The weather might be cooling down, but the conversation about tax deductions is heating up. What if you could save on taxes and do good? Well, you can do just that with donor-advised funds. In this video, Brendan shares the basics about donor-advised funds: how they’re generally structured, the tax benefits and a more powerful way to set them up.
Topics Discussed:
What are donor-advised funds?
Why is now a good time to discuss them?
How donor-advised funds work – the key term is “irrevocable”
How taxes come into play
A more powerful way to set up donor-advised funds
Transcript:
Brendan:
Hi, and welcome to another episode of Coffee with Brendan, this time a holiday edition as you can see from the Christmas tree behind me. I don't want to tell you what day it is, but spoiler alert it's before Thanksgiving and I always hate putting the Christmas tree up before Thanksgiving, but for this video, it has to do with giving and I thought it was appropriate. So we put the Christmas tree up.
Today's video is going to be about donor-advised funds and why it's so important right now. Obviously, it's end of the year for tax time and making charitable gifts is something that a lot of accountants will recommend that you do, especially if you've had a really good income year. But the other piece of it is we're talking about donor-advised funds and charity. So giving away two charity, paying it forward, things like that.
So I'm going to use the whiteboard and explain this concept to you and using us as an example, we actually just recently did one we hear at Waymark and I'll talk to you a little bit about the tax implications, kind of the black and white dollars and cents piece of this, but almost just as importantly as the behavioral side of it, where you're paying it forward and giving back to people that need your help. And you can rope in some of your colleagues that you work with. In our case, I reached out to Nikki, Brandon, and they gave us their input on which charities are near and dear to them. So we'll talk about that once I get this whiteboard up. So let me start sharing the whiteboard.
All right. So what a donor-advised fund is, is think of it almost like a health savings account, but for charitable purposes. You put a bunch of money into it. You get a tax deduction, and then from there, you have this pool of money to spend on different charities that are near and dear to your heart. So let's start that donor-advised fund DAF. In the case of Waymark, we pretty much put in a $5,000 check to start the thing off. By doing that, once that money went into there, it is an irrevocable gift. So you can't put the money in and then decide to take it out sometime later. It's as if you gave the money away to the American Heart Association. You're not going to call the American Heart Association and say, "Oh, by the way, I want $1,000 of that $5,000 back." Once you give that money away, it's gone to you, but you do get that tax deduction.
Just using easy math, let's say that we're in the 40% tax rate between our federal and state tax rate. So that works out to a $2,000 tax benefit for us. In other words, $5,000 of our income gets wiped out, doesn't get taxed at 40%. So therefore that works out to a $2,000 deduction for us. So that's a great thing. And then once that money's in there, it stays in there and we could invest it.
Typically, the companies that offer these donor-advised funds have a small selection of funds that you can get into, very similar to 401k. There's probably about five to 20 different investment options that you can choose from, but really, if you're really using this the right way, you should be putting the money in and then dispersing it out because while it's sitting in the account, it's not helping anyone. Really what you want to do is yes, you get the tax deduction, but it doesn't really impact people until that money gets dispersed out.
So in our case at Waymark here, I asked the team. I said, what charities are near and dear to you, because I obviously have my charities that are important to me. Brandon, for Brandon, it was a couple cancer organizations. So we gave money to the American Cancer Society. So let's do that. American Cancer Society, American Cancer Society. For Nikki, it was the Alzheimer's Foundation. So she asked us to give some money to the American Cancer Society.
I have a couple cancer organizations by a couple folks that were impacted by cancer from my high school. One was Beat Neuroblastoma and the other one was Marisa's Mission, and then another one that is kind of near and dear to my heart is Second Chance Canines, which is a really neat one that takes retired military working dogs and teams them up with soldiers who are suffering with PTSD.
So it was just super cool to be able to say, hey, we have all this money. It needs to go somewhere and let's throw it out to the team to actually disperse all that money. I believe all the money is now dispersed from there. So money went in, we actually didn't invest it because we wanted to get it out into the different charities as quickly as we could. But some people, they just don't have the time at that moment. Frankly, they just need the tax deduction, and they'll consider the charitable gifts sometime after that. So that's one way of setting up the donor-advised fund.
But a more powerful way is when you have stock in frankly appreciated stock. So let me show you how that one works, and this is where you get a double tax savings. Let's get our donor-advised fund again, and let's say you work for Facebook and you were able to exercise stock options and pay $1,000 to get a bunch of stock. That stock has since grown to $10,000. So you bought it for $1,000. It's now up to 10,000, so obviously there's $9,000 in gains.
If you were to just take that money out, put it into your checking account and then donate it to the charities of your choice, you'd have to pay a 15% tax, for most people, 15% tax on this $9,000 gain and then give the money away. But in this case, you are actually gifting the stock into the donor-advised fund. The donor-advised fund sells it, and since it's a charity, it doesn't pay taxes. So it wipes out that $9,000 of capital gains. Therefore, you don't have to pay that $9,000 of capital gains.
You still get the full $10,000 deduction again at 40%, that works out to a $4,000 tax benefit. And again, you didn't have to pay that capital gains tax. And then again, you could disperse out half of it, $5,000 or you could just disperse out all 10,000 of it. The money that you haven't dispersed out and you don't anticipate getting to is money that you may want to invest and do something with.
So that's pretty much the donor-advised fund in a nutshell. Hopefully, this was helpful and I'm making this right before Thanksgiving so I've broken one of my cardinal rules about decorating before Thanksgiving, but this was a special holiday edition of the coffee with Brendan. So I broke my own rule. Hopefully, this was helpful. I do hope you have a nice holiday season if we don't speak and we'll talk soon. Thanks.
Disclosures:
Securities and advisory services offered through LPL Financial, a registered investment advisor. Member FINRA/SIPC.
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The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.
This information is not intended to be a substitute for specific individualized tax advice. We suggest that you discuss your specific tax issues with a qualified tax advisor.
While donor advised funds have many advantages, some disadvantages to be aware of include but are not limited to possible account minimums, strict limits on grant allocations, management fees and the potential that future tax laws may change at any time that may impact the tax treatment and benefits of donor advised funds
LPL Financial does not provide tax advice. Clients should consult with their personal tax advisors regarding the tax consequences of investing.
The organizations presented here are for illustrative purposes only and are
not to be viewed as a investment recommendation.
This is a hypothetical example and is not representative of any specific situation. Your results will vary. The hypothetical rates of return used do not reflect the deduction of fees and charges inherent to investing.