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Remember the old adage “It’s better to give than to receive”? With proper planning, it’s possible to do both at the same time. Your financial goals may include giving to the causes that are most important to you. As you plan, these strategies can help you make the greatest impact while potentially receiving tax savings too.
Ground rules for giving
The tax aspects of charitable giving can be complex. It’s always a good idea to consult a tax professional about your giving strategy. That said, here are a few ground rules:
Request a receipt if you make a donation of $250 or more to a single charity. But if the donation is in cash, you'll need a receipt or supporting bank records, regardless of amount.
- Get an independent appraisal for gifts of property in excess of $5,000 ($10,000 for closely held stock). You won't need an appraisal for exchange-traded stocks, bonds or mutual funds.
- Subtract the value of any benefits you received for your charitable contribution (for example books, tapes, meals, entertainment and so on) before you deduct it.
- Itemize deductions on your tax return if you plan to deduct charitable donations. If your standard deduction exceeds your charitable contributions and other deductible expenses, then you likely won’t itemize. You’ll help your favorite charity—which is a good reason on its own—but won’t reduce your tax bill.
- There are annual limits on the deductible donation. Donations to qualified charities are generally limited to 50% of your adjusted gross income (AGI) —unless you only give cash, in which case the limit increases to 60% of AGI. Whereas, the limit on donating appreciated assets to a qualified charities is 30% of your AGI. These limits are reduced for donations to certain private foundations.
Tax treatments by type of gift
The tax advantages of a charitable contribution generally depend on three factors: the recipient (only donations to qualified charities are deductible), how you structure the gift and the type of asset you choose to give. Different types of charitable donations—cash, stock or personal property—offer different tax advantages and drawbacks:
Cash donations are simple but as previously mentioned, make sure you keep a receipt from the charity or a bank record (such as a canceled check or statement) to substantiate your cash gift, no matter how small. Again, the AGI limit on cash donations is 60%.
Tangible personal property
You can donate almost any item, including old clothing, household goods or vehicles. Gifts of used clothing and household items must be in “good” used condition or better, under IRS tax rules. If the property doesn't relate to the charity's mission, you may deduct the amount you paid for the property or the property's current reasonable value, whichever is less. If property is related to the charity's mission—old clothes donated to the Salvation Army, for example—it's usually fully deductible based on its current reasonable value. Some charities will provide guidance on the value, but it's ultimately up to you to determine the value for tax purposes.
Ordinary income property
You can donate property created by or used in a trade or business. This includes inventory held for sale—or, if you’re an artist or craftsperson, items you created for sale. This category covers property that, if sold, would generate ordinary income (instead of long-term capital gains) such as inventory or investments held for one year or less.
The IRS limits how much you can deduct to the fair market value minus the amount of ordinary income or capital gain if you sold the asset at its fair market value. But you don’t have to reduce the deduction if you include the appreciated value of the asset in your gross income on your tax return.
Long-term capital-gain property
You can usually deduct the full fair market value of appreciated long-term assets you've held for more than one year, such as stocks, bonds or mutual funds. In addition, if you donate stocks or other investments, you pay no capital gains tax.
Donating investments—especially highly appreciated securities—instead of cash can be a very effective and tax-efficient way to support a charity. Generally, if your assets have appreciated in value, it’s best not to sell securities to generate the cash you need for a donation. Contributing the securities directly to the charity increases the amount of your gift as well as your deduction.
One rule to remember here is that the deduction is limited to 30% of your adjusted gross income (AGI). This differs from a 60% limit for donations of cash, but you can still give mixed donations (cash and appreciated assets) up to the 50% AGI limitation. If you’re not able to use the entire donation deduction this year, you can still carry forward unused deductions for five years. If you’re planning a large contribution that’s close to or exceeds these AGI limits, first talk with a tax professional.
If you’re holding securities with a loss, it’s usually better to sell first. By doing so, you can take the capital loss for tax purposes and then donate the cash. In most cases, though, donating appreciated securities can be a cost-effective way to benefit the charities of your choice.
Here's an example to help you decide if donating appreciated investments is a good option for you. Let’s assume that you’re married filing jointly, are in the 32% tax bracket, and want to donate $100,000 worth of stock. In this example, you see that donating the stock results in no capitals gains tax being paid and a larger itemized deduction.
|Option 1: Sell stock and donate the net proceeds||Option 2: Donate stock directly to the charity|
|Current fair market value of stocks||$100,000 (1,000 shares × $100 per share)||$100,000 (1,000 shares × $100 per share)|
|Long-term capital gains tax paid1||$14,250||$0|
|Amount donated to charity||$85,750||$100,000|
|Personal income tax savings2 (0.32 × amount donated to charity)||$27,440||$32,000|
1 Assumes a cost basis of $5,000, that the investment has been held for more than a year and that all realized gains are subject to a 15% long-term capital gains tax rate. The analysis does not take into account any state or local taxes.
2 Assumes donor is in the 32% federal income tax bracket, and does not take into account any state or local taxes. Certain federal income tax deductions, including the charitable contribution, are available only to taxpayers who itemize deductions, and may be subject to reduction for taxpayers with AGI above certain levels. In addition, deductions for charitable contributions may be limited based on the type of property donated, the type of charity and the donor's AGI. For example, deductions for contributions of appreciated property to public charities generally are limited to 30% of the donor's AGI. Excess contributions may be carried forward for up to five years.
The net impact of the sell transaction in this example is $13,190.
You can deduct transportation costs and other expenses related to volunteering. However, the value of volunteer time isn’t deductible.
Giving through specialized charitable vehicles
While gifts of cash or appreciated investments can be given directly to a charity, it often makes sense to consider specialized charitable vehicles to make giving easier and to manage the tax benefits. If you give regularly, endowed giving vehicles like donor-advised funds or private foundations can make sense.
Donor-advised funds, for example, allow you to make a contribution of cash or appreciated investments held for more than one year, receive a current year tax deduction, and avoid paying capital gains tax on the sale of assets contributed. You can invest funds to potentially grow over time and then grant the assets to a worthy cause down the road.
If you prefer to leave assets to charity but also earn income for a period of time, a charitable remainder trust (CRT) or pooled income fund is worth exploring.
Another donation option to consider, if you’re over 70.5 years old, is a qualified charitable distribution (QCD) from your tax-deferred retirement account, such as a traditional IRA. A QCD is a tax-free distribution from a retirement account that can be donated directly to a qualified charity and be used to meet up to $100,000 of the required minimum distribution on your retirement account. There is no tax deduction for a QCD; however, you also don’t have to include that distribution into your taxable income.
Each vehicle, strategy and provider may offer different benefits, including tax deductibility, administrative costs, flexibility and account minimums. So compare options and talk with a financial planner, Schwab Financial Consultant or a donor-advised fund provider such as Schwab Charitable to establish a giving approach to suit your needs.