Leading financial advisor Cary Stamp, CFP®  discusses the tax efficiency benefits of Donor Advised Fund bunching deductions.

 


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TRANSCRIPT:

Today I’d like to talk about how we can make the world a better place, and get some tax deductions all at the same time. And it’s by using a strategy that we call “Bunching Deductions.”

So what happened in 2017, at the end of the year when we passed the tax cuts and jobs act, is that we all got a standard deduction. It went up, and every single person in the country that is a tax payer gets a $12,200 tax standard deduction in 2019. If you’re married, you get that two times. So that’s $24,400 a year that you could write off on your income taxes before you even have to itemize anything. Now typically, many people in the past have itemized their deductions. Fewer people are going to be able to do that this year because of some of the other changes. The most important of which is a change in what’s called the SALT deduction. That stands for State And Local Taxes. So the taxes that you pay to the state where you live and the taxes that you pay for your property—your property taxes—are now capped at a maximum deduction of $10,000. For some people, what they were paying before or what they were able to deduct before, dwarfs the $10,000. But now we have a limit.

The other thing is, many people itemized their charitable deductions in the past. So let’s say that every year you’re a charitably inclined person and you give $15,000 away to charity. You can itemize those as well. We’ll also assume that you’re a retired person, you’re living in Florida and you don’t have a mortgage, which was another common itemized deduction in the past. In this case, for this family, they could either deduct their standard deduction of $24,400, or $25,000 which is their state local taxes plus their charitable contributions. You get to choose one or the other. You don’t get both. So in this case, they’ll take the $25,000 tax deduction. But I’m going to show you a way to make this a lot better so that over a number of years you can get substantially more tax deductions by itemizing instead of just using your standard deduction. And the way to do that is by using a bunching strategy and making a large contribution to what we call a Donor Advised Fund. Or a DAF.

A Donor Advised Fund is a charitable fund that you and your family get to control. We add assets, generally appreciated securities to this fund, and over a number of years you distribute the money out to the various charities that you support. You don’t have to put all the money out in the first year that you make the contribution.

So here’s how it works. Let’s say you know you’re going to continue contributing the $15,000 a year for the next five years. What we do is, we take $15,000 times five is $75,000, and we take that $75,000 and contribute it to your Donor Advised Fund. We then get a tax deduction for the $75,000. So you’re going to get the $75,000 as a tax deduction on this year’s return, you’re still going to get the $10,000 in state local tax deduction on the return, and you will then get to deduct $85,000 on your itemized deductions for the first year. In this scenario, you would definitely take the $85,000 instead of the standard deduction to $24,400. In future years, you’re not going to get this deduction and you’re not going to get the deduction for this charitable contribution because you’ve already made it. Well, what’s the math look like? Over a five year period of time, if you do this, you’re going to end up being able to deduct $172,600 just in the charitable contributions, plus your standard deduction. If you don’t do this and you only take your standard deduction, or the $25,000 a year over that same period of time, you’re looking at about $125,000 in deductions that you’ll be able to save.

So what’s the difference? It’s almost $50,000, and at a 30% tax rate, that’s $15,000 a year or $15,000 over that five year period of time that you can save in income taxes for your family, and at the same time, contribute the money to charity and make the world a better place.

If you haven’t been told about this strategy, feel free to call our office or go to CaryStamp.com. We’re here to help. I’m Cary Stamp, and this has been a Principled Wealth Moment.