With the end of the year around the corner, gifting to charities becomes a focus for many individuals and families. Typically, for most people, charitable gifts will be made with cash. However, donating appreciated assets may be the better option, and using a Donor Advised Fund (DAF) can help simplify that process.
What Are Donor Advised Funds?
Donor Advised Funds are specialized accounts designed for charitable giving. They provide a flexible and efficient way to manage donations to your favorite nonprofits. Essentially, a DAF allows you to make a charitable contribution, receive an immediate tax deduction, and then recommend grants from the fund over time to the nonprofits of your choice.
How Do They Work?
1. Establishing the Fund: To begin, you open a Donor Advised Fund with a sponsoring organization, such as a community foundation or financial institution that offers DAFs.
2. Contributing Assets: You can contribute a variety of assets to your DAF, including cash, stocks, real estate, and other appreciated assets. Once the contribution is made, you receive an immediate tax deduction for the value of your donation.
3. Investing the Fund: The assets in your DAF can be invested and have the potential to grow tax-free over time, allowing for even more impactful charitable contributions.
4. Recommending Grants: At any point, you can recommend grants from your DAF to qualified charitable organizations. The sponsoring organization will perform due diligence to ensure the grants are distributed properly.
5. Simplifying Record-Keeping: All contributions, investments, and grants are managed and tracked by the sponsoring organization, simplifying record-keeping and ensuring compliance with IRS regulations.
Why Consider a Donor Advised Fund?
1. Flexibility: Contributions can be made when it is most advantageous for you, while grant recommendations can be scheduled over time.
2. Tax Efficiency: Immediate tax deductions, potential capital gains tax savings, and tax-free growth of assets.
3. Legacy Planning: DAFs can be a part of your estate plan, allowing you to create a lasting legacy by supporting charitable causes you care about, even beyond your lifetime.
4. Privacy Options: If you prefer to keep a low profile, some DAFs allow you to make grants anonymously.
What is the Best Way to Use a Donor Advised Fund?
One of the primary benefits of a DAF is the immediate tax deduction you receive, equivalent to the fair market value of the contributed assets. This feature presents a compelling incentive, particularly when contributing appreciated securities such as stocks, as it allows for tax-efficient giving.
Example: Gifting Appreciated Stock
Consider Mr. Johnson, a 58-year-old donor with a portfolio of appreciated stocks. He originally purchased shares in a technology company more than a decade ago for $5,000, and these shares are now valued at $20,000. Should Mr. Johnson sell these stocks, he would face capital gains tax on the $15,000 appreciation.
Instead, Mr. Johnson opts to transfer the appreciated stock directly into his DAF. By doing so, he eliminates the capital gains tax liability, as the donation itself is non-taxable upon transfer to the DAF. Additionally, Mr. Johnson receives an immediate tax deduction for the full current value of the stock, thereby potentially reducing his taxable income by $20,000 for that fiscal year.
Once the stock is in the DAF, Mr. Johnson retains the ability to recommend distributions to his favored charities, maximizing his potential impact while enjoying the thoughtful planning opportunities DAFs provide.
Conclusion
Donor Advised Funds represent a versatile and tax-efficient option for individuals who are planning charitable gifts. DAFs enable donors to make a charitable contribution, receive an immediate tax deduction, and remain in control of grants over time to their favorite charities.
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