Charitable giving with tax efficiency

Charitable giving in retirement can be structured in ways that substantially increase the efficiency of the gift. The mechanisms are well established and underused.

The itemisation problem

The context that makes this matter.

Following changes that substantially increased the standard deduction, a large majority of taxpayers no longer itemise.

Which means charitable donations produce no tax benefit at all for most people, because the deduction only helps if total itemised deductions exceed the standard amount.

The techniques below are largely about working around this.

Qualified charitable distributions

The most useful mechanism for retirees who hold traditional IRAs.

From a specified age, IRA holders can direct distributions to qualifying charities. Under current rules the amount is excluded from taxable income and can count toward required minimum distributions.

The advantage over donating cash is significant: excluding income is better than deducting it, because the exclusion works whether or not you itemise, and because lower reported income also helps with the threshold effects on Social Security taxation and Medicare premiums.

The rules are specific. The transfer must go directly from the IRA to the charity. There is an annual limit. Donor-advised funds and private foundations do not qualify. And the age at which qualified charitable distributions become available differs from the age at which required distributions begin.

Donating appreciated assets

The second major mechanism, available to anyone with a taxable investment account.

Donating securities held long term and carrying unrealised gains generally allows a deduction for the full market value while avoiding capital gains tax on the appreciation.

Selling the asset and donating the proceeds produces a worse result, because the gain is realised and taxed.

Limits apply based on a percentage of adjusted gross income, with carryforward of excess amounts.

Practically, this makes the most appreciated holdings the natural candidates for giving, and it doubles as a way of reducing concentrated positions without a tax cost.

Bunching

A technique for those close to the itemisation threshold.

Rather than giving a similar amount each year and never itemising, concentrate several years of giving into a single year, itemise in that year, and take the standard deduction in the others.

The total given is the same and the tax outcome is better.

Donor-advised funds

The vehicle that makes bunching practical.

A contribution to a donor-advised fund produces the deduction in the year of the contribution, while grants to charities can be made over subsequent years.

This separates the tax timing from the giving timing, which is the whole point.

Appreciated securities can generally be contributed, combining both advantages.

The considerations: the contribution is irrevocable, the sponsoring organisation charges fees, and qualified charitable distributions from an IRA cannot be directed to a donor-advised fund.

Charitable beneficiary designations

A simple and highly efficient approach for those giving at death.

Naming a charity as beneficiary of a traditional IRA means the charity receives the full amount with no income tax, since charities do not pay income tax on such distributions.

Heirs, by contrast, would pay ordinary income tax on the same money.

The efficient structure is therefore to leave tax-deferred accounts to charity and taxable or Roth assets to individuals, rather than the reverse.

This costs nothing to arrange and is frequently overlooked.

More complex vehicles

Charitable remainder trusts and charitable gift annuities provide income to the donor with a remainder to charity, and can be useful in specific situations involving highly appreciated assets.

These involve real complexity, meaningful setup costs and irrevocable commitments, and warrant professional advice rather than a general article.

The basic discipline

Whatever the mechanism, verify that the recipient is a qualifying organisation, keep proper documentation, and obtain the required acknowledgement for larger gifts.

Substantiation requirements are specific, and deductions have been denied on documentation grounds where the gift itself was genuine.

General information only, not tax or legal advice. Rules, limits and ages change — consult a qualified tax professional about your own situation.