Many people know they can donate appreciated marketable securities in lieu of cash to their favorite causes, but they miss opportunities to secure the tax benefits of doing so. And they often miss opportunities to secure similar tax benefits with real estate and private business interests as well.
- Cash may be the worst asset you can give charitably.
- Charitable gifts of appreciated marketable securities can provide dramatically enhanced tax benefits.
- Real estate and privately owned businesses may offer the greatest overall charitable tax benefits.
What is the single biggest mistake people make when it comes to planning their charitable giving? It’s giving exclusively in the form of cash. When it comes to charitable giving, most people think about writing a check or dropping some cash in the Salvation Army’s red kettle at Christmas. This mindset can be unfortunate, and costly. For two primary reasons, it’s wise to find ways to give other types of non-cash assets:
First, there are generally enhanced tax benefits to giving certain non-cash assets, such as marketable securities, real estate, and privately owned businesses. These can enable you to pay less in taxes and/or give more to charity.
Second, non-cash assets are where the vast majority of people’s wealth resides. According to IRS statistics, of all the giving that is done in the United States each year – more than $400 billion in 2018 – 80 percent of such gifts are simply made in the form of cash. That means only 20 percent of gifts are made in the form of non-cash assets, and much of that includes tangible personal property such as clothing, appliances, books, etc., that are gifted to organizations such as the local Goodwill.
However, if we look at the cumulative composition of wealth owned by families, cash represents less than 10 percent of what people own. Therefore, much of the wealth comprising the other 90 percent of what they have provides excellent opportunities for charitable giving but, too often, is never even considered.
Why cash is not king
It can be argued that cash is the worst asset to give charitably. True, clients generally receive a charitable income tax deduction, which may significantly reduce their tax liability. But certain types of appreciated non-cash assets – such as marketable securities, real estate, and privately owned businesses – may provide double or even triple tax benefits by securing the same or similar charitable income tax deductions and also avoiding capital gains tax that would otherwise be triggered upon the sale of those assets.
A charitable gift of cash is eligible for a charitable income tax deduction against ordinary income tax rates up to 60 percent of a taxpayer’s adjusted gross income (AGI). This can be a very significant benefit and incentive for clients to give charitably. For example, a client can save up to 37 percent on cash contributions to charities for federal tax purposes and may save additional taxes at the state level. In high-income-tax states such as New York (8.82 percent), Vermont (8.75 percent), New Jersey (8.97 percent), Oregon (9.9 percent) and California (13.3 percent), the highest-income taxpayers may be paying almost 50 percent of their income in taxes.
In such situations, clients may essentially be receiving a matching dollar-for-dollar subsidy from the federal and state governments for their charitable contributions. For every dollar that clients give, they save as much as 50 cents in taxes. So, practically, the client gives 50 cents, and the federal and state governments give 50 cents in tax savings. Clearly, our federal tax code and many state tax codes provide generous incentives and benefits to taxpayers who are generous.
Our federal tax code and many state tax codes provide generous incentives and benefits to taxpayers who are generous.
However, even greater tax benefits can be secured by giving certain appreciated assets instead of cash. Most advisors and many individuals and families are aware of the leveraged tax benefits of giving appreciated marketable securities in lieu of cash to charities. Consider a taxpayer in the highest federal income tax bracket in a state with a five percent income tax rate—a 42 percent total tax rate. She’s considering making a $250,000 charitable gift in support of a charity that is building a hospital in Africa. If she simply writes a check for $250,000, she’ll save $105,000 in taxes. But she can do even more than that!
The power of giving marketable securities to charity
Now, instead of writing a check, what if she selected $250,000-worth of her most highly appreciated stocks from a marketable securities portfolio, gave the stocks to charity, and then took the cash she otherwise would have given to charity and repurchased the same stocks (or different investments if desired). If the stocks selected were originally purchased for $100,000, upon their sale, she would recognize $150,000 in capital gains. Taxes owed upon sale would include a federal capital gains tax of 20 percent, a state income tax of 5 percent and the Medicare tax on net investment income of 3.8 percent for a total tax rate of 28.8 percent. On $150,000 of gain, this amounts to a tax liability of $43,200.
However, because she gave the stock to charity and allowed the charity to sell the stock, the $43,200 of taxes otherwise due upon the sale would be completely avoided. Yet she would receive the same charitable income tax deduction of $105,000 as she would have by giving cash.
So, a $250,000 cash gift would have “cost” her $145,000 because of the tax savings from the charitable income tax deduction. But a $250,000 gift of appreciated marketable securities would cost her only $101,800. She saves $43,200 more in taxes by simply giving stock instead of cash. The charity ends up with the exact same amount of funding. Some people even decide to give some or all of this additional tax savings to charity as well – for which they receive an additional charitable deduction. It’s important to keep in mind that gifts of non-cash assets to public charities are deductible up to 30 percent of the giver’s adjusted gross income (AGI), compared to cash, which is deductible up to 60 percent of AGI. Gifts exceeding these thresholds may be carried forward to future tax years for up to five additional years.
People frequently miss opportunities to give assets like real estate.
What givers and their advisors often overlook
Although many advisors (and some givers) know about the strategy of giving appreciated marketable securities in lieu of cash, the opportunities to secure these enhanced tax benefits are too often missed. Even more frequently missed are opportunities to give other assets like real estate and privately owned business interests prior to a sale. Oftentimes, gifts of real estate and privately owned businesses provide even greater tax-leveraged opportunities because the income tax basis for these assets is often lower than the basis of a client’s marketable securities. Thus, there’s a greater built-in gain that is subject to tax upon sale.
For example, real estate that has appreciated in value and that has been depreciated over time will often have a very low income tax basis, while a successful business that was started from the ground up may have little to no tax basis. So, while publicly traded stock worth $500,000 with a basis of $250,000 would generally be considered a good asset to give to charity, a gift of real estate worth the same amount but with a basis of $100,000 would provide even greater tax savings and leverage.
Of course, gifts of marketable securities are significantly easier to facilitate than gifts of real estate and privately owned businesses. And the timing of a sale of marketable securities is generally much easier to control and dictate than a sale of real estate or an interest in a business. However, in the right situations, the additional tax savings and leverage are well worth the extra effort and complexity.
In addition, for many families, the bulk of their wealth may be tied up in real estate investments or the family business, and they may not have a significant marketable securities portfolio from which to gift appreciated assets. In those situations, a gift of real estate or an interest in a privately owned business may be their only leveraged opportunity for giving from non-cash assets.
By simply refocusing your giving from cash to certain non-cash assets, you can achieve significant value in the form of lower taxes, and position yourself to give more to charity at no additional cost to yourself or the charity.
Photos: Alex Wong and Cosmic Timetraveler, Unsplash