Colin Gerrety, CFP®, CIMA®

Colin Gerrety, CFP®, CIMA®

Colin equates success with helping others make good decisions. A DC-area native, Colin works closely with our client families to navigate the complexity of today's financial world.

One of the biggest questions we’ve received from clients recently is “What does Donald Trump’s tax plan mean for me?” With lower tax rates potentially on the way, many investors are wondering what they can do to prepare, take deductions now, and defer their income to future tax years.

My suggestion is to take as many tax deductions in 2016 as possible. If you intend to donate assets to charity in the future as part of your charitable giving plan, there’s a simple strategy for front-loading deductions in 2016 to potentially get a higher tax deduction. The strategy involves setting up a donor-advised fund.

What is a donor-advised fund?

A donor-advised fund is a separate account established with a public charity (like the Schwab Charitable Fund or Fidelity Charitable Gift Fund), to which donors can gift appreciated assets, stock, or cash. After gifting assets to the donor-advised fund, the donors can then gift money to other charities out of their donor-advised account rather than sending the money directly.

The money can be invested while in the donor-advised fund, and donors can typically make grants to numerous charities out of their donor-advised account at any time. While this strategy can make giving to charity simple and efficient, it can also provide extra flexibility from a tax perspective.

What is the tax advantage of a donor-advised fund?

The big tax advantage is that a donor-advised fund can allow you to take a tax deduction in the year the assets were gifted to the donor-advised fund, even if the ultimate charitable beneficiaries receive the gifts in later years.

There can also be an extra tax advantage if you gift long-term appreciated assets rather than cash to your charitable account. This is because you do not realize capital gains by selling the appreciated security, and depending on your tax situation, you may be able deduct the exact same amount you would if you gave cash.

For more on how to get the best tax deduction out of your charitable giving, read Tax-Smart Ways to Give to Charity.

Why set up a donor-advised fund in 2016?

If Congress lowers personal tax rates in 2017, that means the value of most tax deductions is higher in 2016. Top earners in 2016 are subject to a marginal tax rate of 39.6%. That means someone in the top tax bracket may be able to reduce their tax bill by up to 39.6% of their charitable contribution. (Note that this analysis does not include state taxes, the Medicare surtax, or Alternative Minimum Tax.)

If Congress lowers the top tax rate to 33% starting in 2017, then the tax benefit of donating to charity is potentially much larger today.

For example, let’s say a client was planning on donating $100,000 to charity next year. By contributing to a donor-advised fund in advance and taking the deduction in a higher tax year, they would potentially save $6,600 in taxes if tax rates drop as proposed.

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The same logic applies over multiple years if the client’s tax situation doesn’t change. Let’s say the client was planning to contribute $100,000 over the next 5 years, but instead, they gave $100,000 to a donor-advised fund today. By front-loading their contributions, they again might save on their tax bill.

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*Your tax situation may differ. Contact a qualified tax professional to determine your specific situation.

Keep in mind, this depends on tax rates falling and the client’s income being similar across tax years. In addition, this doesn’t take into account the future performance of the securities being donated. Always speak with a qualified CPA to review your specific tax situation.

Another proposal being tossed around by Trump is a cap on itemized deductions at $200,000 per couple. If a cap were implemented, it would not be possible to deduct as much in future years, even before taking tax rates into account. This makes the donor-advised fund strategy even more compelling.

Although any changes to the tax code would need to pass through Congress, the fact that the House, Senate, and Oval Office are all on the same side of aisle should make passing tax reform simpler in 2017. If you think tax rates are heading lower, it may make a whole lot of sense to front-load your deductions this year.

For more on smart planning for year-end, see our Year-end financial planning guide.

Contact us to see how we help our clients manage their wealth and charitable contributions