As the year draws to a close, you have a unique opportunity to optimize your financial strategies through charitable giving. Not only can these strategies support causes you care about, but they can also potentially reduce your tax burden. Let’s explore seven effective charitable giving strategies to discuss with your financial planner as part of your year-end tax planning.
1. Qualified Charitable Distributions (QCDs)
For those aged 70½ or older, making qualified charitable distributions directly from IRAs can be an excellent way to satisfy required minimum distributions (RMDs) while supporting favorite causes. QCDs allow you to donate to a qualified charity up to $100,000 annually from your IRA, potentially lowering your overall tax liability.
Key Consideration: Ensure distributions are made directly to approved charities. Taking the distribution yourself and then donating it won’t qualify as a QCD.
2. Donor-Advised Funds (DAFs)
Donor-advised funds offer a flexible way to make charitable contributions over time while potentially receiving an immediate tax deduction. By contributing to a DAF, you can take the deduction in the current year while having the flexibility to distribute the funds to charities over time.
Tax Tip: Be cautious of overvaluing non-cash assets contributed to DAFs. The IRS scrutinizes large charitable deductions, especially those disproportionate to income.
3. Donating Appreciated Securities
Donating appreciated securities held for more than a year can be particularly tax-efficient. You can avoid capital gains tax on the appreciation while still claiming a charitable deduction for the total fair market value of the securities donated.
Pitfall to Avoid: Don’t sell the securities yourself and then donate the proceeds. This triggers capital gains tax. Instead, transfer the securities directly to the charity.
4. Charitable Remainder Trusts (CRTs)
Charitable Remainder Trusts allow you to donate assets to a trust, receive income for a specified period, and then distribute the remaining assets to your chosen charity. This strategy can provide immediate tax benefits and ongoing income.
Key Consideration: CRTs can be complex to set up and maintain from a legal and financial planning perspective. It’s crucial to weigh the potential tax savings and other benefits against the costs and complexities of establishing and maintaining a CRT. For some, the benefits may outweigh the costs, and simpler charitable giving strategies might be more appropriate.
5. Bunching Charitable Contributions
Consider “bunching” multiple years’ worth of charitable contributions into a single year to exceed the standard deduction threshold and maximize tax benefits.
Strategy Tip: You may be able to combine this approach with a DAF for added flexibility in timing your charitable distributions.
6. Charitable Lead Trusts (CLTs)
CLTs provide income to a charity for a set period, after which the remaining assets pass to designated beneficiaries. This can be an effective way to reduce gift and estate taxes while supporting charitable causes.
Key Point: CLTs can be complex, so work closely with your financial planner, legal and tax advisor to structure them correctly.
7. Private Foundations
For those with substantial charitable goals, establishing a private foundation can offer significant control over charitable giving and potential tax benefits.
Important Consideration: Be aware of the administrative responsibilities and costs associated with running a private foundation.
Implementing these charitable giving strategies can help you make a meaningful impact while potentially reducing your tax burden. However, some of these strategies can be complex and involve many steps to implement so it is crucial to approach these strategies as part of a comprehensive financial plan.
Other Year-End Tax Planning Ideas
Tax Loss Harvesting
Review your investment portfolio for opportunities to offset capital gains by selling underperforming investments. This strategy can help reduce your overall tax liability.
Pitfall to Avoid: Be aware of the wash-sale rule. Avoid repurchasing substantially identical securities within 30 days before or after the sale to claim the loss.
Roth IRA Conversions
Consider converting traditional IRA or other tax-deferred retirement funds to a Roth IRA, especially if you anticipate being in a lower tax bracket this year. While you will pay taxes on the converted amount now, future withdrawals from the Roth IRA will be tax-free. For more information on Roth IRA conversions, check out our blog on the topic here.
Maximize Retirement Account Contributions
Ensure you’ve maxed out contributions to tax-advantaged retirement accounts like 401(k)s and IRAs. For 2024, the contribution limit for 401(k)s is $23,000, with an additional $7,500 catch-up contribution for those 50 and older.
Red Flag: Be cautious of over contributing. Excess contributions can result in penalties if not corrected promptly.
Gift Tax Exemption Utilization
Take advantage of the annual gift tax exclusion, which allows you to give up to $18,000 per recipient in 2024 without incurring gift tax. This can be an effective way to transfer wealth and potentially reduce future estate taxes6.
Pitfall to Avoid: Don’t forget to file a gift tax return for gifts exceeding the annual exclusion amount, even if no tax is due.
By thoughtfully incorporating charitable giving into your year-end tax planning, you can work towards your financial objectives while supporting causes that matter to you. Remember, effective tax planning is an ongoing process, not a one-time event. Regular check-ins with your financial planner and tax advisor throughout the year can help you stay on track and adapt to changing circumstances.
Please note: Each person’s financial situation is unique; this post is for informational purposes only and does not constitute financial, legal, or tax counsel. We encourage you to consult your trusted financial, legal, or tax advisor for guidance tailored to your specific circumstances.