I am a big believer in giving back, both of time and money. However much or little one has, I believe there’s always something that can be shared for the benefit of others.
When we talk about giving money, opinions abound. Some believe giving is negated if anyone knows about it, so they give anonymously. Others believe there should be certain recognition or benefits for giving money to worthy causes.
I can see merits to both views. There are times when I’ve gifted money anonymously, but in general, I make a donation with my name attached for the tax-deductible benefits of it.
What I want to explore is a potentially more expansive tax benefit of charitable giving, called Donor Advised Funds (DAF, for short).
Most charitable giving gets deducted in the calendar year when you give the funds on your Schedule A, and only if your total itemized deductions exceed your standard deduction.
So, in the comparison to the standard deduction, if you donated $10,000 to recognized 501(c)3 charities in a year, but your total itemized deductions only exceeded your standard deduction by $2,000, then $8,000 of your giving didn’t truly give you any tax benefit (i.e., you could have gotten the same tax benefit by taking the standard deduction). It was only AFTER giving $8K that you started to see tax benefits from your charitable giving.
This is not to dismiss that it is very noble to give to charity. That first $8K is by no means a waste. However, what if we could get more tax benefit out of that giving? If that leaves more money in our pockets, we could in theory give even more.
Enter: Donor Advised Funds. These are legitimate 501(c)3’s housed by some of the bigger brokerages like Fidelity, Schwab and Vanguard. If you deposit money into one of these, it is housed in a “sub-account” of sorts, restricted for your later use to direct to other 501(c)3’s of your choosing. Important restriction: you CANNOT withdraw the money later for non-charitable uses should you change your mind. You are making an irrevocable donation to a Donor Advised Fund. Do your research on your personal finance and tax situation carefully before contributing.
If you donated your original $10K during the year, but also had cash on-hand that you could deposit $10K (one year’s worth of charitable giving) into Fidelity Charitable at the end of the year, you could deduct $20K on your Schedule A that year, reaping a tax benefit on NOW $12K of your giving! The next year, instead of directly giving money to your favorite charities, you log on to Fidelity Charitable and direct money out of your sub-account to the charity of your choosing. The charity receives the same benefit of your giving, but you see a significant tax savings. In that second year, you claim ZERO donations on your Schedule A, and now you take the standard deduction, which is now about $8K higher than your itemized deductions.
This strategy is referred to as “stacking” your donations/deductions to alternate itemizing deductions and taking the standard deduction every other year. There are other components of this within the Schedule A, but we’re only discussing DAF’s here today.
Donor Advised Funds go even further.
You choose how to invest the money in a Donor Advised Fund with a mix of stocks, bonds and money market funds based on your time horizon and risk tolerance. So while you only get a tax deduction on what you donate to the DAF, it could grow to a higher balance, you don’t have to pay taxes on the investment gains, and your impact to charity is even higher.
But we’re still not done!
Cash isn’t the only thing you can donate to a DAF. You can also donate current investments. The tax advantage here is that if you have stocks or bonds with unrealized gains, but don’t want to pay the taxes on that gain, you can donate the holdings to a DAF and never have to recognize that gain in income.
There are fees, so some homework is required. But overall, I think DAF’s are poised to be a powerful tax strategy.
Please reach out if you’d like to schedule a tax planning appointment to get some concrete numbers on the tax savings this could offer you!