fund? https://www.fidelitycharitable.org/philanthropy/what-is-a-donor-advised-fund.shtml
3Donor Advised Funds – Frequently Asked Questions. http://donoradvisedfunds.com/faq.html