Front load your charitable tax deductions with a donor advised fund

There are several ways for individuals to contribute to their favorite charitable causes. Many donors contribute directly to a charitable organization, especially for smaller amounts of donations. On the other hand, some very large donors start their own foundation for better control on how their money should be spent. A donor advised fund (DAF) is a third option for making charitable contributions of various amounts with several advantages over starting a foundation or contributing directly.

A DAF is a charitable account opened by donors and held in custody by a nonprofit—usually a charitable organization founded by a financial services company (Such as Charles Schwab), a community foundation or a university. The donor decides the amount and timing of contribution to the account and can make grants to qualified 501(c)(3) charities (In good standing with the IRS) from the account. The custodian sends out the grants to qualified charities at the donor’s request. The assets in the account are managed in various investments that the custodian offers, and some custodians allow an independent investment adviser to manage the investments. The assets in the fund grow tax free and grants made are not taxed. The custodian is responsible for the recordkeeping, and donors can access their accounts, all documents and records (Such as required for filing taxes) online.

Tax advantages

One of the biggest tax advantage of DAFs is that it allows you (The donor) to uncouple the timing of the charitable tax deduction from the timing of the grant. This allows you to make a tax-deductible contribution in any year and subsequently make grants to charities of your choice on your own schedule. This is especially useful after the latest tax act was passed, which increased the standard deduction while doing away with several miscellaneous deductions and capping deductions for state and local taxes . A higher standard deduction may make itemized deduction and thus charitable contributions (Which must be itemized) disadvantageous for several donors if their total deductions are less than the standard deduction. By clubbing several year’s charitable contributions (and contributing it to a DAF) you could increase your itemized deductions over the standard deduction*. Similarly, a DAF can be used for tax planning in years when there is a spike in income and potential for a high-income tax burden. In these high-income years, you may reduce your taxable income by contributing to a DAF.

The IRS treats contributions to a DAF like contributions to a public charity allowing for higher deductions. Cash contributions can be deducted at 50% of adjusted gross income (AGI) and securities contributions can be deducted at 30% of AGI. The IRS allows a 5-year carry forward of contributions that cannot be deducted any given year (Excess deductions). Contributing appreciated securities instead of cash allows you to avoid paying capital gains and get a higher charitable deduction. For example, if $20,000 worth of securities you plan to donate, have capital gains of $10,000, selling it would entail a $2000 capital gains tax (assuming a 20% capital gains rate) and you can deduct the rest ie. $18,000 as charitable contributions. If instead, you donate the securities without selling it, you can deduct the current value of the securities ie. $20,000. (This is true for all charitable contributions whether you do it through a DAF or not)

* If you are taking RMD from your IRA you can circumvent this by setting up a qualified charitable deduction

Operational advantages

A DAF is very easy to set up and has much lower administrative requirements and fees compared to a private foundation. There are no minimum annual disbursements and no public filings are required. You can set up a DAF for as little as $5000 initially with subsequent contributions as little as $100. (Depending on the minimums stated by the custodians)

DAFs allow donors to maintain a level of privacy around their giving if they desire, especially if the ultimate distribution comes from the charitable organization sponsoring the DAF and not directly from the donor.

Estate planning advantages

A DAF is not considered part of an estate and can be a powerful estate planning vehicle. You can also make tax advantaged contributions to DAFs at death, such as designating a DAF as a beneficiary of a retirement plan, a revocable or living trust, a charitable trust or life insurance plan.

Please reach out to us if you would like to explore this further.