The holiday season is full of emotional appeals for charitable donations. Thus, some people may find themselves rushing to write checks by the end of the year, just in time to qualify for a tax deduction. But there may be a more effective way to give throughout the year.
A donor-advised fund (DAF) is a charitable account offered by sponsors such as financial institutions, community foundations, universities, and fraternal or religious organizations. Philanthropists who itemize deductions on their federal income tax returns can write off DAF contributions in the year they are made and receive an immediate tax deduction for the full market value of most assets. Any amount that can’t be deducted in the current year can be deducted for up to five succeeding years.
DAFs have been around since the 1990s, but their popularity has been surging. The value of contributions to DAFs tripled in just five years, reaching $7.4 billion in fiscal year 2014. Still, grants from donor-advised funds account for only about 5% of total charitable giving in the United States.1
If you want to maximize the positive impact of your donations — either for your favorite charitable causes or for your own tax situation — you might consider executing a more strategic charitable giving program.
Highly Appreciated Benefits
DAF contributions can be made with cash, publicly traded securities, and more complicated assets such as real estate, valuable art and collectibles, or a stake in a privately held business. A DAF contribution is irrevocable, which means the donor is giving the sponsor legal control of it, while retaining advisory privileges with respect to the distribution of funds and the investment of assets.
Giving appreciated assets to charity often provides extra tax benefits. A donor may qualify for a tax deduction based on the current fair market value of the contribution, while avoiding capital gain taxes on the profits from the sale of those assets. This strategy may be helpful when family businesses or shares of privately held companies are sold, or any time a larger tax deduction is needed during a particular year.
DAFs make it easier to give away appreciated assets, because donors can make a single contribution that eventually benefits multiple charities. Fund sponsors typically have experience in evaluating prospective donations and liquidating assets after they are transferred (a qualified appraisal may be needed). Thus, DAFs make it possible to help charities that might not be able to accept direct donations of appreciated assets.
Because there are no rules about how quickly money in DAFs should be distributed, donors have the flexibility to time gifts as they please, allowing them to vet unfamiliar charities and explore philanthropic opportunities more carefully. Donors can take advantage of matching fund campaigns when they are offered, for example, or have money ready to aid disaster victims. Some families prefer to build up funds over a number of years in order to make a substantial grant for a special purpose.
Grants can generally be made to any qualified tax-exempt charitable organization in good standing. It may also be possible to set up recurring gifts or make anonymous donations, if so desired.
A donor-advised fund should be fairly easy to establish, but there is typically a $5,000 minimum initial contribution. DAFs have fees and expenses that donors giving directly to a charity would not face, but donors are spared from paperwork hassles they would otherwise encounter when making contributions directly.