Key Strategies, Benefits, and Limitations When Making Charitable Donations

Charitable giving is often the most overlooked component of estate planning, but it can provide rewarding experiences and significant donor benefits.

If you’ve considered making a charitable donation, changes introduced by the tax reform reconciliation act of 2017, referred to as the Tax Cuts and Jobs Act (TCJA), make it a good time to revisit charitable strategies and determine if there are opportunities you or your family can benefit from.

Before donating, however, it’s important to understand giving logistics—such as philanthropic limitations, strategies, and structures—and the benefits different approaches provide. 

Donation Limitations

Generally, the amount of charitable contributions an individual can deduct in any one tax year is limited by the kind of property donated and the type of organization receiving the donation.

The TCJA doesn’t change taxpayers’ abilities to take charitable deductions, but it does introduce a few new giving approaches.

TJCA Adjustments

In general, for tax years after December 31, 2017, a taxpayer is provided a deduction for cash contributions made to public charities—including a donor advised fund—equal to 60% of their adjusted gross income for the current tax year. For example, if a taxpayer has an adjusted gross income of $1,000,000 in 2019 and donates $700,000 to a public charity, his charitable deduction for 2019 will be limited to $600,000—or 60% of his adjusted gross income.

If a taxpayer makes capital gain property contributions to a public charity, he or she may deduct contributions equal to 30% of their adjusted gross income for the current tax year if the securities were held long term.

Contributions of cash to certain private foundations, veterans’ organizations, fraternal societies, and cemetery organizations are limited to 30% adjusted gross income. Contributions of capital gain property to certain private foundations, veterans’ organizations, fraternal societies, and cemetery organizations are limited to 20% adjusted gross income.

There are various exceptions to the above rules that relate to the type of entity that receives the donation and the type of property contributed. Often, there are specific rules donors must follow that impact the fair market value (FMV) of the property donated. It’s important to consult with an accounting professional before making a large donation.

Donation Strategies

Many individuals benefit from donating low-basis publicly traded stock to their donor-advised fund. This provides them the ability to achieve the following goals:

  • Offset ordinary income. Donors receive a charitable deduction equal to the FMV of the publically traded stock without having to recognize the gain on the appreciation in the value of the stock. That means the taxpayer can offset other items of ordinary income or other capital gains for the current tax year. 
  • Benefit from appreciated stock. The donor-advised fund or the public charity gets the economic benefit of the appreciated stock. They can either exercise the stock to receive cash when they receive the donation, or hold the stock until they either need the cash or can exercise to stock for more cash.

Philanthropic Structures

There are many structures for philanthropic activities, and it’s important to determine which is a better fit for your philanthropic goals.

Private Foundations

Private foundations provide a beneficial structure for individuals who donate large amounts over the course of their lifetime but who also want to maintain some level of control over the property donated—such as the ability to help manage how the private foundation invests the donation or to determine grant recipients.  

However, these benefits come with potential challenges; private foundations can be expensive to maintain due to administrative costs, annual legal and tax compliance costs, and mandatory annual 5% distributions. These requirements can cause cash-flow problems if a donor doesn’t want to cover the costs on an annual basis. Usually, private-foundation donations are only economically feasible if the donor wants to make larger donations that cover annual costs.

Charitable deductions for private-foundation donations are subject to the 30% and 20% adjusted-gross-income limitations discussed above. Individuals who give large amounts will need to properly plan annual donations to the private foundation based on these lower adjusted-gross-income limitation thresholds. If donations aren’t properly planned, there’s a risk the charitable deduction won’t be used within the five-year carryforward period.

Donor-Advised Funds

While donor-advised funds require set-up time, they’re considerably low maintenance with minimal annual costs and few management requirements. As is suggested by the title, donor-advised funds don’t allow a donor authority over contributed funds, but they do allow the donor to advise the sponsoring organization on how funds should be granted. For some individuals, this lack of control can be an issue, while others find it very appealing for someone else to manage the donation.

One potential disadvantage of a donor-advised fund is the way grants are handled; grants from a donor-advised fund are limited and usually need to go to public charities. This means, for example, a donor-advised fund often can’t be funneled into a scholarship for low-income high school students, unless the charitable purpose of the sponsoring organization is similar to the donation’s purpose.

In terms of charitable deductions, donations to donor-advised funds are subject to the 60% and 30% adjusted-gross-income limitations. If an individual anticipates having excess donations that can’t be used in the current year, making a donation to a donor-advised fund can be a beneficial strategy—allowing a larger adjusted-gross-income limitation thresholds and the ability to carry the donation forward to future tax years.

Philanthropic Strategies

Following are strategies to consider before making charitable donations.

Include Beneficiaries

One of the most important giving strategies is to include beneficiaries in conversations about charitable giving. A common giving setback occurs when donor don’t tell beneficiaries how to operate their private foundation after they pass away.

When this happens, many beneficiaries—usually the donor’s children—don’t know how to maintain the foundation and don’t want to commit the time or energy to learn the intricacies of management. The private foundation is then either abandoned or managed improperly, making it a burden on the family instead of a vehicle to promote the family legacy.

Collaborate with a Tax Professional

Working with your tax advisor to properly track your charitable contributions also provides important advantages—helping you fully benefit from AGI limitations and verify your charitable contribution deductions aren’t limited.

For example, some donations need to be restructured for a donor to fully benefit from associated charitable-deduction carry forwards. In these instances, it’s helpful to plan donations by speaking with your tax advisor and making sure current-year donations don’t impact prior-year gifts that have been carried forward to your current-year tax return.

Additionally, if a charitable contribution isn’t used in the tax year when a donation is made, it’s allowed as a deduction on subsequent tax returns for five years following the donation. Once the five-year period has passed, any charitable deduction that isn’t used in the allotted timeframe will be disallowed. It’s important to track these amounts to make sure any charitable deduction that’s carried forward to subsequent tax returns can be used during the five-year period. 

We’re Here to Help

To learn more about charitable-giving strategies, benefits, and limitations, contact your Moss Adams professional.