My Favorite Tax Break for Investors

S. H. Wallick  for Yahoo Finance writes: With the stock market up more than 14% through May, 2013 is shaping up as a year when many taxpayers may have capital gains. However, before selling appreciated stock, I suggest that investors do some tax planning to cut their tax bills. In particular, they should consider the benefits of my favorite tax break for investors: the deduction for charitable donations of appreciated stock. 

Here's how to take advantage of this tax-saving strategy and why and when it makes sense.

Why to Donate Appreciate Stock

 Taxpayers who give a charity appreciated stock that has been held long term can take a deduction for the market value of the shares on the date it is donated and avoid capital gains tax. Financially, this is more advantageous to the taxpayer and the charity than if the stock were sold first, capital gains taxes were paid, and the net proceeds were donated to the charity, as the example below illustrates. 

In the first instance, if the taxpayer gives his favorite charity shares worth $10,000 (including a $4,000 long-term capital gain), the charity receives stock worth $10,000, which it can then sell tax free, and the taxpayer gets a $10,000 deduction.

If, on the other hand, the taxpayer first sells the shares, books the $4,000 capital gain, pays taxes of $800 on it (at the maximum current capital gains rate of 20%), and then donates the remaining funds, the charity receives and the taxpayer deducts only $9,200.

Thus, donating the shares is a win-win for both the taxpayer and the charity, with only Uncle Sam losing out.

How to Donate Appreciated Stock

Based on my experience, making a stock donation generally is very easy.

First, I start by checking with the charity I want to receive the stock to be sure that they accept donations of securities and, if so, to find out what their procedure is for receiving it. They probably have a brokerage account to which the shares can be transferred, making the process simple and seamless.

Second, I only donate stock I have held long term (for more than a year) since the deduction on stock held short term is limited to its cost basis.

Third, after the transfer, I make sure to obtain a letter from the charity correctly valuing the donation as of the date it was made.

When Donating Appreciated Stock Makes Sense

Donating appreciated stock makes the most sense for those taxpayers above the 15% bracket. For taxpayers in the 10% and 15% tax brackets, long-term capital gains rates are 0%, so, for them, there would be no financial benefit to donating stock.