By Angie M. Stephenson, CFP®, CPA/PFS
The tax reform passed in December 2017 substantially increased the personal standard deduction. As a result, fewer taxpayers are itemizing deductions. Since charitable contributions are only a tax deduction for those taxpayers who itemize, many individuals are establishing Donor-Advised Funds (DAF) to save taxes.
What Is a DAF?
A DAF is a separate account established to hold charitable contributions paid by a donor. It allows individuals to combine several years of charitable contributions into one year and receive an immediate tax deduction in the year of funding the DAF. A donor may contribute cash or appreciated investments to the account, and the payments to the charitable organizations can be delayed into future years.
Who Should Consider a DAF?
Ideal candidates for establishing a DAF are individuals who estimate their itemized deductions may be fairly close to the standard deduction ($24,400 for married, $12,200 for single filers in 2019).
Example Fact Pattern for a DAF
- A married couple projects itemized deductions of $23,000 in 2019, 2020 and 2021. Included in these amounts are $9,000 of charitable donations paid for each year.
- Assuming the couple continues to pay annual charitable cash donations of $9,000 personally, they will no longer itemize deductions and receive the standard deduction of $24,400.
- Total standard deductions for the three-year period will be $73,200 ($24,400 x 3 years).
- The married couple establishes a DAF in 2019.
- Cash is donated to the DAF in 2019 in the amount of $27,000 ($9,000 each for 2019, 2020 and 2021). The couple’s charitable contributions for three years are being combined into one in 2019.
- The total deductions for the three-year period will be $89,800.
- 2019: Couple will itemize deductions of $41,000 ($23,000 projected itemized deductions plus additional contributions of $9,000 for 2020 and 2021 into the DAF).
- 2020: Couple will use the standard deduction of $24,400.
- 2021: Couple will use the standard deduction of $24,400.
- Assuming a tax rate of 25%, the married couple may receive $4,150 of tax savings to open and fund a DAF. Note that the benefit may be higher if an individual contributes appreciated investments to fund the DAF. Any long-term capital gains on the investments donated will not be taxed to the individual, thus providing additional tax savings over and above the $4,150.
While the major change in the tax laws is the driving factor for increased interest in this planning technique, there are other reasons to consider DAFs in your tax planning. If you have not considered a DAF, it may be a good time to make an assessment. If you have questions or would like to meet and review this planning technique, please call our office for an appointment.
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