Many taxpayers with charitable intentions struggle with the decision of whether to
donate property to charity during their lifetimes or to make a charitable bequest in
their wills that will be fulfilled from property included in their estates
(testamentary bequests). While taxpayers frequently base their choice between
lifetime charitable gifts and testamentary bequests on nontax considerations, they
need to be aware of the tax implications of their decision.
For income tax purposes, the deduction for charitable contributions is limited to a
percentage of adjusted gross income (AGI), depending on the type of charity and the
type of property donated. In contrast, no percentage limitation exists on the amount
of charitable donations that may be deducted from the gross estate (as long as the
donated property is included in the gross estate). However, in most instances a
charitable gift during lifetime will provide a double tax benefit. The donation
produces an income tax deduction at the time of the gift, plus the donated property
and any future income and appreciation from the property are fully excluded from the
donor's gross estate. The cost of the double benefit is giving up the property and
all future income while the donor is still living.
Example: Greater tax benefits by lifetime giving
Tom, who is in the top tax bracket, plans on leaving $1 million to a qualifying
charity. If he makes a $1 million testamentary bequest, this could save his estate up
to $400,000 ($1,000,000 * an assumed marginal federal estate tax rate of 40%). If Tom
makes a current gift, this will save him up to $396,000 in federal income taxes
($1,000,000 * 39.6% for 2014). In addition, if he has a taxable estate, it could also
save another $241,600 [($1,000,000 - $396,000) * 40%] based on his estate being
reduced by the net amount of $604,000, the difference between the value of the
donated property and income taxes he saved. Thus, the total income and estate tax
savings from making a current gift is $637,600 ($396,000 + $241,600).
The donor generally must transfer his or her entire interest in the contributed
property for the gift to qualify for the charitable donation income tax deduction.
Transfers of less than the donor's entire interest in the property (i.e.,
split-interest gifts) qualify for the deduction only if they meet certain criteria.
A charitable bequest has the obvious advantage of allowing the donor full use of the
property until death. However, many lifetime gifts can be structured in a manner that
allows the donor to continue to use the property or receive its income for life. In
these instances, the donor gets the double tax benefit associated with lifetime
contributions while retaining some benefit from the property until his or her death.
This publication is distributed with the understanding that the author, publisher and
distributor are not rendering legal, accounting or other professional advice or
opinions on specific facts or matters, and, accordingly, assume no liability
whatsoever in connection with its use. The information contained in this newsletter
was not intended or written to be used and cannot be used for the purpose of (1)
avoiding tax-related penalties prescribed by the Internal Revenue Code or (2)
promoting or marketing any tax-related matter addressed herein. © 2014