For high-income earners, there is no year-end tax planning move more valuable than donating appreciated shares of stock or a fund. With the stock market continuing its ascent to new highs, philanthropic-minded investors have a great opportunity to put the tax code to work for them to boost both their charitable donations and their tax savings. If you are planning to make a year-end donation to a qualified charitable organization, you should consider the advantages of donating appreciated shares rather than a cash gift.
Charitable Contributions and the Tax Code
Integral to charitable contributions are the tax deductions allowed under the Internal Revenue Code (IRC). Contributions are an itemized deduction reported on Schedule A of your federal tax return. In any given year, you are allowed to deduct contributions worth up to 50% of your adjusted gross income (AGI). In certain cases, 20% and 30% limits apply. If you exceed the limit, your excess contributions can be carried over for up to five subsequent tax years.
Using Donated Shares to Boost Contributions and Tax Savings
When donating appreciated shares that you've held for more than one year, you not only benefit from the tax deduction for the charitable contribution; you also avoid the unrealized gains on the appreciated shares. For assets donated to a charity, the deduction is equal to the fair market value of the donated assets. That means you are able to deduct the full value of the asset even though it exceeds your cost basis. It also means you won't be taxed on the unrealized capital gain of the asset.
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For example, if you would normally donate $10,000 to a charitable organization, you could instead donate $10,000 worth of shares. If your cost basis for the shares is $6,000, your unrealized gain would be $4,000. The charity receives the full value of the shares, and you receive a tax deduction for their full value. The unrealized capital gain is "forgiven."
If, instead, you sold the shares for $10,000 and donated the cash, you would owe capital gains taxes on the $4,000 gain in value. At the higher capital gains tax rate of 23.8%, you would owe $952. As a result of selling the shares to make the donation, it would actually cost you $10,952.
In either case, you would be able to deduct $10,000 as a charitable contribution. If you are in the 39.6% federal income tax bracket, you would realize $3,960 in tax savings. However, by donating the appreciated shares, you would realize an additional tax savings of $952 for a total tax benefit off $4,912 on donated assets that cost you just $6,000!
Not All Shares Are Treated Equally
It is important to keep in mind that this strategy does not work for shares you've held for less than a year. Shares held for a year or less are considered ordinary income property, which would limit your charitable deduction to the cost basis of the shares.
It also doesn't work as well with shares that have lost value. In that case, you would be better off selling the shares and donating the proceeds to the charity. You can still deduct the full contribution and you take a capital loss deduction.
The Donor-Advised Fund Alternative
As an alternative, you could transfer the shares to a donor-advised fund. That will give you the same tax benefits, but it will allow you more time to decide which charity will receive the donation. The donor-advised fund will sell the shares and give the cash to a qualified charitable organization of your choice. You can establish a donor-advised fund at a brokerage firm or community foundation with a $5,000 to $10,000 share transfer.
As a year-end tax-planning move, donating appreciated shares is an easy way to generate big tax savings, but it does require taking action before December 31. Some brokerage firms only require paperwork and are able to complete the process in two to four business days, while other firms take longer and require a letter of authorization to transfer the shares. Mutual fund companies typically have their own forms, which can sometimes take up to three weeks to process. If you're unable to transfer shares prior to the end of 2016, keep it in mind as a tax-planning tool for 2017.
Woodring is founding partner of San Francisco Bay area Cypress Partners, a fee-only wealth consulting practice that provides personalized, comprehensive services that help retirees and busy professionals to enjoy life free of financial concern.
Craig Slayen, a new partner with Cypress Partners, contributed to this article.
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