Tax traps to avoid for year-end charitable donations
Giving seen as more popular with rates on income and capital gains rising this year
Oct 31, 2013 @ 10:31 am (Updated 3:15 pm) EST
It's time again to consider year-end charitable donations, and experts warn that there are tax traps aplenty for the unwary.
Major changes that kicked in this year, thanks to the American Taxpayer Relief Act of 2012, likely will result in increased interest in charitable giving by clients interested in softening the bite of even higher brackets on income and capital gains taxes.
As a refresher, the highest income tax rate rose in 2013 to 39.6%, while the highest capital gains rate is now 20%. To make things even more interesting, ATRA has also established a net investment income tax of 3.8%.
Advertisement
Tax gurus had a few suggestions to prepare advisers and clients for the deluge of donations.
Make sure your client receives all the documentation necessary from the non-profit in order to claim the charitable deduction.
In order for taxpayers to claim a deduction for a donation worth more than $250, the Internal Revenue Service requires written acknowledgement from the charity. This is either a receipt or a thank-you letter — and it's extremely important, as the IRS has denied deductions for sizable gifts because of insufficient documentation.
“Have it in place when you're making the gift; [get] it before you file,” said William Zatorski, a partner in personal financial services at PricewaterhouseCoopers. Donors who give to their own foundations also need these letters — they have to write them to themselves, according to Mark Nash, also a partner of personal financial services at PricewaterhouseCoopers.
The letter or receipt should include the name of the organization, the tax ID number of the group, the amount of the cash contribution and a description of the gift if it isn't cash. Organizations should indicate whether goods or services were received in exchange for the donation, said Gavin Morrissey, senior vice president of wealth management at Commonwealth Financial Network.
When donating stocks, charities may not provide the value of the gift, but will likely spell out the number of shares received on that date. For valuation purposes, the adviser will need to average out the stock's high and low on that date and use that number as the fair market value of the gift, said Mr. Morrissey.
Look at highly appreciated stock as a potential donation to charity.
A donation of stock that's done well can get taxpayers a deduction on the fair market value of the investment and do so without incurring taxes on the capital gain or net investment income, said Ronni G. Davidowitz, head of Katten Muchin Rosenman's New York trusts and estates practice.
Also, make sure that the asset is one that's been held for at least a year. “It has to be a long-term capital gain in order to get the full fair-market-value deduction,” Mr. Morrissey said. “If you give away shares you bought in the short term, you can only deduct the basis.”
If you're donating an alternative investment — say art — make sure you get an appraisal.
Appraisals are a way to ensure taxpayers are maximizing their deductions and avoiding a penalty from the IRS for inaccurately valuing the art. Anything worth more than $20,000 requires a qualified appraisal.
“People sometimes don't want to spend the money on valuations and think that they can short-circuit it,” said Ms. Davidowitz. “That's where you can do more harm. It makes sense to get that better appraisal; you don't want valuation penalties.”
She added that donors should ensure the asset is an appropriate gift for a charity. For instance, a gift of a business interest or real estate may not necessarily be the best gift for an organization to take. Think about additional tax liabilities and other issues to which the charity may be exposed, should it accept the gift.
Double-check the tax-exempt status of the charitable organization.
Everyone has their favorite charitable organization. Tax experts suggest clients ensure that those charities are still tax-exempt so their gifts will qualify for deductions.
“Smaller charities do the most hands-on work in the communities, and they're a great way to help,” said Mr. Morrissey. “But they aren't attorneys and certified public accountants; they're just people who want to do good. The filings they need to be in compliance with the IRS can fall by the wayside.”
Save on income taxes by donating from your IRA — if you meet the qualifications.
Qualified charitable distribution provisions were extended this year on gifts from individual retirement accounts to charitable institutions for people who are 70½ and older. Basically, these donations aren't deductible, but they do count as a required minimum distribution and they won't be hit with income taxes, said Ms. Davidowitz.
Darla Mercado covers life insurance, annuities and retirement products for InvestmentNews, and she's looking for advisers' informed opinions, plus chatter on products and other industry developments.
Continue Reading
Advisers who serve have a double duty — to Uncle Sam and their clients
Anyone who thinks they have busy days should listen to Chris Pollard's tale.
Investors hoarding cash, miss stock market rally despite adviser efforts
Survey finds people still spooked by 2008 - 'the enemy they know' - as cash value erodes
To manage steep gains, advisers need to open the tax toolbox
This year's big stock market gains are forcing advisers to think about how to help their clients contend with a potentially stiff capital gains tax bite from mutual fund distributions.
Advisers falling short when it comes to talking philanthropy with clients: Survey
Though most advisers do address giving, many clients walk away unsatisfied
Credit: RSS for Investments
