The holiday season is customarily a time of giving gifts. Whether to your favorite charity, family members or others – there are lots of opportunities for gift giving with tax benefits.
Use caution. During the holiday season, you may receive unsolicited phone calls, emails, or other social media requests for donations for various causes. Sadly, some of these appeals may come from fraudsters and not legitimate charities. Unfortunately, this happens every holiday season.
So, before writing a check or giving your credit card number to a charity that you aren’t familiar with, check them out. Then you’ll know your donation will end up in the right hands. And for the right cause.
Tips to ensure your gift giving goes where you intended it to
Follow these tips to make sure that your charitable contributions will actually go to the cause you wish to support:
- Donate to charities that you know and trust. Be alert for charities that seem to have sprung up overnight and that you are not familiar with.
- Ask if a caller is a paid fundraiser, who they work for, and what percentage of your donation goes to the charity and fundraiser. If you don’t get clear answers—or if you don’t like the answers you get—consider donating to a different organization.
- Don’t give out personal or financial information, such as your credit card or bank account number, unless you are sure that the charity is reputable.
- NEVER send cash. You can’t be sure that the organization will receive your donation, and you won’t have a record for tax purposes.
- Never wire money to someone who claims to be from a charity. Scammers often request you to wire donations. This is because wiring money is like sending cash. Once you send it, you can’t get it back.
- If a donation request comes from a charity that claims to help a local community group (for example, police or firefighters), ask members of that group if they have heard of the charity and if it is actually providing financial support before contributing.
- Check out the charity’s reputation online using Charity Navigator, Charity Watch or other online watchdogs.
Gift Giving with Tax Benefits
A Gift of College Tuition
An interesting quirk in the gift tax laws is that an individual can pay a student’s higher-education tuition directly to a qualified college and it will be exempt from gift tax and gift tax reporting. What student wouldn’t love to have part of their tuition paid? What wonderful gift giving with tax benefits!
As an aside, college tuition generally qualifies for a federal income tax credit. Another quirk in the tax laws says that the education credit goes to the individual who claims the child (student) as a dependent. This generally results in a gift to the child’s parents in the form of the tax credit.
Example: Whitney is attending college as the dependent of her mother and father. Whitney’s grandfather makes a tuition payment directly to the college. Whitney’s grandfather will not have gift tax issues since the tuition was paid directly to the school. Since Whitney is a dependent of her parents, her parents would claim any available tuition credit. Thus, by paying the tuition, Grandpa made a gift of tuition to his granddaughter and a gift of the tuition credit to her parents.
Qualified Tuition Program (Sec. 529 plans)
These arrangements allow taxpayers to put away large amounts of money. Those amounts are only limited by the projected cost of a college education. However education cost varies from state to state with some plans capped at more than $525,000. If used only to pay tuition and certain other college expenses, the account’s earnings are tax-free. So the sooner the account is funded, the more it can earn. There are no limits on the number of donors or on age or income. The contributions are subject to the gift tax if the annual contribution exceeds the annual gift tax exclusion amount. That amount is $15,000 for 2020.
As of 2018, tax-free distributions of up to $10,000 per year per designated beneficiary are allowed for tuition. No other expenses are allowed. Tuition must be in connection with enrollment or attendance at elementary or secondary schools, including public, private and religious schools. However, this option should be considered cautiously. Sec. 529 plans work best when the contributed money is allowed to grow over a long period of time.
Qualified Charitable Distribution (QCDs)
Individuals (age 70.5 or over) can transfer up to $100,000 annually tax-free from their IRAs to qualified charities. Required minimum distributions (RMDs) are suspended for 2020. However, in other years, QCDs will count toward your annual RMD requirement. So, you might want to consider using QCDs for your smaller contributions. Contact your IRA custodian or trustee to arrange the transfer. To count for 2020 transfers need to be completed by December 31, 2020. So it’s best not to wait until the last minute to initiate the transfer.
Donor-Advised Funds (DAFs)
If you would like to make a substantial tax-deductible charitable donation this year and have the ability to spread the actual distribution of funds over a number of years, a donor-advised fund (or DAF) may be a perfect fit. There are any number of reasons individuals choose DAFs. One of the more common is making a substantial charitable donation in an exceptionally high-income year.
A DAF is a separate fund set up within a public charity to which a donor makes a contribution. The donor then advises the sponsoring organization on how to ultimately distribute the funds from the account as charitable gifts over the course of many years. While the fund isn’t required to follow the donor’s requests, most do.
Tax law allows the sponsoring organization to be independent, community-based, or religiously affiliated. Alternatively, they can be connected with a financial institution. Minimum contributions typically range from $5,000 to $25,000. The sponsoring organization manages the administration of the fund. And they handle all the tax reporting, usually for an annual fee of 1%.
You get to take a tax deduction for your entire donation in the year you contribute the funds or assets to the DAF. Funds are invested if they are not distributed. These fund grow until they are disbursed to the charitable organization(s). This type of gift giving with tax benefits is one of the more satisfying gifts one can give.
Work Equipment That Doubles as a Gift for Your Spouse
Is your spouse self-employed? Consider gifting them tools they can use for their business. The costs of gifts qualify as a business tax deduction for the year when the equipment is put into service.
Gifts to Employees
It is common practice this time of year for employers to give their employees gifts. If a gift is infrequently offered and has a fair market value so low that it is impractical to account for it, the gift’s value is treated as a de minimis fringe benefit. As such, it would be tax-free to the employee, and its cost would be tax deductible by the employer. However, be cautious, as any amount of cash given to an employee must be treated as taxable wages. This gift giving with tax benefits has specific parameters to follow. Or read our article about Employee Gifts.
Monetary Gifts to Individuals
Once the value of your estate exceeds a certain amount, when you pass away your estate may be subject to federal (and possibly a state) estate tax. The estate tax exclusion amount was more than doubled with the passage of the Tax Cuts and Jobs Act (TCJA). The amount climbed from $5.49 million in 2017 to $11.18 million in 2018. It has been inflation-adjusted each year since, so the 2020 exclusion amount is $11.58 million.
However most of the provisions of the TCJA are temporary and expire after 2025. At that point, the estate tax exclusion will revert back to the pre-TCJA level. Estimating for inflation, the 2026 exclusion amount may be reduced. Any amount of your estate in excess of the exclusion amount will be subject to the estate tax, which currently has a top rate of 40%. Note to the married folks: the estate tax applies to the second spouse to pass away.
Gift Values and Estate Tax Exclusion
The value of gifts you make to individuals during your lifetime reduces the estate tax exclusion amount available to offset the value of your estate when you pass away. However, the estate tax exclusion is only reduced when the gifts you make during life exceed an annual amount. This year (2020) the amount is $15,000. That annual exclusion applies per individual. This means you can give up to the exclusion amount to as many people you’d like every year, without reducing the estate tax exclusion. And it doesn’t matter if they are related to you, or not. Unlike gifts to qualified charitable organizations, gifts to individuals are not tax deductible.
Of course, change happens when there is a change in administration. So there is a chance that the lifetime gift and estate tax exclusion may be reduced before 2026.
Even though gifting assets while living may reduce your estate’s tax liability, the decision to gift assets while still living is a personal one. Depending upon your particular circumstances, this type of gift giving with tax benefits can be an emotional one.
Additionally, while the estate tax exclusion will decline after 2025, the IRS has said that the value of gifts made before then (when a higher lifetime gift and estate tax exclusion applied) won’t have to be adjusted for the reduced exemption.
Documentation Needed for Giving Gifts With Tax Benefits
Bank Records
To claim a tax deduction for gifts to qualified charitable organizations, you must have substantiation. For cash contributions you must have a bank record to claim a tax deduction. A bank record could include the following:
- a canceled check
- bank or credit union statement
- credit card statement
In addition, the record must show the name of the qualified organization, the contribution date and the amount of the contribution. A receipt (or a letter or other written communication) from the qualified organization showing the name of the organization, the date of the contribution and the amount of the contribution can be substituted for a bank record. For cash contributions of $250 or more and noncash donations, additional requirements not covered in this article apply.
Cash contributions include gifts paid by cash, check, electronic funds transfer or credit card.
With documentation requirements in mind, here are some words of caution about charitable contributions during the holiday season:
- When you are shopping and drop cash into a holiday collection kettle, you likely won’t get a receipt for your contribution. Since there is no documentation, you cannot claim the cash charitable contribution as a tax deduction.
- The same goes for buying and giving new, unused toys to holiday toys-for-kids drives. Tip: Save the purchase receipt for the toys and request verification of the contribution from the sponsoring organization. If you can’t obtain a contribution verification from the organization, the IRS will allow a deduction of up to $249. That is, provided you document the purchase of your donation.
Timing of your Gift
Charitable contributions are deductible in the year in which you make them. If you charge a gift to a credit card before the end of the year, it will count for 2020. This is true even if you don’t pay the credit card bill until 2021. In addition, a check will count for 2020 as long as you mail it in 2020.
Special CARES Act Rules for 2020 Contributions
Normally, to get a tax benefit from making a charitable contribution, you need to itemize your deductions. The CARES Act created an above-the-line charitable contribution for taxpayers who claim the standard deduction instead of itemizing their deductions. This allows a charitable deduction for cash contributions made in 2020 to qualified charities, of up to $300. This excludes charitable deductions to a DAF. The $300 maximum applies to all filing statuses. This means it is $300, not $600, for a married couple filing a joint return.
In the same legislation, Congress relaxed some of the restrictions related to how much a taxpayer can deduct as an itemized charitable contribution in any given year. Normally, cash contributions are limited to 60% of a taxpayer’s adjusted gross income (AGI). However, the CARES Act has increased the AGI limit for cash contributions (other than to DAFs) to 100% for 2020. Any amount over 100% can be carried over and deducted from subsequent years’ returns until the excess is used up. The limit is for five years.
If you have questions about how these gift giving suggestions might impact your tax situation, give this office a call.
Happy holidays from all of us at Nissen and Associates!
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