Basic Estate Planning: Giving

Fact Sheet 8
EP-8
Community Development
Date: 
07/06/2012
James C. Skeeles, Ph.D., Extension Educator Emeritus in Agriculture and Natural Resources and Community Development, skeeles.1@osu.edu
Russell N. Cunningham, Attorney and OSBA Certified Specialist in Estate Planning, Trusts, and Probate Law, Barrett, Easterday, Cunningham & Eselgroth, LLP, rcunningham@ohiocounsel.com

Many colleges and institutions have excellent, free materials concerning charitable giving. For example, The Ohio State University Office of Gift Planning (1-800-327-7907) is a great resource.

Charitable Contributions

Monetary benefits from charitable contributions can include income tax deductions, avoidance of capital gain tax, and reduction or elimination of estate tax otherwise payable. Making charitable contributions might also cause more assets to be passed to heirs than otherwise would have been possible.

There are also nonmonetary benefits to giving. Most of us make charitable contributions during our lives. Many wills include bequests to charities. Maybe the money in the will was reserved for the rainy day that never came.

Maybe the heirs don't really need all the assets. Maybe there is no one with whom you wish to leave your assets. Maybe you always wanted to give more to charity but never did it. At any rate, charitable giving has monetary as well as psychological rewards.

Giving

Giving is a very important tool in estate planning. Giving strategies can be very simple or very complex. Strategies might involve giving during one's lifetime, bequesting, or both. Strategies might also involve giving cash or property outright and in total, or giving only certain rights of property such as remainder rights, current income rights, future income rights, etc. Gifts can be made to family members, other heirs, or charities. All of these gifts have their place and are important tools in estate planning.

This fact sheet is only an introduction to giving and its place in estate planning. If you are seriously considering charitable giving, start at the development office of the charitable organization(s) of your choice. A team of professionals such as an an attorney, an accountant, and a development officer should assist you in developing a plan for your sizable gift.

Giving $13,000 or Less

By far, the most used giving tool is that of giving $13,000 or less per person per year. Even if not given to a charitable organization, sums of $13,000 or less per year can be gifted to as many different people as the gifter chooses. There is no federal or state estate tax, no federal gift tax implications, and no additional tax forms. Also, a husband and wife can each give up to $13,000 to one person in one year, with that person receiving a total of $26,000 from the couple, even if the gift given was owned by only one of them. This simple strategy transfers funds and assets, tax-free, and it requires no tax forms to be filed. If the $26,000 gift is from only one spouse, however, a gift tax return is required to elect to have the gift split between the spouses. If this is done over a number of years, estates can be significantly reduced, thus eliminating transfer costs for those assets.

Also, the $13,000 is now increased at the rate of inflation but rounded down to the nearest $1,000 increment. At the present rate of inflation, it might be a few years before the amount increases to $14,000.

Gifts and Gift/Estate Taxes

Gifts up to $13,000 per person per year are transferred, tax-free, and do not use up unified credit, but gifts over that amount are often appropriate.

If assets (real estate, stocks, or personal property) are expected to appreciate, it might be appropriate to give more than $13,000 per year per person per donee. Giving more than the $13,000 limit uses up the federal estate tax exclusion dollar-per-dollar, unless the gift is from one spouse to the other in which case there is an unlimited exclusion and gift allowance if the recipient is a citizen of the United States. In 2012, up to $5.12 million can be given over a lifetime (over the $13,000 per person per year allowance) with no gift tax, but the federal estate tax exclusion will be reduced dollar-for-dollar. Therefore, if $5.12 million over the $13,000 per person per year allowance is given away, there will be nothing left to offset federal estate taxes.

However, if assets are expected to appreciate, less federal estate tax exclusion will be needed to negate tax on a gift made before appreciation. Put another way, a set amount of unified credit will allow more assets to transfer federal tax-free (gift and/or estate taxes) before the assets appreciate.

For example, Mom, (a widow) wishes to transfer the farm to Son. The farm is worth $1,013,000 now, but because a four-lane highway interchange will be constructed near the farm, the farm is projected to be worth $6 million at Mom's death. Let's ignore Mom's other assets as negligible. Mom can give the farm to Son and use up the $1 million worth of gift tax exclusion ($1,013,000 minus her $13,000 per person per year exemption). She will not have to pay federal gift tax because the exclusion amount of $5 million is more than her gift. She will, however, have to file a gift tax form.

However, if Mom wills the farm to Son and the farm is worth $6 million when Mom's estate is settled in 2012, federal estate taxes will be assessed on the excess value of Mom's assets over her exclusion amount that will amount to $350,000 ($6 million minus $5 million equals 1 million times a 35% tax rate equals $350,000). By giving the property before appreciation, this can be saved.

Payments Directly to an Institution

Payments made directly to hospitals, universities, or colleges are not considered to be taxable gifts even though they might exceed $13,000 per person per year and might be for services that directly or indirectly benefit the giver or his or her family. Even though they do not qualify for a charitable deduction for income tax purposes, such payments will not impact gifts of $13,000 per person per year, nor will they reduce the unified credit or have gift tax implications. Thus, grandparents who wish to provide for grandchildren's tuition expenses or who wish to assist with grandchildren's medical expenses might wish to pay the institution directly. These payments do not reduce the $13,000 per year gift that the grandparent can give to that grandchild, nor do they add to the tally of gifts that use up the unified exemption.

This strategy could significantly reduce the size of an estate, along with accompanying transfer costs, especially if the grandparent has numerous grandchildren that attend college.

Charitable Contributions and Taxes

A charitable deduction can be applied to three different types of taxes: income tax (including income tax on gain), gift taxes, and estate taxes. When making sizable gifts, most people make them in a manner so that they qualify for several tax deductions. If a gift is made over a period of time during one's lifetime, attention needs to be given by professionals to income and gift tax considerations, as well as to estate tax ramifications. Likewise, when a charitable gift is made by means of an irrevocable trust, it is important that it qualifies for charitable deductions. If the gift is made outright during one's lifetime, qualification for both income tax and gift deductions are more straightforward given that the institution qualifies as a charitable organization. However, it is still important to involve a team of professionals to make sure everything is in order.

Charitable Organizations

All organizations are not considered equal for tax purposes. Furthermore, exempt organizations are not necessarily charitable organizations. Exempt organizations such as business leagues, fraternal societies, condominium associations, and Blue Cross are exempt from paying income tax. A charitable contribution deduction to them might not qualify for a charitable contribution deduction from your taxes.

However, contributions to charitable organizations do qualify for deductions from income, gift, and/or estate taxes. In general, contributions to charitable organizations reduce the taxable amount on which federal estate taxes and/or federal gift taxes are figured, dollar-for-dollar. However, contributions do not necessarily reduce one's taxable income for income tax calculation, dollar-for-dollar, at least not in the year of the contribution.

Income Tax Charitable Deduction

On your income tax forms, fill out Schedule A if you itemize your deductions. For schedule A to be to your advantage, the total of itemized deductions must be more than the standard deduction. Charitable deductions allow a person to reduce his or her income tax by only a portion of the contribution in the year the donation is made. In many situations, the unused portion of the allowed deduction can be carried forward as much as five years, if the donor doesn't have enough income to use it up in the year of the gift.

To maximize tax benefits, most need to make sure they donate to a charitable organization rather than an exempt organization. There are 50% charitable organizations, 30% charitable organizations, and private foundations. The type of organization can influence the percentage of the donation that can be used to reduce adjusted gross income (AGI) for income tax calculation the year of donation.

Assuming there is no net operating loss carryback to the year, a donor is allowed to deduct only 50% (30% for 30% charitable organizations) of their AGI the year of a cash donation. However, deductions unused can be carried forward as many as five years.

The most common examples of charitable organizations that qualify for the maximum 50% of AGI for cash contributions the year of the donation are churches, educational organizations, organizations for the benefit of certain state and municipal colleges and universities, hospitals and medical research/educational organizations, governmental units, and certain community foundations as designated by the Internal Revenue Code.

Private foundations (30% charitable organizations) are all those charitable organizations not named in the Internal Revenue Code as 50% organizations. It appears that the major difference between 50% and 30% organizations is that the 30% organizations lack a broad base of public support.

The gift and/or estate tax deduction for charitable contributions will likely be the same whether you donate to a 30% charitable organization, 50% charitable organization, or private foundation. So, the 30% or 50% refers to the percentage allowed for the income tax deduction on Schedule A.

The deduction amount the year of contribution is further limited for long-term capital gain property (real estate, stocks, etc.). Income tax deduction in one year for gifts of such property is limited to 30% of AGI for 50% organizations, and 20% of AGI for 30% organizations, with the same five-year carry forward. A donor can elect to take the full 50% or 30% deduction for long-term capital gain property in a given year, but the deduction is limited to the donor's cost basis of the property and no carry forward is allowed. Needless to say, if one is to make a sizable gift (more than 20%–30% of yearly income for appreciated property), it is necessary to work with an accountant and other professionals to fully utilize gift-estate-income tax deductions. If planning to make a sizable gift to other than a 50% charitable organization, check with your accountant to see how much tax advantage there would be to give instead to a 50% charity.

Caution: The above is only a summary of tax treatment of charitable deductions for income tax purposes. Some charitable organizations will qualify for one federal tax deduction and not for the other. An accountant should be included on your team of professionals to make sure you have maximized your income tax benefits with any sizable charitable gift.

Capital Gains

If a donor has appreciated assets, it is generally advisable to contribute the assets directly to a charitable organization instead of selling the assets and contributing the cash from the sale. The reason for this is that the donor does not realize any income tax liability on the gain when the appreciated assets are donated. The donor would, however, realize income tax liability on the gain if the appreciated assets were sold. The donor could, as a result, make a larger gift because he or she doesn't have to spend a portion of the proceeds to pay more income tax due to capital gain of the assets.

For example, a donor is considering donating $50,000 to a charitable organization. Some time ago, the donor purchased a farm field for $10,000, but it is now valued at $50,000. The donor is debating whether to sell the field and donate the money, or directly donate the field. The purchase price of $10,000 is referred to as cost basis, so if sold, the gain on the field would be $40,000 ($50,000–$10,000). If the field is donated directly, the donor will save $6,000 in federal income tax (assuming a 15% federal income tax on gains, $40,000 X 15% = $6,000), not to mention savings also in Ohio income tax. With direct donation of appreciated property, capital gain tax liability is averted.

Either method will reduce the income tax bill of the donor because of the income tax charitable deduction, but the direct gift of appreciated assets (assuming those assets were held for more than one year) to a charitable organization has the additional benefit of averting the capital gains portion of income tax liability.

An additional benefit of donating appreciated property is that, without paying tax on the gain, the donor can get tax credit for an amount larger than the initial cash outlay. In the prior example the donor paid $10,000 for the field, but he was entitled to an income tax deduction in the amount of $50,000 with no income tax on the gain. A logical strategy for someone planning to donate to a charitable organization might be to buy assets that will appreciate, then donate the appreciated assets directly.

Property That Should Be Donated To Charity

Appreciated property that has been held for at least one year is best suited for favorable income tax treatment when donated directly to a charitable organization. It is best that this property is easily valued (e.g., land, real estate, farms, stocks, etc.). Hard-to-value assets such as art work, jewelry, books, closely held stock, etc., are often audit targets. However, provided sufficient care is given in obtaining a professional appraisal, hard-to-value assets should not be excluded as a prospect for charitable giving.

Problem Property

Some property, even though it has appreciated, is not a good candidate for giving to a charity, as the income tax deduction is limited to the cost basis of the property. This includes property taxed as income (not as capital gain), short-term capital gain property, inventory, and art work or computer programs donated by the creator. If raised livestock that cannot be directly and immediately used by the charitable organization is donated to a charity, income from the sale of the livestock would be taxed as all income, thus there would be no deduction allowed. However, if personal property is directly and immediately used by the charitable organization in fulfilling its mission, the donor might be able to apply the full market value of the property as an income tax deduction.

There is a limited exception in 2011 for Individual Retirement Account funds in an amount up to $100,000 for an individual who is over 70 years of age to allow the full value to go to charity.

Also, for gifts to charity balls/banquets, charity raffles/auctions, or for any gifts where you are given goods or services in return, the charitable deduction must be reduced by the value of the goods or services received. Precise documentation should be provided by the charity. If it is not, request it. If it is still not provided and credit for the gift for tax purposes is important to you, consider a different charity.

For gifts of $200 or more, a receipt from the charity is required (a canceled check is no longer enough). For gifts of property exceeding $500, Form 8283 must be filed with the 1040, and for gifts of property exceeding $5,000 (other than publicly traded securities), a qualified appraisal is required as a part of Form 8283.

Giving Mechanisms

Different gift mechanisms can be used to give to charitable organizations. If your estate is quite large and has highly appreciated property, you might be able to gift to charity while passing more to your heirs than would be possible without the charitable gift. Talk to the development office of the charity of your choice, or speak with other members of your estate planning team.

Conservation Easements

As farmland and open space preservation/retention movements gain momentum, more land trusts become available to accept gifts of conservation or agricultural easements. In such cases, the right to develop land has been given to the land trusts. Also, government entities can now purchase development rights. Keep in mind that for income tax purposes, land or a portion of land value (value of easement) that is sold is subject to capital gain tax liability. Likewise, land or a portion thereof that is donated can result in a charitable donation deduction. Land where the conservation easement has been given away or sold will be valued at a farmland or open space value; in most cases this is significantly less than the development or fair market value.

Currently available from the federal government are permanent easement payments in exchange for a conservation easement for environmentally sensitive land such as wetlands or border strips along streams and rivers. Landowners that gift easements might be eligible to exclude 40% of the value of such land from estate tax calculations in an amount up to $500,000. There are also some additional income tax benefits for these easements.

These fact sheets should in no manner be considered as a replacement for consulting with estate planning professionals, nor should the general principles in these fact sheets be applied to specific situations without consulting with an attorney.


Your Response

Fact Sheet 8

1. Assume Bob and Ellen are married and have three children, each of whom are married. They also have a total of five grandchildren. Assume also that this Christmas they are feeling especially generous and that they have not yet gifted anything thus far this year to any of the above family members. Also assume that they are very wealthy and have enough assets to gift as much as they wish. How much can they, as a couple, give in 2012 to the above family members without reducing the federal estate tax exclusion amount remaining to be used when their estates are settled?

$___________________________

2. Contributions to charitable organizations qualify the donor for deductions from what possible three types of federal taxes?

_________________taxes      ________________taxes      __________________taxes

3. For what two taxes will a dollar of donation likely reduce the federal tax by a dollar, regardless of whether the charitable organization is a 50% or 30% organization?

_________________taxes      ________________taxes

4. For which of the above taxes will it likely make a difference if money is donated to a 50% or 30% organization in how much tax deduction is allowed the year of donation?

_________________taxes

5. The tax liability that occurs upon the sale of appreciated property (capital gain liability) is generally averted when such property is donated to a charity, even if the charity subsequently sells the property. Capital gain liability increases which type of tax, provided the owner sells the property first, then donates the proceeds?

_________________tax


Answers

Fact Sheet 8

1. Assume Bob and Ellen are married and have three children, each of whom are married. They also have a total of five grandchildren. Assume also that this Christmas they are feeling especially generous and that they have not yet gifted anything thus far this year to any of the above family members. Also assume that they are very wealthy and have enough assets to gift as much as they wish. How much can they, as a couple, give in 2012 to the above family members without reducing the federal estate tax exclusion amount remaining to be used when their estates are settled?

$__286,000____

Both Bob and Ellen can donate $13,000 per year. Each can donate to every one of their children, children's spouses, and grandchildren:

3 children + 3 spouses of children + 5 grandchildren = 11 recipients X 2 spouses donating = 22 gifts

22 gifts at $13,000 per gift = $286,000

2. Contributions to charitable organizations qualify the donor for deductions from what possible three types of federal taxes?

 income  taxes          gift taxes          estate taxes

A portion of the federal gift and estate taxes are offset dollar-for-dollar by charitable contributions. Taxes can be reduced either by a gift during one's lifetime or a charitable donation made through the will. However, income taxes can be reduced by a deduction on Schedule A of a charitable contribution, thus are available only if done during one's lifetime.

3. For what two taxes will a dollar of donation likely reduce the federal tax by a dollar, regardless of whether the charitable organization is a 50% or 30% organization?

 gift taxes         estate taxes

In general, every dollar given to a charitable organization is subtracted from the total value of the estate or from the total value of the gift, so there is a dollar-per-dollar reduction in the amount upon which tax is figured.

4. For which of the above taxes will it likely make a difference if money is donated to a 50% or 30% organization in how much tax deduction is allowed the year of donation?

income taxes

With income taxes, only a portion of the amount of the gift is allowed to be deducted on Schedule A, and that amount will likely differ for 50% and 30% organizations.

5. The tax liability that occurs upon the sale of appreciated property (capital gain liability) is generally averted when such property is donated to a charity, even if the charity subsequently sells the property. Capital gain liability increases which type of tax, provided the owner sells the property first, then donates the proceeds?

income tax

The dollar amount that property appreciates is taxable income and is included as capital gain in the year in which it is sold on one's income tax. The percent of federal tax charged for such gain has been reduced, but it can still easily be 15% unless you are in the lower tax bracket. However, if a charity sells the property it is not assessed that tax.

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