Paul O. Dillon, Attorney at Law

Do Charitable Gift Annuities Work?

A Charitable Gift Annuity donated to a qualified 501(c)(3) charity creates an immediate tax deduction for a portion of the contribution and a fixed income stream from the charity for as long as the grantor lives. With the minimum contribution usually $5,000, a CGA is accessible for many people seeking to create a legacy and lower taxes, according to a recent article, “How about a gift that pays you back?” from Los Angeles Daily News.

Who could benefit from a CGA?

• A person who wants to give generously but is concerned about having enough income for the future.
• Someone who needs a last-minute tax deduction and has already reached contribution limits for an IRA or 401(k) plan.
• A philanthropic-minded person who wants to leave a large amount or all of their estate to charity and wishes to have the business end of their giving done all at once.
• A donor who wants to avoid or defer capital gains tax on an asset they want to donate to charity.

An estate planning attorney should be involved in creating and executing the CGA to ensure that all requirements are met so that the CGA achieves the desired results and works in tandem with the rest of the estate plan. The estate planning attorney will set up the CGA. You then donate the asset to the charity. The gift is set aside and invested by the charity. You receive fixed monthly or quarterly payments as long as you are living. After your death, the charity receives the funds remaining in the account.

The income tax deduction is the contribution minus the present value of the payments to the donor. The estate planning attorney can make the calculations. Current annuity rates range from 4.6 to 10.1% for 50 and older, based mainly on age. Let’s say someone made a $100,000 contribution. They would receive $4,600 to $10,000 a year from the charity.

The amount received never fluctuates and is fixed so it won’t adjust for inflation. However, it is secured by the charitable organization’s assets and continues at the stated rate, no matter how the annuity investments perform.

Another example: a couple in their 70s funds a Charitable Gift Annuity with $50,000 of appreciated stock originally purchased for $20,000. They will receive an income tax charitable deduction of $17,584 and a payment of 6% or $3,000 a year for the rest of their lives.

This kind of donation is advantageous to both the donor and the nonprofit. The charity needs to be a qualified 501(c)(3), and it’s best to pick a well-established charity with a Charitable Gift Annuity program in place. Your estate planning attorney will be able to review the program to be sure that it aligns with your overall estate plan.

Reference: Los Angeles Daily News (Dec. 29, 2024) “How about a gift that pays you back?”

Charitable Giving Trusts Protect Assets and Create a Legacy of Giving

James Gandolfini was beloved for his role as Tony Soprano in the HBO show The Sopranos. His early death revealed a lack of estate planning and some painful lessons for his real-life family. Gandolfini left a $70 million estate and about 80% of it was not protected from estate taxes. A recent article from Investing Daily, “How to Avoid The Estate Planning Mistakes of James Gandolfini (aka Tony Soprano),” explains two of the many options Gandolfini didn’t take advantage of.

A Charitable Lead Trust, or CLT, serves several purposes. It provides a stream of income for a certain amount of time to a charitable organization. At the end of the period, the property in the trust goes to the donor or the beneficiary. When the gift is made under a CLT, the grantor immediately gets a federal income tax deduction equal to the present value of the future income stream. It should be noted that taxes do have to be paid every year by the donor on the value of the income interest paid to the charity.

You can create a CLT during your lifetime or establish it upon your death by stipulating it in your will. By establishing the CLT at death, an estate tax deduction is created. The CLT serves to reduce estate taxes and supports a charity you care about.

A similar trust is known as a Charitable Remainder Trust or CRUT. This type of trust increases the income stream while lowering taxes. With a CRUT, you are donating to charity.  However, you earn income from the donated assets during your lifetime. The objective is to sell a major appreciated asset without paying capital gains taxes on the profits. The donor funds the CRUT, and the charity receiving the asset is the charitable beneficiary. The charity must be an IRS-approved charity to gain these benefits.

The CRUT’s trustee can be the donor, the charity, an independent trust manager, or any person designed by the donor. Anyone receiving income from the asset under the terms of the CRUIT is known as an income beneficiary.

The trust document must name the trustee, the charitable beneficiary, the percentage to be paid to income beneficiaries and all the terms of the trust. The trust document also must specify the annual percentage paid by the donor, an amount between 5% and 50%. The annual percentage is required to give at least 10% of the amount transferred to the CRUT.

The trust can be funded with any kind of asset. The trustee then sells the assets, reinvesting the proceeds into a financial instrument owned by the trust. The term can be for the life of the donor or the life of a donor plus someone else. The CRUT can also be set by years, up to 20 years.

CRUTs and CLTs require the knowledge of an experienced estate planning attorney to be sure that they meet all the necessary guidelines to achieve their goals. For many people, these are excellent tools to create a family legacy of giving, while enjoying tax benefits and growing assets.

Reference: Investing Daily (Sep. 11, 2024) “How to Avoid The Estate Planning Mistakes of James Gandolfini (aka Tony Soprano)”

Can Grandparents Give Money to Grandchildren for College?

Helping grandchildren prepare for long-term success and easing the financial burden of college costs is a gift for two generations, as mentioned in a recent article from Kiplinger, titled “529 Plans: Give the Gift of Education (and Compounding).”

Giving cash directly to children or parents isn’t the best long-term strategy. Once the money is given, control is surrendered, and the gift may not be used as intended by the giver. Saving for college is one of the significant financial challenges parents face, especially considering the high inflation of college tuition costs. Between 2021 and 2022, U.S. college tuition rates increased by 12%.

This is where estate planning intersects with the new year. As the current historically high estate tax exemption ends at the end of 2025, managing the size of one’s estate becomes a higher priority. The structure of 529 college savings accounts can be used for tax efficiency and to control the eventual use of the gift while taking advantage of long-term compounding.

Current gift tax rules allow individuals to gift up to $18,000 per year per person. Therefore, a married couple could gift $36,000 to each child and grandchild without it counting against their lifetime exemption or requiring them to file a gift tax return. However, the 529 is even more advantageous, allowing a five-year front-loading of such gifts per recipient.

If your state has a plan, funding 529 plans offers deductions on state income taxes. If your state doesn’t have a 529 plan, you can open an account in another state but won’t receive the tax deduction.

There have always been concerns about overfunding a 529 account or having unused funds if the beneficiary decides not to attend college. Most plans allow account owners to change beneficiaries without any tax consequences as long as the new beneficiary is a member of the current beneficiary’s family. If the new beneficiary is younger than the prior one, it may be wise to change the asset allocation to reflect the new time horizon.

Another common question regards the impact gifting may have on the student’s application for federal aid. While 529 plans owned by parents are considered, 529 plans owned by grandparents are not on the FAFSA (Free Application for Federal Student Aid) form.

Changes to the original 529 structure have rendered these accounts even more valuable. The Tax Cuts and Jobs Act expanded the eligibility of 529 accounts for private and parochial K-12 schools. Then, the SECURE Act allowed 529 funds to be used to pay down up to $10,000 in student debt.

Starting in 2024, the SECURE 2.0 Act allows 529 funds to be rolled over into a Roth IRA at the annual contribution limit up to a lifetime maximum of $35,000 for a beneficiary. The account needs to be open for at least 15 years. Still, having an account grow in a tax-free environment and removing the distribution restrictions presents a valuable new investment tool.

Speak with your estate planning attorney about how to incorporate the benefits of the 529 account into your estate plan to help family members achieve educational goals and plan for estate taxes.

Reference: Kiplinger (Dec. 20, 2023) “529 Plans: Give the Gift of Education (and Compounding)”

Can a Family Limited Liability Company Reduce Estate Taxes?

Family LLCs are used to protect assets, reduce estate taxes and more efficiently shift income to family members, reports the article “Handling Estates Like An LLC Can Reduce Taxes” from Financial Advisor. The qualified business income and pass-through entity tax deductions may add significant benefits to the family.

What is a Family LLC? They are holding companies owned by two or more individuals, with two classes of owners: general partners (typically the parents) and limited partners (heirs). Contributed assets of the general partners are no longer considered part of their estate, and future appreciation on the assets are not counted as part of their taxable estate.

Consider the LLC as three separate pieces: control, equity and cash flow. Because of the separation, you can maintain control of the personal/business assets, while at the same time transferring non-controlling equity of the assets to someone else via a gift, a sale, or a combination of the two.

An added benefit—transfers of non-controlling equity can qualify for a discount on the value for tax reporting, minimizing any gift or estate tax consequences of the transfer. Discounting business entities with very liquid assets is generally not advisable. However, illiquid assets could warrant a discount as high as 40%.

These types of structures are complicated. Therefore, you’ll need an estate planning attorney with experience in how Family LLCs interact with estate planning. The LLC must be properly structured and have a legitimate business purpose.

It’s important to note that if a real estate or operating business is put into an LLC and taxed as a pass-through entity instead of a sole proprietorship, they may be eligible for the 20% discount under Section 199A, or for the pass—through entity tax workaround for the limitation of the deductibility of state taxes for individuals and trusts.

Every state has its own rules about income qualifying for a state income tax deduction on the federal level. If you have an entity in place, you’ll want to speak with your attorney to determine if a pass-through entity on the state level will be advantageous. If so, this election may allow for a state income tax deduction on the federal level.

Your estate planning attorney will help you get a qualified appraisal of the assets, since the IRS will require an accurate value of the transfer for reporting purposes, especially if a discount is being contemplated. This is a complex matter, but the estate planning and tax advantages to be gained make it worthwhile for families with a certain level of assets to protect.

Reference: Financial Advisor (April 4, 2022) “Handling Estates Like An LLC Can Reduce Taxes”

How Does the Caregiver Tax Credit Work?

Family caregivers who support loved ones are eligible for several tax credits and deductions. It’s not just for taking care of parents; other relatives may be covered as well, notes a recent article “If you are a caregiver of elderly parent, you may be eligible for tax breaks” from The Oklahoman. The IRS has different options and certain requirements must be met.

When a dependent mother lives with an adult child who pays for more than half of her living expenses—food, housing, utilities, health care, repairs, clothing, travel, and similar necessities—and if the mother’s gross income is under $4,300—the child can claim the mother as a dependent. The tax credit, which is nonrefundable, can be as much as $500.

When siblings are cooperative and everyone contributes to mom’s expenses, only one can claim the mother as a dependent. It has to be the adult child who pays for at least 10% of support costs. The IRS calls this a “multiple support agreement.” There’s information on the IRS website to help you figure out if you qualify for a “Credit for Other Dependents.”

Medical deductions are another credit. If an adult child claims a parent as a dependent and also pays medical, dental, and/or long-term expenses that are not reimbursed by insurance, the expenses in excess of more than 7.5% of the adult child’s Adjusted Gross Income (AGI) can be deducted.

For example, if the adult child’s AGI is $80,000, anything after the first $6,000 of the parent’s medical bills—7.5% of the AGI—could be deductible. If the parent’s medical bills were $8,000, $2,000 would be deductible. When calculating the total, include medical expenses for you and your spouse.

AGI thresholds vary by state, so if your state has a lower AGI, you might get a break on state income taxes, even if you do not qualify on federal income taxes.

What about in-home care or adult day care costs? They might also be covered, under the Dependent Care Tax Credit, and could be worth as much as $4,000. To qualify, the dependent parent must have been physically or mentally incapable of taking care of themselves and have lived with you for more than six months.

There is also the possibility of using funds from a Health Savings Account (HSA) or a Flexible Savings Account (FSA) from your employer to pay for a loved one’s medical expenses, as long as she is a qualified dependent. One caveat: if you use the funds from an HSA or FSA to pay for a dependent’s medical costs, you cannot take a tax deduction on the expenses.

Reference: The Oklahoman (Jan. 25, 2022) “If you are a caregiver of elderly parent, you may be eligible for tax breaks”

Why Do People Give to Charities at End of Year?

The landscape for charitable giving has undergone a lot of change in recent years. More changes are likely around the corner. This year, a more intentional approach to year-end giving may be needed, according to the article “How to Make the most of Year-End Charitable Giving” from Wealth Management.

From the continuing pandemic to natural and humanitarian disasters, the need for relief is pressing on many sides. Donors with experience in philanthropy understand charitable giving as part of a tax strategy, part of providing the essential support needed by non-profits to keep operating and respond to emergencies and, at the same time, ensure their charitable dollars are aligned with their family values and missions.

For the tax perspective, changes resulting from the Tax Cuts and Jobs Act of 2017 left many nonprofits harshly impacted by the doubling of the standard deduction, which gave fewer people a financial incentive to donate. The question now is, could the latest round of proposed changes spur greater giving?

Amid all of these changes, sound and stable giving strategies remain the wisest option.

The CARES Act encouraged individual giving during times of hardship, and tax breaks were extended in 2021. However, certain incentives are now closing, such as the ability to deduct up to 100% of adjusted gross income for cash gifts made directly to public charities.

The Build Back Better Agenda proposes increasing the long-term capital gains tax rate for individuals with more than $400,000 of taxable income, and married couples filing jointly with more than $450,000 of taxable income, to 25%, plus a 3% surcharge to income of more than $5 million. This would make charitable giving more attractive from an income tax perspective. However, this bill has yet to be passed.

Consider the following strategies:

Qualified charitable distributions. RMDs must be taken in 2021. For donors taking a standard deduction, a qualified charitable distribution is a possible option. If you are 70½ and over, you can donate up to $100,000 from an IRA. This satisfies the RMD, as long as the gift goes directly to a charity, not to a Donor Advised Fund.

Contributions of appreciated stock. To make charitable gifts in the most tax-efficient way possible, a donation of appreciated stock is a smart move. Donors receive a charitable income tax deduction (subject to AGI limitations) and avoid capital gains tax.

Charitable bequests. The uncertainty around income tax reform includes estate taxes, and pro-active individuals are now reviewing their estate plans with their estate planning attorneys.

Funding a Donor Advised Fund (DAF). A DAF allows donors to contribute assets to a tax-free investment account, from which they can direct gifts to the charities of their choice. The contribution to the fund provides the donor with a charitable income tax deduction in the year it’s made.

Reference: Wealth Management (Oct. 11, 2021) “How to Make the most of Year-End Charitable Giving”

What Qualifies as a Qualified Charitable Distribution?

Qualified charitable distributions allow individual retirement holders to divert some of their federally taxable required distributions to charity, reports a recent article “A tax break for retirees is back. Here’s how to use it–and what to avoid,” from The Washington Post. Known as QCDs, they were not a big deal until 2017, when a change in the tax law changed the number of people itemizing deductions, including charitable contributions, from 31 percent to 11 percent, according to the IRS.

Tax laws let you put tax-deductible money into “defined contribution” accounts, including IRAs, 401(k)s and 403(b)s, until you reach age 72, when you are required to start taking withdrawals—federally taxable Required Minimum Distributions–from the accounts.

The size of the distribution depends upon the year-end retirement account balances and your age. If you had $100,000 in a retirement account last December 31 and turned 75 this year, the RMD is about $4,370. For an 80-year-old, the number would be around $5,350, and at 85, it would be $6,760.

In 2020, QCDs were of little interest because the CARES Act cancelled any RMD requirements. You could still use a QCD, but there was no tax advantage of reducing taxable income by offsetting required distributions.

In 2021, RMDs are back, and QCDs are worth doing again. To make a QCD, you ask the IRA administrator to send a check made out to a registered charity. You are permitted to donate as much as $100,000 per year. Let’s reinforce the message: the check must be made out to the charity, not to you. You also may not send the money to your own donor-advised fund.

IRAs can be used for QCDs, but not 401(k)s or 403(b)s.

You will need to keep track of the QCDs yourself. Do not expect the IRA custodian to do that for you. The retirement plan does send a tax form, the 1099-Rs, to the IRS that shows your total distributions for the year. The QCDs are subtracted from your 1099-R income by you or your tax preparer.

It sounds great, but there is a problem, created by the SECURE Act of 2019. That law let people aged 70½ and older make tax-deductible contributions to their IRAs. However, if you make a tax-deductible contribution to your IRA that you use for a QCD, it triggers a reduction in the amount of the QCD that you can deduct from your federally taxable income.

Do not make QCDs from the same IRA to which you are making tax-deductible contributions. You can set up a solo 401(k) if you are self-employed or use a SEP-IRA to make deductible contributions.  Here again, trouble lurks; do not make a QCD from a SEP-IRA in the same year you are claiming an income tax deduction for contributing to the SEP-IRA.

Reference: The Washington Post (March 18, 2021) “A tax break for retirees is back. Here’s how to use it–and what to avoid”

What are the Benefits of a Donor Advised Fund?

Many Americans are feeling charitable these days, and with good reasons. It’s a hard time for many, and if you are financially able, making donations may help you feel you are making a difference for others during uncertain times. There are many options when making donations, and the recent article “Choosing Charity: How Donor-Advised Funds Benefit Your Contributions” from Fort Worth Magazine explains your choices.

Donor Advised Funds (DAFs) can be opened for varying amounts, that are set by the sponsoring organizations. Smaller community foundations would welcome a DAF for $5,000, for instance. DAFs can be funded with cash or other assets, but once the donation is made, the asset no longer belongs to you. However, you may be able to decide when donations are distributed, and which charities receive funding. There are no required distribution dates, so the funds could go unused for a long time, while you receive the tax write-off right away.

You may also determine the investments within the fund, level of risk and overall investment strategy.

Another good reason to use DAFs: the sponsoring organization becomes the donor of record. Therefore, DAFs are an excellent way to make anonymous contributions.

There are also DAFs that involve active involvement from an advisor, if that is of value to you.

Why is now a great time to use a Donor-Advised Fund?

Some investors have highly appreciated assets that could lead to a significant tax liability, if they were sold right now. DAF offers an alternative—rather than sell the assets and pay taxes, putting them into a DAF can achieve the following:

• You receive a tax deduction,
• There are no capital gains taxes, and
• Your chosen the charity that fully benefits from the funds.

The pandemic has left many people facing uncertainty. Therefore, now isn’t the right time for everyone to open their wallets and a DAF. However, if you are charitably-minded and in a financial position to benefit from a DAF, it is a win-win situation for all concerned.

Reference: Fort Worth Magazine (Feb. 3, 2021) “Choosing Charity: How Donor-Advised Funds Benefit Your Contributions”

Do I Need a TOD Account?

A Transfer-on-Death (TOD) account can eliminate a legal problem, by moving your assets without leaving them in your will.

Yahoo Finance’s recent article, “Transfer on Death (TOD) Accounts for Estate Planning” explains that a transfer on death (TOD) account automatically transfers its assets to a named beneficiary when the holder dies. TOD account holders can designate multiple beneficiaries and divide assets any way they want. However, the beneficiaries have no rights to a TOD account, while its owner is alive. The beneficiaries can also be changed at any time.

When a person with a TOD account dies, the executor will deliver a copy of the death certificate to an agent at the account’s bank or brokerage. The account is re-registered in the beneficiary’s name. A TOD account sidesteps the probate process and takes precedence over a will.

If you have a surviving spouse as your joint owner, investment and bank accounts will go to them before going to a TOD account beneficiary. Based on state law, a beneficiary may receive the assets of a TOD account, only after a joint owner spouse’s death, if at all.

A TOD account can be divided among several beneficiaries, but it doesn’t have to be done so equally.  A TOD account with someone under 18 as a beneficiary, could also be a problem because minors can’t control investment accounts. You would need to name a guardian or set up a trust (and name a trustee).

As you start the estate planning process, an experienced estate planning attorney will be a big help in organizing your finances and accounts. Talk to them about your overall estate plan objectives.

Reference: Yahoo Finance (June 26, 2019) “Transfer on Death (TOD) Accounts for Estate Planning”

How Many Total IRAs Can I Own?

There’s no limit on the number of IRAs you can have. You can also own multiple types of IRAs, like a traditional, a Roth, a SEP, etc. You can even own multiple IRAs of the same type at the same or different financial institutions.

A Nerd Wallet article simply asks, “Can You Have Multiple IRAs?” The article notes that increasing the number of IRAs you own doesn’t necessarily increase the amount you can contribute annually. Let’s look at the pros and cons of having multiple IRAs.

Having multiple IRAs can help you fine-tune your tax strategy and gain access to more investment choices and increased account insurance. Different types of IRAs give you different tax breaks. A traditional IRA gives you an immediate tax deduction, letting you delay what you owe the IRS, until you begin withdrawing your savings from the account in retirement. With a Roth IRA, there’s no upfront tax break on contributions, but qualified withdrawals are tax-free.

Having IRAs at multiple financial firms can give you a choice of different types of investments and even different investing strategies.

The main drawback of multiple IRAs is the hassle. Think about double (or quintuple) the paperwork. While it’s easier than ever to monitor and manage your money online, having multiple accounts means dealing with multiple tax forms, notices of service changes/updates, privacy policies and other disclosures.

When your assets are spread across multiple accounts, monitoring performance and rebalancing the overall mix to maintain a coherent investment strategy is more involved.

For most people, the right number of IRAs is at least two: a Roth and traditional IRA, in addition to a workplace retirement plan, if you’ve got one. The Roth IRA gives you the most flexibility both before you retire (tax- and penalty-free withdrawals of contributions) and in retirement (tax-free distributions and no required minimum withdrawals). If you qualify to contribute to a Roth IRA, it’s worth having one.

A traditional IRA is a wise choice for money from old workplace retirement plans, or if the upfront tax deduction incentivizes you to save more. You’ll likely get access to more investment options and more control over fees, as opposed to your old 401(k). Rolling the money from a plan funded by your pretax dollars into a traditional IRA, which treats taxes the same way, also ensures there aren’t any surprise bills from the IRS.

Reference: Nerd Wallet (February 26, 2019) “Can You Have Multiple IRAs?”