Thursday, December 26, 2013

Being charitable? Be tax-smart, too

Tom Herman for MarketWatch/WSJ writes: To give is divine. To err while giving is human.
For many donors eager to nail down tax deductions, contributing to charity can be as simple as writing a check. But tax laws often can be surprisingly tricky. While there are many tax-smart ways to donate, it can also be easy to make costly mistakes.

The mistakes run the gamut. Many thorny problems, for instance, stem from uncertainty over how to value gifts. Other donors stumble because they don’t pay attention to the fine print on such long-cherished techniques as giving stock to charity. And still others trip over paperwork issues, such as getting proper acknowledgment for gifts on a timely basis.
Many generous donors “have learned their lessons the hard and expensive way,” says Victoria Bjorklund, a charitable-giving consultant and a retired partner at the law firm Simpson Thacher & Bartlett LLP.

How can donors avoid these traps? It may help to keep in mind the following (seemingly) simple ideas—as well as a few common errors to avoid:

Give away your winners
This is an especially good year to consider giving securities that are worth far more than you paid for them. Stock prices this year have surged, and 2013 brought higher taxes for many investors.

This “could be a great strategy,” says Justin T. Miller, national wealth strategist at BNY Mellon Wealth Management’s office in San Francisco.
In a typical case, you give a qualified charity shares of publicly traded stock that have risen sharply in value and that you have owned for more than one year. You deduct the fair market value of the stock—and you don’t owe a capital-gains tax.
If you donate appreciated stock you’ve held for a year or less (considered “short term” gains), you generally can deduct only your cost “basis”—that is, your cost for tax purposes—not market value.

Don’t make the mistake of donating securities that are worth less than your tax cost. Instead, sell those losers, donate the proceeds to your favorite charity and use your capital losses to trim your taxes. Capital losses can offset capital gains on a dollar-for-dollar basis.
If losses exceed gains, deduct net capital losses of as much as $3,000 a year—$1,500 if married and filing separately from your spouse—from wages and other ordinary income. Carry over additional losses into future years.

Get it in writing
One common error is making a gift of $250 or more and neglecting to get an acknowledgment from the charity saying whether or not you received something in return, such as free tickets. Even if you didn’t get anything, make sure the charity says so—and gives you a description of any property you gave.
If you did get something in return, the acknowledgment typically must include a good-faith estimate of the value. Rules can vary depending on several factors, such as the size and type of your gift. See IRS Publication 526.
Don’t wait to get the receipt until you’re audited years later. You need “contemporaneous” receipts, Bjorklund says. Be sure to get a proper receipt by the date you file your return for the year you make the contribution—or the due date, including extensions, for filing the return—whichever is earlier.
“The IRS pays a lot of attention to substantiation requirements,” says Eileen Donahue, director of planned giving and senior philanthropic adviser at Yale University.
If you get something in return for a gift, you typically can deduct only the amount of your gift that exceeds the value of that benefit.

Nail down value
Problems can crop up with valuing donations of a wide variety of noncash items such as shares in a family business, real estate, conservation easements, paintings, antiques and many other items. “It is very easy to make major mistakes,” says Carolyn M. Osteen, a consultant to the Ropes & Gray LLP law firm and co-author with Martin Hall, a Ropes & Gray partner, of a book on tax aspects of charitable giving.
For instance, she says, “many donors make mistakes being overly aggressive on valuations.” That can lead to painful and expensive battles with the IRS.
Other donors stumble because they didn’t follow the rules on getting an expert appraisal from a qualified appraiser, Osteen says. There are strict rules on when you need an appraisal, what must be in it and the qualifications to be an appraiser. (See IRS Publication 561.)
The rules can be tricky even with donations of some household items. For example, you must include with your return “a qualified appraisal of any single item of clothing or any household item that is not in good used condition or better, that you donated after August 17, 2006, and for which you deduct more than $500,” the IRS says in Publication 561.
The bottom line: If you are making a significant gift requiring an appraisal, consider hiring a reliable tax pro to walk you through the fine print.

Tap your IRA
If you’re 70½ or older, you can transfer as much as $100,000 from an individual retirement account this year directly to qualified charities without having to include any of that in your income. The transfer will count toward your required minimum distribution.
You can’t deduct direct transfers from IRAs as charitable gifts, but this technique still can be very smart for many taxpayers. That’s because transfers aren’t considered income that would inflate your adjusted gross income and could lead to loss of key deductions and exemption amounts, as well as possibly subjecting you to higher taxes for other reasons.
“That’s a tremendous opportunity, especially for higher-income taxpayers,” says Miller of BNY Mellon Wealth Management. “A lot of our clients are taking advantage of that.”
But don’t procrastinate. The law allowing you to make these transfers is scheduled to expire at year end. Nobody knows whether Congress will extend this and dozens of other laws.
A few points to bear in mind: This is for IRAs, not 401(k) plans. It doesn’t apply if you are younger than 70½. Make sure you choose “qualified” charities. (For example, donor-advised funds don’t qualify under this technique.) And make sure the transfer goes directly to the charity.
“Many donors have found this opportunity a very attractive way to make gifts,” says Donahue of Yale University. “It’s unclear at this point whether this opportunity will still exist in 2014.”

Watch out for car trouble
Many charities would be delighted to take your unwanted cars, trucks and other types of vehicles.
But if you donate, say, a car worth more than $500 and the charity (or middleman) turns around and sells it, you typically can deduct only the sale proceeds—even if you think it was worth much more.
Here’s an example from the IRS: Suppose you donate a car you bought three years ago for $9,000. A used-car guide says the car is worth $6,000, but the charity sells it for only $2,900. Typically, you could donate only $2,900.
Even so, there are a few key exceptions that might enable you to deduct market value. Thus, consider shopping around before choosing a charity. For example, one exception would be if the charity makes “a significant intervening use” of your vehicle, such as using it to deliver meals to the poor.
If you use your car to help a charity, you typically can deduct your actual expenses (such as oil and gas costs directly related to getting to and from the place you volunteer) or use the standard rate of 14 cents a mile. But you can’t deduct the value of your time or services.

Look into donor-advised funds
Donor-advised funds are a convenient, simple and tax-efficient way to donate. You make your gift to the fund, and then you can suggest how the money should be distributed to your favorite causes either now or in future years.
But there are some key nuances that you should remember. You claim your deduction for the year in which you fund the account—even if you wait until future years to ask the fund to make grants. Don’t make the mistake of assuming that if you make a donation now, you must ask the fund to give away all that money this year in order to nail down your deduction for this year.
Naturally, donations must go only to qualified charities. For example, you can’t ask the funds to buy tickets for you or give money to your child.
There can be significant differences among funds. Before you sign up, make sure you check into such things as grant-making policies, the minimum size of grants and the minimum initial account size.


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