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Advisor's Quarterly Update

DONOR ADVISED FUNDS – IT’S A MOVEMENT!

The popularity of the donor advised fund (DAF) has become a national movement in charitable giving.  In 2016, America’s biggest charity by donations from the public was Fidelity Charitable, a donor advised fund sponsoring charity. By one estimate, contributions to all donor advised funds in 2016 alone exceeded $23 billion – yes, that’s billion with a “b.”  And if you think donor advised funds are only for your wealthy clients, a DAF can be established at many sponsoring charities for as little as $5,000.  Your middle-class clients who make relatively modest but regular annual gifts to their favorite charities will appreciate being informed how a donor advised fund may allow them to continue to benefit from the tax deductions for gifts to charity in this new tax environment.

Benefits Remain Under the New Tax Law
Under the new tax law itemized deductions have been either eliminated or severely limited. Combined with a much higher standard deduction ($12,000 for singles and $24,000 for married couples filing jointly), clients may find that they no longer itemize deductions eliminating the federal tax benefit for their charitable contributions.  By making a larger gift to a donor advised fund, it may enable the client to itemize their deductions and to also provide a source of funds for their future charitable gifts.

For example:  Your married clients were able to itemize their deductions in 2017.  They had a mortgage interest deduction of $12,300, property tax of $6,000, state income tax of $5,000.  This is well over the standard deduction of $12,000 for married couples.  The $3,000 they gave to various charities was fully deductible as itemized deductions. 

In 2018, their itemized deductions are estimated to be $12,000 mortgage interest and $10,000 (maximum allowed) for property and state income taxes, $2,000 less than the new $24,000 standard deduction for married couples.  If your client makes the same charitable gifts totaling $3,000 to various charities, the first $2,000 of these gifts would not provide any tax savings. Your client will likely be facing this problem year after year.  In all, between 2018-2020, only $3,000 of their $9,000 of total gifts will produce tax savings.

However, if your client makes a $9,000 gift to a donor advised fund (DAF) in 2018, they will receive tax savings on $7,000 of the gift to the DAF in 2018.  They can then have the DAF distribute $3,000 to the various charities they support annually between 2018-2020.

How It Works
A donor advised fund is a charitable giving program at a public charity (known as the “sponsoring charity”) where a donor can make an irrevocable gift to a fund they have established and receive an immediate income tax charitable deduction.  The fund donor can then suggest grants over time from their fund to their favorite public charities.  Financial service companies such as Fidelity Investments, Vanguard, and Schwab, as well as many community foundations and some education and religious organizations offer donor advised funds. While typical assets used to make gifts are cash and appreciated securities, some DAF charity sponsors will accept assets that may not be acceptable to a client’s favorite charity.

Why Are Donor Advised Funds So Popular?

  • Receive a needed tax deduction in a year with increased income.  For clients who experience a financial event in a given tax year that generates substantial taxable income, an income tax deduction in that year may considerably reduce their tax burden. By establishing and funding a donor advised fund, the client will generate an immediate income tax charitable deduction, potentially making it advantageous for the client to itemize deductions rather than using the standard deduction. This scenario can work well for a client who receives a substantial bonus from an employer, completes the sale of a business or a piece of real estate, or who converts a traditional IRA to a Roth IRA.
  • Use an illiquid asset to make a charitable gift. With increasing frequency illiquid assets are being used to make transformative charitable gifts.  These assets usually have appreciated substantially and carry capital gain tax liability to the donor.  A typical example is real estate, which many charities are reluctant to accept due to the potential liabilities that such gifts may incur on the charity. Some donor advised fund sponsors are experienced in accepting and selling such assets. The proceeds of sale are added to the donor’s fund for distribution to those charities suggested by the donor when the donor so wishes. Other examples of such assets are art, collectibles, and even some non-publicly traded securities and investment interests.
  • Family engagement. More families are relying on their advisors to guide them in establishing a vehicle so that philanthropy can become a family tradition. Parents engage children of all ages in a discussion to decide which charities the family wants to support. The family, as a unit, can suggest grants from their donor advised fund to the charities the family has agreed to support. Some sponsoring charities will allow a fund to exist for younger generations of family members to carry on family philanthropy.  

 

Clients want advisors who are problem solvers. As clients search for strategies to maintain their charitable giving when they may no longer be itemizing their deductions, advising them of the benefits of donor advised funds may be just the solution to the client’s problem.