If you make regular donations to charitable causes, and have a concentrated stock position, you may be able to use a donor-advised fund to maximize the impact of your giving while optimizing your financial plan.
A lot of us partake in “drive-by philanthropy,” where we make ad hoc or impromptu contributions to causes without giving much thought to our cumulative giving. But if you consistently give to charities and causes, it may be worthwhile to view your giving in its entirety.
For those who make regular charitable contributions, an often-missed financial planning opportunity can be found at the intersection of giving and managing capital gains from concentrated stock positions. Your stock position can be used to set up a donor-advised fund, furthering your giving while also optimizing your after-tax returns on your portfolio.
Investors who hold concentrated positions sometimes delay making decisions to diversify out of their holdings because there can be significant tax liabilities. By using your concentrated equity holdings to fund a donor-advised fund, you can match these assets with your philanthropic goals.
When you donate concentrated positions that you have held for more than a year to open a donor-advised fund, you are not subject to the capital gains tax. You receive a tax deduction at the time of your contribution, so you see an immediate and meaningful impact on your taxes. You can then use your donor-advised fund to support the causes you care about on a timeline that works for you.
A donor-advised fund is a giving vehicle that allows the donor to pass money through to charities. Think of it as having your own private foundation – without all the administrative work. You can open a donor-advised fund for as little as $5,000, and once you’re ready, you can direct donations to qualified charities.
Let’s look at how this strategy would work. Melissa owns $100,000 in Amazon stock which she bought at the initial cost of $20,000. She wants to diversify her Amazon holdings because it makes up a large chunk of her investment portfolio. Melissa is also passionate about supporting environmental causes and contributes $15,000 annually toward various charities. If Melissa sold her Amazon holding, she would have to pay capital gains tax on the $80,000 of stock appreciation. Assuming a capital gains tax rate of 15% plus the Medicare surcharge tax of 3.8% on investment income, Melissa would have to pay $15,040 in capital gains tax, leaving her with $84,960.
Melissa donates her Amazon holding to open a donor-advised fund. The donor-advised fund sells the Amazon stock, and now she has the full $100,000 in the donor-advised fund earmarked for future charitable gifts. This also gives her an additional charitable tax deduction for the full $100,000 she gifted, since the donor-advised fund functions as a charity. With a donor-advised fund, the amount doesn’t need to be distributed all at once; the assets can grow in value until Melissa is ready to direct her donations. With a donor-advised fund, the amount doesn’t need to be distributed all at once.
Melissa can use this larger deduction for the year to offset any increased income she might see due to additional selling of other concentrated positions. She can then use the $15,000 she would have contributed annually to her various environmental causes to fund her investment portfolio. The end result is that Melissa is able to do more with her charitable giving, while her investments portfolio is now more tax-efficient. Now Melissa doesn’t have to pay taxes of $15,040 in capital gains tax (this savings may be even more meaningful for people who live in high-income tax states).
One of the big changes that came with the Tax Cuts and Jobs Act passed in late 2017 was the increase in standard deductions. For 2019, the IRS set the standard deduction amount for a single filer to $12,200 and $24,400 for married people filing jointly. This increase in the standard deduction amounts means that many tax filers are unable to take itemized deductions, losing the tax benefit of charitable giving.
One strategy you may want to consider is to “bunch” your donations over multiple years, so that you donate less frequently, but in larger amounts at one time (for example, donate $10,000 every two years versus $5,000 per year). By bunching donations, you could get a greater tax benefit by boosting total itemized deductions to be greater than the standard deduction in certain years. For anyone who gives more than $13,000 annually, it may be worthwhile to consider “bunching” your donations, and a donor-advised fund may be a good vehicle for carrying out your giving intentions.
One of the biggest benefits of having a financial plan and working with an advisor is gaining the ability to see and address your financial needs holistically. Oftentimes, we’ll talk with clients who prioritize their financial goals without realizing there is an opportunity to manage multiple goals at once.
If you give regularly to charities and have a concentrated position you’ve been sitting on, using a donor-advised fund may be a great strategy to consider. We encourage you to speak with your advisor about how a donor-advised fund can help do some good while maximizing your investment returns. Your advisor can also discuss any impacts to your taxes and your wealth plan.
Read “Are You Maximizing the New Tax Laws?”
Listen to our podcast episodes about the pros and cons of concentrated stock positions, and other strategies you can use to unwind and diversify your investment portfolio.
Episode 29: The Pros and Cons of the Highly Concentrated Position
Episode 30: Unwinding a Highly Concentrated Position in Equities
 Assumes cost basis of $20,000, that the investment has been held for more than a year, and that all realized gains are subject to a 15% federal long-term capital gains tax rate. Includes Medicare surtax resulting from net investment income. Does not include state or local income taxes.
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