With higher standard deductions for 2018 and fewer people likely to itemize every year, Donor-advised Funds (DAFs) could be a good choice for charitably inclined taxpayers who are bunching their itemized deductions into one year so they can use the standard deduction in other years.
A donor-advised fund can be established through most community foundations and some other tax-exempt organizations. Many large mutual funds and brokerage firms also make these funds available. You can make a contribution this year that could cover several years of future contributions. Subject to limitations discussed below, you are entitled to the charitable contribution deduction in the year you make the contribution to the fund, even though the funds may go to your charities over many years in the future.
The charitable fund has legal ownership of the funds you commit, but will allow you to recommend charitable beneficiaries of the fund whenever you decide to do so. The minimum contribution to establish a donor-advised fund is established by the sponsoring organization. You may make recommendations to the sponsoring organization to make contributions to your charities, subject to a minimum contribution (such as $250). The sponsor will ask you to acknowledge that you are not receiving anything of value from the charity in exchange for recommending the contribution. You may not ask that the funds be used to satisfy a pledge you made to a charity. However, the IRS recently announced that they plan to issue regulations which will say that there will be no penalty if the charity applies a donor-advised fund contribution to an existing pledge you have made.
A large contribution to a donor-advised fund this year will allow you to make charitable contributions from the fund for many years into the future while receiving the full tax benefit now. The charitable contribution deduction is limited to 60% of your Adjusted Gross Income (AGI) starting in 2018. If you wish to gift appreciated long-term capital gain property to a donor-advised fund, your charitable contribution deduction will be limited to 30% of AGI. Any contributions in excess of these limitations can be carried forward to the following five tax years (however this would not be beneficial to the extent you are going to take the standard deduction in future years). When your donor-advised fund runs out of funds, you can replenish it with a large contribution and restart the standard deduction in the following year.
Donating appreciated stock held for more than one year to a charity (including a DAF) provides two tax benefits. A deduction is allowed for the fair market value of the donated stock (subject to the 30% AGI limitation), and the long-term capital gain tax is avoided.
Taxpayers who are over 70 1/2 years old have an additional way to receive a tax benefit for their charitable contributions while still claiming the standard deduction. They can request qualified charitable distributions (QCDs) of up to $100,000 from their IRA directly to charities (not to donor-advised funds) without including the income or deduction in their tax calculation. Even better, these QCDs can be used to satisfy their required minimum distributions (RMDs).
The tax strategy of bunching deductions is not new. Taxpayers whose itemized deductions are near the standard deduction have been able to do this for years, not only with charitable contributions, but with property taxes and to a limited extent with mortgage interest and income taxes. The new tax bill significantly increases the number of taxpayers who should consider this strategy for their charitable contributions.
Contact an MCB Tax Advisor at 703.218.3600 to discuss this tax planning strategy and whether a DAF might be a good option for you. To learn more about MCB’s tax practice and our tax experts, click here. To review our tax news articles, click here. To review a summary of recent articles related to exempt organizations, click here.