Each year, our team of financial advisors receives a plethora of questions about the best strategies for end-of-year giving to non-profits and faith groups. In this article, you will find some of the most common inquiries that we encounter.
Yes, or almost always is perhaps the technically correct answer.
Giving money away does help reduce your taxable income and generally will reduce your tax liability. However, this brings up a caveat regarding the difference between the deductions and credits.
A tax credit is when the IRS gives you dollar for dollar offset for the money you have used or spent on a qualifying tax credit type of program. For example, if you use $2,000 of expense towards something and it’s treated as a tax credit, meaning that offsets dollar for dollar $2,000 worth of taxes.
Donating money to charities is not a tax credit; it is a tax deduction. This means that when you give away, for example, $10,000 to a charity, it reduces your taxable income by $10,000. Suppose you are in the 30% bracket. Then it would save you $3,000 worth of taxes.
So, that’s the simple explanation between a credit and a deduction.
Giving money to charity, a qualifying 501(c)3, a church, or a synagogue, will typically qualify you for a tax deduction and reduce your tax liability in that way.
Keep in mind that for those who do not itemize their deductions, donating money will not increase your tax deductions.
If you are interested in diving in deeper to learn the difference between standard deductions and itemizing deductions, you will want to ask your CPA or do a little Google search on your own. Suffice it to say, for most of you who fall into a higher income tax bracket; you will find a tax benefit from donating money before the end of the calendar year.
Donations of cash need to be postmarked by December 31 in order to count for this calendar year.
You can write a check on New Year’s Eve as long as the post office is open and they can postmark the envelope. It is generally a best practice to try and do it a few days before or even wire the funds, but you can do that until the end of the year.
You cannot make donations up until April 15 and receive a deduction retroactively as you can do for IRA contributions or other types of tax programs.
In addition to your 401(k)s, IRAs, Roth IRAs, and retirement accounts, many of you have an after-tax investment portfolio. If that investment portfolio includes stocks or mutual funds, it is fairly likely, given the marketing performance over the last couple of years, that you have unrealized appreciation.
Unrealized appreciation is different than realized appreciation.
Realized appreciation is when a stock you own has gone up in value, and then you sell it. When you sell the investment, the growth is realized in that calendar year and will be attributed to you as capital gains and taxable.
Unrealized appreciation is when you have a stock or mutual fund going up in value, and you haven’t yet sold it. So, you may be looking at it and thinking this is great and thinking that you don’t want to sell it while it is going up. And, with stocks, you do not pay tax on unrealized appreciation until it is realized or sold.
As we approach the end of the year, suppose you are contemplating making a charitable contribution from either cash or investments in a taxable investment account. It is almost always better to give away the appreciated assets. When you give away an investment with unrealized gain, you get the same deduction based on the fair marketing value as you would for donating an equivalent amount of cash. However, you avoid having to pay capital gains tax on the appreciation when you sell it. And, the charity you donate the stock or mutual fund to does not have to pay capital gains tax when they sell it.
For example, let’s say you are inclined to make a $10,000 donating at the end of the year. If you give away cash, you will receive a tax receipt for $10,000, which would presumably be deductible if you qualify. Instead, if you give $10,000 of stock which you invested $5,000 in, the non-for-profit will receive $10,000 worth of stock and will almost always sell it right away, and they will not tax on the gains. They will then have the capital to use to further their mission or a supporting initiative that is a priority to them, and you will not have to pay tax on that unrealized gain.
If you want to keep your account or portfolio with the same kind of integrity or investment allocation, simply take the cash you could have given, put it back into the portfolio, and repurchase the same stock. So, when you look at your account, you will have the same investments for the same value that it was, but it will now have a higher cost basis and no unrealized gain.
There is one caveat to this strategy: because 2021 has been so strong in the market, there are a lot of stocks and investments that have short-term gains.
Short-term gain is different than long-term gain by virtue of having owned an investment for less than 12 months. For example, suppose you brought stock in February, and by the end of the year, it is up significantly. It will not be beneficial to give it away because, in the case of a short-term hold, you can only deduct the cost basis for the amount you put into it. You do not get to deduct the fair market value with the significant gain.
To sum it up, giving away stock that has been held for more than 12 months and has appreciation is valuable. However, giving away stock you have held for less than 12 months, which has appreciation, is no more valuable than giving away cash. In addition, it may actually be less beneficial to give away short-term appreciated stocks than giving away an equivalent amount of cash.
As you put some thought into your end-of-year financial strategies, you can help a charity or church and also benefit your own tax situation. Donating money is a help to both the giver and the receiver and doing so with appreciated securities is generally an excellent option to explore.
Shane Tenny is the managing partner of Spaugh Dameron Tenny. Along with hosting the Prosperous Doc® podcast, Shane has a true passion for behavioral finance, helping clients and audiences understand how to develop successful strategies based on their unique temperaments. An accomplished and highly engaging speaker, Shane is regularly interviewed for television and podcasts, is actively involved in the Financial Planning Association®, and contributes to industry advisory boards.
For over 50 years, Spaugh Dameron Tenny has provided comprehensive financial planning for physicians and dentists across the U.S. In addition to providing personalized advice, we walk our clients through their options to help maximize finances and maintain financial security.
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