September 19, 2023 • 24 mins
The majority of people who participate in some level of charitable giving in retirement aren't getting a tax deduction for any of it. While external reasons should drive charitable giving, you should absolutely look to maximize the tax effectiveness of any giving you're already doing.
In this episode, James covers how to optimize your tax benefits, detailing donor-advised funds, an often-overlooked tool for maximizing your tax benefits.
Learn about when to write off cash contributions, gift appreciated securities, and how your mortgage can play a role in the deductibility of your giving.
Questions answered:
What should you do differently with your tax strategy when making charitable donations?
When does a donor-advised fund make sense for you?
Timestamps:
0:00 Intro
1:28 Deductions
4:02 Why it matters
6:15 Donor advised fund
11:03 Important information
14:16 When does it make sense?
17:43 When does it not make sense?
23:09 Outro
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Transcript
Episode Transcript
Available transcripts are automatically generated. Complete accuracy is not guaranteed.
Speaker 1 (00:00):
The majority of people I meet with who do some
level of charitable giving inretirement aren't actually
getting into tax deduction forany of it, and while charitable
giving should be driven byreasons I have nothing to do
with taxes, you shouldabsolutely look to maximize the
tax effectiveness of any givingyou're already doing.
A donor-advised fund is anexcellent way to do this, and in
today's podcast, I'll show youhow.
(00:20):
This is another episode ofReady for Retirement.
I'm your host, james Kanol, andI'm here to teach you how to
get the most out of life withyour money.
And now on to the episode.
So just a bit of backgroundbefore we go into today's
episode, because prior to 2018,I would say, this strategy was
(00:41):
not used a whole lot, and maybeI shouldn't say it wasn't used a
lot, but it wasn't used to theextent that it now makes sense
to use it today.
Well, what happened in 2018?
New tax law went into effectand one of the changes with new
tax law is a standard deductionwent up pretty dramatically.
So, if you go back to 2018, thestandard deduction for a
married couple was $13,000.
(01:03):
For 2023, that standarddeduction is $27,700, or, if
you're both 65 or older, $30,700.
So, for the sake of thispodcast, I'm going to use that
$30,700 number as an example.
If you're single, you cansimply cut that in half.
The standard deduction justdoubles based upon your married
(01:25):
status or your tax filing status.
But what does that mean?
What does the standarddeduction even mean?
Well, the IRS says you candeduct things on your tax return
Things like mortgage interest,things like charitable giving,
things like state and localtaxes up to a cap.
So when you go to file your taxreturn, you add all of these
things up.
(01:45):
Now, this isn't a comprehensivelist when I talk about mortgage
interest, charitable giving andstate and local taxes, but
they're the three most commondeductions.
So when you go to file your taxreturn or your CPA goes to file
your tax return, if you add allthose things up and it's
greater than $30,700, then youcan use that number for your
deductions and that's called anitemized deduction.
(02:07):
Itemized meaning you list outhere's how much I had a mortgage
interest.
Here's how much I had in stateand local taxes.
Here's how much I had incharitable giving.
But if it's less than $30,700,again, I'm using the number for
2023, people who are 65 yearsold and older if it's less than
$30,700.
When you add up all these items,then the IRS says you can just
(02:29):
use something called thestandard deduction, which is
$30,700.
Now this is nice because let'ssay you only have $20,000 of
deductions.
Well, you still get to writeoff $30,700 on your tax return,
even if you only have $5,000 oreven $0 in deductions.
When you add up state taxes,charitable giving, mortgage
(02:49):
interest, things like that evenhypothetically, if you had $0 of
any of those, you could stilldeduct $30,700 on your tax
return.
Now, this isn't a tax credit.
It doesn't reduce your taxes by$30,700, but reduces your
taxable income by that amount.
So, for example, if you earnedexactly $130,700 and you're
(03:13):
married finally and jointly andyou're both 65 or older, then
you take that standard deductionand you only pay taxes on
$100,000.
So you earn $130,700, but$30,700 is deducted from your
earned income and you're payingtaxes on the remaining $100,000.
So in 2018, when they raisedthe standard deduction and when
(03:36):
they capped state and localproperty taxes, what that means
is, no matter how much you payin state taxes, whether it's
state income taxes or propertytaxes you can now only deduct
$10,000 per year.
When they made those changes,you had 30% of the population
prior to 2018 was itemizing ourtax return.
Now, only about 10% of thepopulation itemizes their giving
(03:58):
and the remaining 90% simplyuses the standard deduction.
So why does this matter?
Seems like a good thing.
In general, more people aretaking advantage of a higher
deduction.
Well, here's why it matters.
If you are giving, so, ifyou're doing charitable giving,
and if your total deductionsdon't exceed 30,700, you're
really not getting to deduct anyof your giving at all.
Quick disclaimer as I said atthe beginning, your giving
(04:20):
should have nothing to do withtax deduction.
You should give out of thegoodness of your heart.
You should give because youcare about.
You shouldn't be doing it forthe tax deduction.
But also, like I said at thebeginning, if you are giving to
a charity a qualified charitylet's do all that we can to get
the tax benefit for that.
So let me actually walk youthrough an example something
(04:43):
that's very common in what I seewhere people are giving and
they're giving very generously,but they're actually not getting
any tax benefit for doing so.
Let's assume that we have acouple and they're both 65 years
old and they're giving $15,000per year to charities.
Let's assume that this couple'sretired and that before
retirement, they paid off theirhome, so they no longer have any
mortgage interest that they candeduct.
(05:05):
And let's assume that they pay$20,000 in state taxes between
their property taxes and theirstate income tax, but they can
only deduct $10,000 of it.
So, again, part of the stateand local tax cap is it doesn't
matter how much you pay in stateand local taxes.
The max that you can deduct is$10,000.
Let's use an extreme examplewith this couple.
(05:25):
Let's assume that for the next30 years, they continue to give
$15,000 per year, for the restof their lives, or at least for
the next 30 years.
Keep in mind and this is why Isay this is an extreme example
current tax law is set to sunsetat the end of 2025.
And it could be extended, whichmeans current brackets could
stay in place.
But if it doesn't, tax lawreverts to 2017 levels and at
(05:49):
that time, standard deductionswere $13,000, which would be
adjusted for inflation, so it'dbe a bit higher when things
revert.
But the bottom line is weprobably won't have the same
exact tax brackets forever.
We almost certainly won't.
But let's run the analysis asif we did just to illustrate
this concept, and then we'llunderstand the disclaimers and
the nuance of all this, of howwould changing tax law actually
(06:10):
impact some of this?
But before we do so, if we justcarry on with that analysis,
let's understand what would thededuction be for this 65 year
old couple.
Well, number one is mortgageinterest.
But, as I mentioned, they don'thave a mortgage anymore.
They paid off their home, sothere's $0 that they get to
deduct there.
Number two is state and localtaxes.
They pay $20,000 in state andlocal taxes, but the cap that
(06:33):
they can deduct is limited to$10,000 on their federal tax
return.
So now we can take $10,000 ofthat and deduct it.
Then, finally, we have theircharitable giving, and they're
giving a pretty healthy amount.
They're giving $15,000 per yearaway.
So what we have now is we have$10,000 in state and local taxes
, we have $15,000 in charitablegiving.
(06:54):
That adds up to $25,000.
Well, as I mentioned before, thestandard deduction is $30,700,
which means they're under thestandard deduction, which means
when they go to file their taxes, they're not going to itemize,
they're just going to take thestandard deduction.
So, technically, because ofthat, over those 30 years, even
though in this case they wouldhave given $450,000 away to
(07:17):
charity, they've deducted noneof it because they've simply
taken the standard deductionevery single year over the
course of that time, againassuming in this example the tax
law stays as it currentlystands.
So when I tell clients this,sometimes they're shocked to
hear that they're not gettingany deduction.
Other times they just kind ofsay, yeah, I guess that's the
way it is, but I tell themthere's a better way to do it,
(07:39):
and that's where the donoradvised fund comes into play.
Let's say, for this exampleclient that we just talked about
, they have their investmentsand they have traditional IRAs,
roth IRAs, and they also have ajoint brokerage account.
Here's what I propose to them.
I'll say let's use somethingcalled a donor advised fund.
Think of it as a giving fund.
Now, with this giving fund, soas donor advised fund, anything
(08:00):
you gift to it is an irrevocablegift.
So if you give $20,000 to it,you can't take $20,000 back.
However, you do control howthat gift is invested and you do
control how that giftultimately gets given over the
course of time, because when yougive money to the fund, you
(08:22):
still retain control over thefund, even though it's
irrevocable.
Let's assume I put $20,000 intomy donor advised fund today.
I control how that $20,000 isinvested and, more importantly,
I control the timing of whenthat $20,000 is actually given.
So hypothetically, and maybe noteven hypothetically, but in
this client situation, what weproposed was we said you're
(08:42):
given a very healthy amount ofmoney to charity.
What if I'm just going to throwa number out there what if we
took $100,000 from yourbrokerage account which you're
planning on using to give tocharity over the next number of
years?
What if we took $100,000,gifted it, not to any one of
these individual charities today, but gifted that to your donor
(09:03):
advised fund?
What that does is you nowcontrol still all that $100,000.
But the benefit is you get todeduct all of that this year.
So if we use the same numbersas before, that's $100,000 now
in charitable giving that theycould deduct, and the $10,000
and stay in local taxes aboveand beyond that that they could
(09:23):
deduct.
So now you have one massivededuction of $110,000 this year
that will really drive your taxbill lower.
There are rules on how much youcan deduct with a charitable
gift to a donor advised fund andthose rules are different
whether you give a cash gift tothe donor advised fund versus if
you use appreciated securitiesto give to the donor advised
(09:44):
fund, but regardless, there'snow a substantial deduction that
they can use, and any of thatdeduction that they can't fully
use this year because maybe itexceeds the limits of how much
they can deduct, they can carryforward that to future years.
Hey everyone, it's me again forthe Disclaimer.
Please be smart about this.
Before doing anything, pleasebe sure to consult with your tax
planner or financial planner.
(10:04):
Nothing in this podcast shouldbe construed as investment, tax,
legal or other financial advice.
It is for informationalpurposes only.
So, going back to this coupleexample, I propose to them let's
put $100,000 into this donoradvised fund.
This isn't $100,000 you have tocome up with your bank account.
Let's just shift some money inyour existing portfolio that you
(10:24):
were already intending so it'salready kind of earmarked to use
for gifting.
Let's front load your fundtoday.
You get a major tax benefittoday and now, going forward,
instead of using funds from yourbrokerage account to gift
$15,000 per year, well, let'ssimply give it from your donor
advised fund.
With $100,000 in there, thatfund might last seven years,
(10:47):
eight years or longer, becausekeep in mind that money is now
growing.
So if we put $100,000 in, ifit's grown by even a few percent
each year.
That's money that you can nowuse to gift and none of that
growth is taxable to you andit's just more money that you
can ultimately give to charities.
Here's some importantinformation to know about donor
advised funds.
Number one any cashcontributions that you make to
(11:10):
donor advised fund.
You can write off up to 60% ofyour adjusted gross income via a
donor advised fund.
For example, let's assume youradjusted gross income is
$100,000 and let's also assumethat you gift $100,000 to a
donor advised fund.
What you cannot deduct theentirety of that $100,000 gift.
(11:30):
The most that you can write offis 60% of your adjusted gross
income.
So if your adjusted grossincome is $100,000, $60,000 is
the limit of how much you canwrite off on your taxes that
year, assuming you made thatdonation via cash.
Now, anything that you don'twrite off this year, you can
carry that forward for up tofive years.
(11:52):
So if you write off $60,000this year, you could potentially
write off up to remaining$40,000 the following year.
So that's one thing to keep inmind is there are some limits as
to how much you can deduct eachyear.
Now here's a beautiful thingabout donor advised funds is you
don't have to just gift cash.
You could gift appreciatedsecurities.
So, in that same example, whatif you bought Apple for $1,000
(12:17):
years and years and years ago,and now it's worth $100,000?
Well, you could gift Applestock directly to your donor
advised fund.
Here's the amazing thing aboutthat is that Apple stock,
depending on your tax bracket,might only be worth $75,000 or
$80,000 to you if you're in ahigher tax bracket, but if you
gift the $100,000 worth of Applestock with $99,000 of
(12:40):
unrealized gains, you get thetax deduction of the full
$100,000 in.
Your donor advised fund getsthe full $100,000.
So it's an amazing way not justto lump all of your
contributions into one year allof your charitable giving, I
should say into one year to takeadvantage of a massive
deduction, but it's also a greatway to avoid taxes on an
(13:01):
appreciated asset.
Here's the thing with that,though, is if you're not giving
to your donor advised fund withcash, but instead you're giving
with appreciated securities and,by the way, securities could be
stocks, it could be mutualfunds, it could be businesses,
it could be real estate.
So there's a lot of things thatyou can actually gift to a fund
.
30% of your adjusted grossincome is the cap on what you
(13:24):
can deduct.
So in that same example, let'sassume you earn $100,000 per
year, you have the Apple stockworth $100,000 but you only paid
$1,000 for it.
I'm assuming you bought wayback when you could only deduct.
If you gifted that full$100,000 of Apple stock to donor
advised fund, $30,000 on thisyear's tax return because 30% of
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your adjusted gross income isthe limit.
The remaining amounts couldcarry forward again to future
years.
But that's something that youneed to be mindful of when
you're doing your tax planningand your giving planning.
So that's a basic overview ofhow donor-advised funds work and
how they can save you a lot ofmoney and taxes simply
rearranging the way that you doyour current giving.
But let's talk about when theydo make sense and when they
(14:07):
typically don't make sense.
Of course, this isn't universal, but this is just broad
guidelines.
Make sure you're talking withyour tax planner and your
financial advisor about whatmakes most sense for you.
But when does a donor-advisedfund make sense for you?
Well, number one if you'redoing a fair amount of plan
giving to start with, if you'regiving a few hundred bucks here
and a few hundred bucks there,you're probably not going to do
(14:28):
a donor-advised fund Adonor-advised fund, you're going
to want to do a moresignificant amount of giving,
because you're already planningto do that giving anyways.
So if you're planning on givingsix grand, eight grand, ten
grand per year or more, thatcould absolutely be a case where
setting up a donor-advised fundmakes a lot of sense.
The second instance is you haveno mortgage or a small mortgage.
(14:51):
Now, what on earth does amortgage have to do with your
giving?
Well, nothing in terms of theactual giving.
But it has to do everythingwhen you actually factor in the
deductibility of that giving.
If you have a large mortgage,or even a medium-sized mortgage,
chances are good that you'regoing to be itemizing your
deductions.
Let's assume you have a$600,000 mortgage and you are
(15:11):
paying $25,000 per year inmortgage interest on that
mortgage.
Well, that, plus some state andlocal taxes, that alone
probably is already putting youinto the zone where you're going
to be itemizing your deductions.
So any charitable giving you do, above and beyond that, you are
taking advantage of that from atax perspective because you are
adding that to the deductionsthat you're able to take.
(15:33):
But if you don't have amortgage, if you have a very low
mortgage, it takes asignificant amount of giving to
actually get up and over thestandard deduction limits.
So when I'm reviewing aclient's tax return to do some
tax plan for them, one of thefirst things I'm looking at is
really, do they have a mortgageand, if so, how much mortgage
interest are they paying?
Because if they're paying verylittle mortgage interest and
(15:56):
they're doing a prettysignificant amount of charitable
giving or even a fair amount ofcharitable giving, that's where
a donor revised fund likelymakes a lot of sense.
Another time where it might makesense is you are in a medium to
high tax bracket, even ifyou're already itemizing your
deductions.
Let's assume that you'reworking right now and you have a
very high income job.
Let's assume you're in the toptax bracket, you're at 37%
(16:19):
federally plus whatever yourstate tax bracket is.
But let's also assume you'regoing to retire next year and
when you retire your income isgoing to drop way down.
Well, when your income dropsway down, any charitable giving
you do in those years it doesn'tsave you as much in taxes.
Because, for example, let'sassume that you're in a 10% tax
bracket and you give $10,000 tocharity and you deduct all of it
(16:41):
Again.
What it's doing is it's notoffsetting your taxes, it's
offsetting your taxable income.
So if you reduce your taxableincome by $10,000 when you're in
a 10% tax bracket, it's reallyonly saving you $1,000 in taxes.
That's 10% of $10,000.
Let's assume you're in yourfinal year of work.
Do you want to lump a lot ofyour giving in that year Not
(17:05):
necessarily giving it directlyto the charity, but giving it to
your donor-advised fund andthen in subsequent years using
those funds to gift directly tothe charity?
What that does.
Let's assume you're in a highincome tax bracket in a high
income tax state, say California.
Well, if you gift $10,000 extrato donor-advised fund that year
, that saves you 50% in taxesbetween federal and state.
(17:29):
So that $10,000 gift saves you$5,000 in taxes.
So looking at your tax bracketis another important
consideration when determiningif this is right for you.
So that's when doing adonor-advised fund might make
sense.
Let's now talk about when itmight not make sense.
For one there's an option is ifall of your money is in a
(17:49):
traditional IRA and retirement,it probably doesn't make sense
to do a donor advice fund.
Why is that?
Well, any gifting that you needto do to your donor advice fund
has to come out of your IRA.
So let's go back to a previousexample.
We talked about maybe gifting$100,000 to a donor advice fund.
Well, if you're taking $100,000out of your IRA so that you can
(18:10):
take $100,000 to gift to yourdonor advice fund, sure, you're
getting a major tax deduction,but you're also creating excess
income because you took moneyout of your IRA.
So any benefits of the donoradvice fund in that specific
example would likely be 100%,and maybe even more than 100%,
offset by the liability ofpulling funds out of your
(18:30):
traditional IRA.
Now, quick side note one thingthat I like to pair with donor
advice fund contributions is aRoth conversion.
So I'm not getting into thattoo much in today's podcast, but
there's an excellent strategywhere, if you're going to do a
donor advice fund that's goingto create a major tax deduction,
well can we quote unquotemanufacture income on the side
to use to write off against?
(18:51):
In one way that we canmanufacture income is via a Roth
conversion.
So do you do a Roth conversionsimultaneously, or at least in
the same year that you'reimplementing this donor advice
fund strategy?
It creates a bunch of incomefrom the conversion, but then
you're able to deduct a bunch ofthat income because of the gift
to the donor advice fund.
So that's just a side notethere.
But in general, going back tothe other point of when does it
(19:13):
not make sense is if all of yourmoney's in an IRA.
The second time it doesn't makesense and this is kind of a tag
along there is if you can doqualified charitable
distributions instead.
So if all of your money's in anIRA but you're saying, geez, I
really do a lot of charitablegiving, I would love a way to
give more tax efficiently.
Well, maybe look at qualifiedcharitable distributions instead
(19:34):
of a donor advice fund.
The qualified charitabledistribution says as soon as you
turn age 70 and a half, you cantake pre-tax funds from your
traditional IRA and gift themdirectly to the charity of your
choice.
The benefit of that is anymoney you gift directly to the
charity.
That's not money you have towithdraw and then pay taxes on.
So you can treat your IRA likea giving fund in many ways.
(19:56):
You just have to wait until age70 and a half to make that
happen.
So if you're that age and if itmakes more sense to your plan,
a lot of times qualifiedcharitable distributions make
more sense than a donor advicefund.
In many cases, a combination ofdonor advised fund giving and
qualified charitabledistribution giving makes a lot
of sense for people who arecharitable inclined.
The other case where it doesnot make a lot of sense is if
(20:19):
you're not charitable inclinedto begin with.
So no amount of giving to donoradvised fund is going to offset
the cost of giving.
So if giving isn't a part ofwhat you do, then it becomes a
cost.
Now, if it's part of what youdo, you don't really view it as
a cost.
You just view it as part of you, part of your generosity, part
of what you are doing.
(20:40):
But if you're just trying touse a donor advised fund to get
more of a tax deduction than itcosts you to actually make the
gift, that's not going to happen.
So don't think of this as likethe magical strategy that all of
a sudden can make something outof nothing.
It's not that it's saying ifyou're already doing the giving,
let's take advantage of that,but it's not going to save you
more in taxes than it will costyou in terms of the actual gift.
(21:04):
And then the final instancewhere I would probably not do a
donor advised fund, although itcould still make sense but maybe
not as likely is if you wouldalready itemize your deductions
even without charitable giving.
If you recall from thebeginning, one of the main
reasons donor advised funds, inmy opinion, have become more and
more practical is because fewerand fewer people are actually
itemizing their deductions.
(21:25):
And if you're not itemizingyour deductions, any giving you
do is just not necessarily a taxbenefit for you.
So if you are already itemizingyour deductions, then any
giving that you do is likely tobe deducted on your taxes.
Most, if not all, of it isalready going to be deducted on
your taxes.
So if that's the case, less ofa need to look at a donor
(21:46):
advised fund Now.
You could still use it.
In that example I mentionedbefore of maybe you're in your
final peak earning years whereyou're earning a lot of income
and you want to take the taxdeduction for any giving you do
now, as opposed to in futureyears when you might be in a
much lower tax bracket.
Still a good case to do donoradvised fund there, even if
you're already itemizing yourdeductions.
But this is where having a goodoverall strategy comes into play
(22:09):
.
This should not be somethingthat you just do because you
heard it on this podcast orbecause you heard someone talk
about it.
You should really incorporateit into your income plan, your
tax plan, your investment plan.
How does this best fit in?
Because there are a number ofvariables that you should be
looking at any time you decideto do this.
So that is a good place, Ithink, to wrap up for today.
(22:30):
A little bit of detail arounddonor advised funds, how they
work, what some of the limitsare, why you would choose to
incorporate them, and thenreally some context around when
does it make sense to implementa donor advised fund?
Do when does it not make senseto implement a donor advised
fund?
It's not for everybody, but forthe people it is, for.
This can quite literally savetens of thousands of dollars, if
(22:51):
not more, of the course ofretirement.
And that's before you startpairing donor advised fund
strategies with other coolthings like Roth conversions or
other tax planning factors.
So make sure that you talk withyour tax planner, make sure you
talk with your financialplanner before you implement
something like this.
But when done correctly, it canbe quite effective.
So that is it for today'sepisode.
(23:11):
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(23:32):
planning and ultimately, helpyou to get the most out of life
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So leave a review, tell a friendor a coworker or a family
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Thank you for listening andI'll see you next time.
Thank you for listening toanother episode of the Ready for
Retirement podcast.
If you want to see how RootFinancial can help you implement
the techniques I discussed inthis podcast, then go to
(23:54):
rootfinancialpartnerscom andclick start here, where you can
schedule a call to one of ouradvisors.
We work with clients all overthe country and we love the
opportunity to speak with youabout your goals and how we
might be able to help.
And please remember, nothing wediscuss in this podcast is
intended to serve as advice.
You should always consult afinancial, legal or tax
professional who's familiar withyour unique circumstances
(24:15):
before making any financialdecisions.
The majority of people I meet with who do some
level of charitable giving inretirement aren't actually
getting into tax deduction forany of it, and while charitable
giving should be driven byreasons I have nothing to do
with taxes, you shouldabsolutely look to maximize the
tax effectiveness of any givingyou're already doing.
A donor-advised fund is anexcellent way to do this, and in
today's podcast, I'll show youhow.
(00:20):
This is another episode ofReady for Retirement.
I'm your host, james Kanol, andI'm here to teach you how to
get the most out of life withyour money.
And now on to the episode.
So just a bit of backgroundbefore we go into today's
episode, because prior to 2018,I would say, this strategy was
(00:41):
not used a whole lot, and maybeI shouldn't say it wasn't used a
lot, but it wasn't used to theextent that it now makes sense
to use it today.
Well, what happened in 2018?
New tax law went into effectand one of the changes with new
tax law is a standard deductionwent up pretty dramatically.
So, if you go back to 2018, thestandard deduction for a
married couple was $13,000.
(01:03):
For 2023, that standarddeduction is $27,700, or, if
you're both 65 or older, $30,700.
So, for the sake of thispodcast, I'm going to use that
$30,700 number as an example.
If you're single, you cansimply cut that in half.
The standard deduction justdoubles based upon your married
(01:25):
status or your tax filing status.
But what does that mean?
What does the standarddeduction even mean?
Well, the IRS says you candeduct things on your tax return
Things like mortgage interest,things like charitable giving,
things like state and localtaxes up to a cap.
So when you go to file your taxreturn, you add all of these
things up.
(01:45):
Now, this isn't a comprehensivelist when I talk about mortgage
interest, charitable giving andstate and local taxes, but
they're the three most commondeductions.
So when you go to file your taxreturn or your CPA goes to file
your tax return, if you add allthose things up and it's
greater than $30,700, then youcan use that number for your
deductions and that's called anitemized deduction.
(02:07):
Itemized meaning you list outhere's how much I had a mortgage
interest.
Here's how much I had in stateand local taxes.
Here's how much I had incharitable giving.
But if it's less than $30,700,again, I'm using the number for
2023, people who are 65 yearsold and older if it's less than
$30,700.
When you add up all these items,then the IRS says you can just
(02:29):
use something called thestandard deduction, which is
$30,700.
Now this is nice because let'ssay you only have $20,000 of
deductions.
Well, you still get to writeoff $30,700 on your tax return,
even if you only have $5,000 oreven $0 in deductions.
When you add up state taxes,charitable giving, mortgage
(02:49):
interest, things like that evenhypothetically, if you had $0 of
any of those, you could stilldeduct $30,700 on your tax
return.
Now, this isn't a tax credit.
It doesn't reduce your taxes by$30,700, but reduces your
taxable income by that amount.
So, for example, if you earnedexactly $130,700 and you're
(03:13):
married finally and jointly andyou're both 65 or older, then
you take that standard deductionand you only pay taxes on
$100,000.
So you earn $130,700, but$30,700 is deducted from your
earned income and you're payingtaxes on the remaining $100,000.
So in 2018, when they raisedthe standard deduction and when
(03:36):
they capped state and localproperty taxes, what that means
is, no matter how much you payin state taxes, whether it's
state income taxes or propertytaxes you can now only deduct
$10,000 per year.
When they made those changes,you had 30% of the population
prior to 2018 was itemizing ourtax return.
Now, only about 10% of thepopulation itemizes their giving
(03:58):
and the remaining 90% simplyuses the standard deduction.
So why does this matter?
Seems like a good thing.
In general, more people aretaking advantage of a higher
deduction.
Well, here's why it matters.
If you are giving, so, ifyou're doing charitable giving,
and if your total deductionsdon't exceed 30,700, you're
really not getting to deduct anyof your giving at all.
Quick disclaimer as I said atthe beginning, your giving
(04:20):
should have nothing to do withtax deduction.
You should give out of thegoodness of your heart.
You should give because youcare about.
You shouldn't be doing it forthe tax deduction.
But also, like I said at thebeginning, if you are giving to
a charity a qualified charitylet's do all that we can to get
the tax benefit for that.
So let me actually walk youthrough an example something
(04:43):
that's very common in what I seewhere people are giving and
they're giving very generously,but they're actually not getting
any tax benefit for doing so.
Let's assume that we have acouple and they're both 65 years
old and they're giving $15,000per year to charities.
Let's assume that this couple'sretired and that before
retirement, they paid off theirhome, so they no longer have any
mortgage interest that they candeduct.
(05:05):
And let's assume that they pay$20,000 in state taxes between
their property taxes and theirstate income tax, but they can
only deduct $10,000 of it.
So, again, part of the stateand local tax cap is it doesn't
matter how much you pay in stateand local taxes.
The max that you can deduct is$10,000.
Let's use an extreme examplewith this couple.
(05:25):
Let's assume that for the next30 years, they continue to give
$15,000 per year, for the restof their lives, or at least for
the next 30 years.
Keep in mind and this is why Isay this is an extreme example
current tax law is set to sunsetat the end of 2025.
And it could be extended, whichmeans current brackets could
stay in place.
But if it doesn't, tax lawreverts to 2017 levels and at
(05:49):
that time, standard deductionswere $13,000, which would be
adjusted for inflation, so it'dbe a bit higher when things
revert.
But the bottom line is weprobably won't have the same
exact tax brackets forever.
We almost certainly won't.
But let's run the analysis asif we did just to illustrate
this concept, and then we'llunderstand the disclaimers and
the nuance of all this, of howwould changing tax law actually
(06:10):
impact some of this?
But before we do so, if we justcarry on with that analysis,
let's understand what would thededuction be for this 65 year
old couple.
Well, number one is mortgageinterest.
But, as I mentioned, they don'thave a mortgage anymore.
They paid off their home, sothere's $0 that they get to
deduct there.
Number two is state and localtaxes.
They pay $20,000 in state andlocal taxes, but the cap that
(06:33):
they can deduct is limited to$10,000 on their federal tax
return.
So now we can take $10,000 ofthat and deduct it.
Then, finally, we have theircharitable giving, and they're
giving a pretty healthy amount.
They're giving $15,000 per yearaway.
So what we have now is we have$10,000 in state and local taxes
, we have $15,000 in charitablegiving.
(06:54):
That adds up to $25,000.
Well, as I mentioned before, thestandard deduction is $30,700,
which means they're under thestandard deduction, which means
when they go to file their taxes, they're not going to itemize,
they're just going to take thestandard deduction.
So, technically, because ofthat, over those 30 years, even
though in this case they wouldhave given $450,000 away to
(07:17):
charity, they've deducted noneof it because they've simply
taken the standard deductionevery single year over the
course of that time, againassuming in this example the tax
law stays as it currentlystands.
So when I tell clients this,sometimes they're shocked to
hear that they're not gettingany deduction.
Other times they just kind ofsay, yeah, I guess that's the
way it is, but I tell themthere's a better way to do it,
(07:39):
and that's where the donoradvised fund comes into play.
Let's say, for this exampleclient that we just talked about
, they have their investmentsand they have traditional IRAs,
roth IRAs, and they also have ajoint brokerage account.
Here's what I propose to them.
I'll say let's use somethingcalled a donor advised fund.
Think of it as a giving fund.
Now, with this giving fund, soas donor advised fund, anything
(08:00):
you gift to it is an irrevocablegift.
So if you give $20,000 to it,you can't take $20,000 back.
However, you do control howthat gift is invested and you do
control how that giftultimately gets given over the
course of time, because when yougive money to the fund, you
(08:22):
still retain control over thefund, even though it's
irrevocable.
Let's assume I put $20,000 intomy donor advised fund today.
I control how that $20,000 isinvested and, more importantly,
I control the timing of whenthat $20,000 is actually given.
So hypothetically, and maybe noteven hypothetically, but in
this client situation, what weproposed was we said you're
(08:42):
given a very healthy amount ofmoney to charity.
What if I'm just going to throwa number out there what if we
took $100,000 from yourbrokerage account which you're
planning on using to give tocharity over the next number of
years?
What if we took $100,000,gifted it, not to any one of
these individual charities today, but gifted that to your donor
(09:03):
advised fund?
What that does is you nowcontrol still all that $100,000.
But the benefit is you get todeduct all of that this year.
So if we use the same numbersas before, that's $100,000 now
in charitable giving that theycould deduct, and the $10,000
and stay in local taxes aboveand beyond that that they could
(09:23):
deduct.
So now you have one massivededuction of $110,000 this year
that will really drive your taxbill lower.
There are rules on how much youcan deduct with a charitable
gift to a donor advised fund andthose rules are different
whether you give a cash gift tothe donor advised fund versus if
you use appreciated securitiesto give to the donor advised
(09:44):
fund, but regardless, there'snow a substantial deduction that
they can use, and any of thatdeduction that they can't fully
use this year because maybe itexceeds the limits of how much
they can deduct, they can carryforward that to future years.
Hey everyone, it's me again forthe Disclaimer.
Please be smart about this.
Before doing anything, pleasebe sure to consult with your tax
planner or financial planner.
(10:04):
Nothing in this podcast shouldbe construed as investment, tax,
legal or other financial advice.
It is for informationalpurposes only.
So, going back to this coupleexample, I propose to them let's
put $100,000 into this donoradvised fund.
This isn't $100,000 you have tocome up with your bank account.
Let's just shift some money inyour existing portfolio that you
(10:24):
were already intending so it'salready kind of earmarked to use
for gifting.
Let's front load your fundtoday.
You get a major tax benefittoday and now, going forward,
instead of using funds from yourbrokerage account to gift
$15,000 per year, well, let'ssimply give it from your donor
advised fund.
With $100,000 in there, thatfund might last seven years,
(10:47):
eight years or longer, becausekeep in mind that money is now
growing.
So if we put $100,000 in, ifit's grown by even a few percent
each year.
That's money that you can nowuse to gift and none of that
growth is taxable to you andit's just more money that you
can ultimately give to charities.
Here's some importantinformation to know about donor
advised funds.
Number one any cashcontributions that you make to
(11:10):
donor advised fund.
You can write off up to 60% ofyour adjusted gross income via a
donor advised fund.
For example, let's assume youradjusted gross income is
$100,000 and let's also assumethat you gift $100,000 to a
donor advised fund.
What you cannot deduct theentirety of that $100,000 gift.
(11:30):
The most that you can write offis 60% of your adjusted gross
income.
So if your adjusted grossincome is $100,000, $60,000 is
the limit of how much you canwrite off on your taxes that
year, assuming you made thatdonation via cash.
Now, anything that you don'twrite off this year, you can
carry that forward for up tofive years.
(11:52):
So if you write off $60,000this year, you could potentially
write off up to remaining$40,000 the following year.
So that's one thing to keep inmind is there are some limits as
to how much you can deduct eachyear.
Now here's a beautiful thingabout donor advised funds is you
don't have to just gift cash.
You could gift appreciatedsecurities.
So, in that same example, whatif you bought Apple for $1,000
(12:17):
years and years and years ago,and now it's worth $100,000?
Well, you could gift Applestock directly to your donor
advised fund.
Here's the amazing thing aboutthat is that Apple stock,
depending on your tax bracket,might only be worth $75,000 or
$80,000 to you if you're in ahigher tax bracket, but if you
gift the $100,000 worth of Applestock with $99,000 of
(12:40):
unrealized gains, you get thetax deduction of the full
$100,000 in.
Your donor advised fund getsthe full $100,000.
So it's an amazing way not justto lump all of your
contributions into one year allof your charitable giving, I
should say into one year to takeadvantage of a massive
deduction, but it's also a greatway to avoid taxes on an
(13:01):
appreciated asset.
Here's the thing with that,though, is if you're not giving
to your donor advised fund withcash, but instead you're giving
with appreciated securities and,by the way, securities could be
stocks, it could be mutualfunds, it could be businesses,
it could be real estate.
So there's a lot of things thatyou can actually gift to a fund
.
30% of your adjusted grossincome is the cap on what you
(13:24):
can deduct.
So in that same example, let'sassume you earn $100,000 per
year, you have the Apple stockworth $100,000 but you only paid
$1,000 for it.
I'm assuming you bought wayback when you could only deduct.
If you gifted that full$100,000 of Apple stock to donor
advised fund, $30,000 on thisyear's tax return because 30% of
(13:45):
your adjusted gross income isthe limit.
The remaining amounts couldcarry forward again to future
years.
But that's something that youneed to be mindful of when
you're doing your tax planningand your giving planning.
So that's a basic overview ofhow donor-advised funds work and
how they can save you a lot ofmoney and taxes simply
rearranging the way that you doyour current giving.
But let's talk about when theydo make sense and when they
(14:07):
typically don't make sense.
Of course, this isn't universal, but this is just broad
guidelines.
Make sure you're talking withyour tax planner and your
financial advisor about whatmakes most sense for you.
But when does a donor-advisedfund make sense for you?
Well, number one if you'redoing a fair amount of plan
giving to start with, if you'regiving a few hundred bucks here
and a few hundred bucks there,you're probably not going to do
(14:28):
a donor-advised fund Adonor-advised fund, you're going
to want to do a moresignificant amount of giving,
because you're already planningto do that giving anyways.
So if you're planning on givingsix grand, eight grand, ten
grand per year or more, thatcould absolutely be a case where
setting up a donor-advised fundmakes a lot of sense.
The second instance is you haveno mortgage or a small mortgage.
(14:51):
Now, what on earth does amortgage have to do with your
giving?
Well, nothing in terms of theactual giving.
But it has to do everythingwhen you actually factor in the
deductibility of that giving.
If you have a large mortgage,or even a medium-sized mortgage,
chances are good that you'regoing to be itemizing your
deductions.
Let's assume you have a$600,000 mortgage and you are
(15:11):
paying $25,000 per year inmortgage interest on that
mortgage.
Well, that, plus some state andlocal taxes, that alone
probably is already putting youinto the zone where you're going
to be itemizing your deductions.
So any charitable giving you do, above and beyond that, you are
taking advantage of that from atax perspective because you are
adding that to the deductionsthat you're able to take.
(15:33):
But if you don't have amortgage, if you have a very low
mortgage, it takes asignificant amount of giving to
actually get up and over thestandard deduction limits.
So when I'm reviewing aclient's tax return to do some
tax plan for them, one of thefirst things I'm looking at is
really, do they have a mortgageand, if so, how much mortgage
interest are they paying?
Because if they're paying verylittle mortgage interest and
(15:56):
they're doing a prettysignificant amount of charitable
giving or even a fair amount ofcharitable giving, that's where
a donor revised fund likelymakes a lot of sense.
Another time where it might makesense is you are in a medium to
high tax bracket, even ifyou're already itemizing your
deductions.
Let's assume that you'reworking right now and you have a
very high income job.
Let's assume you're in the toptax bracket, you're at 37%
(16:19):
federally plus whatever yourstate tax bracket is.
But let's also assume you'regoing to retire next year and
when you retire your income isgoing to drop way down.
Well, when your income dropsway down, any charitable giving
you do in those years it doesn'tsave you as much in taxes.
Because, for example, let'sassume that you're in a 10% tax
bracket and you give $10,000 tocharity and you deduct all of it
(16:41):
Again.
What it's doing is it's notoffsetting your taxes, it's
offsetting your taxable income.
So if you reduce your taxableincome by $10,000 when you're in
a 10% tax bracket, it's reallyonly saving you $1,000 in taxes.
That's 10% of $10,000.
Let's assume you're in yourfinal year of work.
Do you want to lump a lot ofyour giving in that year Not
(17:05):
necessarily giving it directlyto the charity, but giving it to
your donor-advised fund andthen in subsequent years using
those funds to gift directly tothe charity?
What that does.
Let's assume you're in a highincome tax bracket in a high
income tax state, say California.
Well, if you gift $10,000 extrato donor-advised fund that year
, that saves you 50% in taxesbetween federal and state.
(17:29):
So that $10,000 gift saves you$5,000 in taxes.
So looking at your tax bracketis another important
consideration when determiningif this is right for you.
So that's when doing adonor-advised fund might make
sense.
Let's now talk about when itmight not make sense.
For one there's an option is ifall of your money is in a
(17:49):
traditional IRA and retirement,it probably doesn't make sense
to do a donor advice fund.
Why is that?
Well, any gifting that you needto do to your donor advice fund
has to come out of your IRA.
So let's go back to a previousexample.
We talked about maybe gifting$100,000 to a donor advice fund.
Well, if you're taking $100,000out of your IRA so that you can
(18:10):
take $100,000 to gift to yourdonor advice fund, sure, you're
getting a major tax deduction,but you're also creating excess
income because you took moneyout of your IRA.
So any benefits of the donoradvice fund in that specific
example would likely be 100%,and maybe even more than 100%,
offset by the liability ofpulling funds out of your
(18:30):
traditional IRA.
Now, quick side note one thingthat I like to pair with donor
advice fund contributions is aRoth conversion.
So I'm not getting into thattoo much in today's podcast, but
there's an excellent strategywhere, if you're going to do a
donor advice fund that's goingto create a major tax deduction,
well can we quote unquotemanufacture income on the side
to use to write off against?
(18:51):
In one way that we canmanufacture income is via a Roth
conversion.
So do you do a Roth conversionsimultaneously, or at least in
the same year that you'reimplementing this donor advice
fund strategy?
It creates a bunch of incomefrom the conversion, but then
you're able to deduct a bunch ofthat income because of the gift
to the donor advice fund.
So that's just a side notethere.
But in general, going back tothe other point of when does it
(19:13):
not make sense is if all of yourmoney's in an IRA.
The second time it doesn't makesense and this is kind of a tag
along there is if you can doqualified charitable
distributions instead.
So if all of your money's in anIRA but you're saying, geez, I
really do a lot of charitablegiving, I would love a way to
give more tax efficiently.
Well, maybe look at qualifiedcharitable distributions instead
(19:34):
of a donor advice fund.
The qualified charitabledistribution says as soon as you
turn age 70 and a half, you cantake pre-tax funds from your
traditional IRA and gift themdirectly to the charity of your
choice.
The benefit of that is anymoney you gift directly to the
charity.
That's not money you have towithdraw and then pay taxes on.
So you can treat your IRA likea giving fund in many ways.
(19:56):
You just have to wait until age70 and a half to make that
happen.
So if you're that age and if itmakes more sense to your plan,
a lot of times qualifiedcharitable distributions make
more sense than a donor advicefund.
In many cases, a combination ofdonor advised fund giving and
qualified charitabledistribution giving makes a lot
of sense for people who arecharitable inclined.
The other case where it doesnot make a lot of sense is if
(20:19):
you're not charitable inclinedto begin with.
So no amount of giving to donoradvised fund is going to offset
the cost of giving.
So if giving isn't a part ofwhat you do, then it becomes a
cost.
Now, if it's part of what youdo, you don't really view it as
a cost.
You just view it as part of you, part of your generosity, part
of what you are doing.
(20:40):
But if you're just trying touse a donor advised fund to get
more of a tax deduction than itcosts you to actually make the
gift, that's not going to happen.
So don't think of this as likethe magical strategy that all of
a sudden can make something outof nothing.
It's not that it's saying ifyou're already doing the giving,
let's take advantage of that,but it's not going to save you
more in taxes than it will costyou in terms of the actual gift.
(21:04):
And then the final instancewhere I would probably not do a
donor advised fund, although itcould still make sense but maybe
not as likely is if you wouldalready itemize your deductions
even without charitable giving.
If you recall from thebeginning, one of the main
reasons donor advised funds, inmy opinion, have become more and
more practical is because fewerand fewer people are actually
itemizing their deductions.
(21:25):
And if you're not itemizingyour deductions, any giving you
do is just not necessarily a taxbenefit for you.
So if you are already itemizingyour deductions, then any
giving that you do is likely tobe deducted on your taxes.
Most, if not all, of it isalready going to be deducted on
your taxes.
So if that's the case, less ofa need to look at a donor
(21:46):
advised fund Now.
You could still use it.
In that example I mentionedbefore of maybe you're in your
final peak earning years whereyou're earning a lot of income
and you want to take the taxdeduction for any giving you do
now, as opposed to in futureyears when you might be in a
much lower tax bracket.
Still a good case to do donoradvised fund there, even if
you're already itemizing yourdeductions.
But this is where having a goodoverall strategy comes into play
(22:09):
.
This should not be somethingthat you just do because you
heard it on this podcast orbecause you heard someone talk
about it.
You should really incorporateit into your income plan, your
tax plan, your investment plan.
How does this best fit in?
Because there are a number ofvariables that you should be
looking at any time you decideto do this.
So that is a good place, Ithink, to wrap up for today.
(22:30):
A little bit of detail arounddonor advised funds, how they
work, what some of the limitsare, why you would choose to
incorporate them, and thenreally some context around when
does it make sense to implementa donor advised fund?
Do when does it not make senseto implement a donor advised
fund?
It's not for everybody, but forthe people it is, for.
This can quite literally savetens of thousands of dollars, if
(22:51):
not more, of the course ofretirement.
And that's before you startpairing donor advised fund
strategies with other coolthings like Roth conversions or
other tax planning factors.
So make sure that you talk withyour tax planner, make sure you
talk with your financialplanner before you implement
something like this.
But when done correctly, it canbe quite effective.
So that is it for today'sepisode.
(23:11):
If you are enjoying this, Iwould really appreciate it if
you leave a review, if you'vegot any value or any benefit of
any of these episodes, let meknow by leaving a review on
Apple Podcasts or Spotify helpsmore people find the show and
then also check us out onYouTube YouTube under James
Cannell is the channel name andthere you'll find this podcast
as well as other greatinformation about retirement
(23:32):
planning and ultimately, helpyou to get the most out of life
with your money.
So leave a review, tell a friendor a coworker or a family
member about this podcast.
Thank you for listening andI'll see you next time.
Thank you for listening toanother episode of the Ready for
Retirement podcast.
If you want to see how RootFinancial can help you implement
the techniques I discussed inthis podcast, then go to
(23:54):
rootfinancialpartnerscom andclick start here, where you can
schedule a call to one of ouradvisors.
We work with clients all overthe country and we love the
opportunity to speak with youabout your goals and how we
might be able to help.
And please remember, nothing wediscuss in this podcast is
intended to serve as advice.
You should always consult afinancial, legal or tax
professional who's familiar withyour unique circumstances
(24:15):
before making any financialdecisions.
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