If you’re planning to make significant charitable donations in the coming year, you may want to think about utilizing a Donor-Advised Fund. These accounts allow you to take a charitable income tax deduction immediately, while deferring decisions about how much to give and to whom, until a later date.
Key Characteristics of a Donor-Advised Fund Account
A Donor-Advised Fund is a tax-advantaged investment account administered by a not-for-profit “sponsoring organization,” such as a charitable arm of a financial services firm. Contributions are treated as gifts to a Section 501(c)(3) public charity, which are deductible up to a rate of 50% of Adjusted Gross Income (AGI) for cash contributions and up to 30% of AGI for contributions of appreciated property (such as stock). Unused deductions can be carried forward for up to five years while the funds themselves continue to grow tax-free until they are distributed.
Although contributions are irrevocable once made, you have the flexibility to give the account a name and also make recommendations on how you’d like your funds to be invested and how you’d like them distributed to charities, over time. You can even name a successor advisor, or prepare written instructions, to recommend investments and charitable gifts after your death.
Technically, a Donor-Advised Fund isn’t bound to follow your recommendations. But in practice, Donor-Advised Funds almost always respect donors’ wishes. Generally, the only time a fund will refuse a donor’s request is if the intended recipient isn’t a qualified charity.
Benefits of a Donor-Advised Fund
One of the most significant benefits of a Donor-Advised Fund is that its owners can immediately deduct contributions but make gifts to charities later on.
For example, Chuck typically earns around $150,000 in AGI each year. In 2017, however, he sells his business which increases his income to $5 million for the year. Chuck decides to donate $500,000 to charity, but he wants to take some time to investigate charities so that he can spend his charitable dollars wisely. By placing $500,000 in a Donor-Advised Fund this year, he can deduct the full amount immediately and decide how to distribute the funds in the coming years. If he waits until next year to make charitable donations, his deduction will be limited to $75,000 per year (50% of his AGI).
Even if you have a particular charity in mind, spreading your donations over several years can be a good strategy. It gives you time to evaluate whether the charity is using the funds responsibly before you make additional gifts. A Donor-Advised Fund allows you to adopt this strategy without losing the ability to deduct the full amount in the year when it will do you the most good.
Another key advantage relates to capital gains avoidance. An effective charitable giving strategy is to donate appreciated assets — such as securities or real estate. You’re entitled to deduct the property’s fair market value and you can avoid the capital gains taxes you would have owed had you sold the property.
Be aware that not all charities are equipped to accept and manage this type of donation. Many DAFs, however, have the resources to accept contributions of appreciated assets, liquidate them, and then reinvest the proceeds.
A Donor-Advised Fund can also help you streamline your estate planning. For more information on Donor-Advised Funds, contact your Untracht Early advisor.