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Affluent Individuals

How can I spot a charity scam?

These are some common-sense suggestions for avoiding rip-offs:

  • Do not contribute cash. All contributions should be in the form of a check or money order made out to the charity-never to the individual soliciting the donation.
  • Ask for written descriptions of the charity’s programs and/or finances.
  • Don’t allow yourself to be pressured to donate immediately. Wait until you are sure that the charity is legitimate and deserving of a donation.

Tip: Don’t forget to keep receipts, canceled checks and bank statements so you will have records of your charitable giving at tax time.

  • Don’t be misled by a charity that resembles or mimics the name of a well-known organization-all charities should be checked out.

Before giving, check on all charities with the local charity registration office (usually a division of the state attorney’s general office) and with the Better Business Bureau (BBB).

How can I maximize my tax benefit from charitable contributions?

Many donors are not aware that their contributions may not be deductible, or that deductions may be limited. Here are the general rules:
When an organization claims to be tax-exempt, it does not necessarily mean contributions are deductible. “Tax-exempt” means that the organization does not have to pay federal income taxes, while “tax-deductible” means the donor can deduct contributions to the organization. The Internal Revenue Code defines more than 20 different categories of tax-exempt organizations, but only a few of these are eligible to receive contributions deductible as charitable donations.
Tip: When in doubt, call us or the IRS (800-829-1040) about the deductibility of a contribution.
If you go to a charity affair or buy something to benefit a charity (e.g., a magazine subscription or show tickets), you cannot deduct the full amount you pay. Only the part above the fair market value of the item you purchase is fully deductible.
Example: You pay $50 for a charity luncheon worth $30. Only $20 can be deducted.
Donations made directly to needy individuals are not deductible. Contributions must be made to qualified organizations to be tax-deductible.
Contributions are deductible for the year in which they are actually paid or delivered. Pledges are not deductible they are paid.
No donation of $250 or more is deductible unless the taxpayer has a receipt from the charity substantiating the donation.

What are the most tax-effective ways of donating?

There are many ways to give money to charity. In fact, much of many charities’ revenue comes from the “planned or deferred giving” techniques. A planned or deferred gift is a present commitment to make a gift in the future, either during your life or via your will. Aside from assuring your favorite charities of a contribution, planned or deferred giving brings with it tax benefits.
Charitable gifts by will reduce the amount of your estate that is subject to estate tax. Lifetime gifts have the same estate tax effect (by removing the assets from your estate), but might also offer a current income tax deduction.
If you have property that has significantly appreciated in value but does not bring in current income, you may be able to use one of these techniques to convert it into an income-producing asset. Further, you will be able to avoid or defer the capital gains tax that would be due on its sale — all the while helping a charity.
Many variables affect the type of planned or deferred giving arrangement you choose, such as the amount of your income, the size of your estate and the type of asset transferred (e.g., cash, investments, real estate, retirement plan) and its appreciated value. Not all charities have the resources to be able to offer the more sophisticated arrangements.
Tip: These gifts are complex, so be sure to consult with both the charity and your financial advisor to determine how to best structure your deferred gift.
Here are some examples of planned and deferred charitable gifts:
Life insurance
You name a charity as a beneficiary of a life insurance policy. With some limitations, both the contribution of the policy itself and the continued payment of premiums may be income-tax deductible.
Charitable Remainder Annuity or Unitrust
You transfer assets to a trust that pays a set amount each year to non-charitable beneficiaries (for example, to yourself or to your children) for a fixed term or for the life or lives of the beneficiaries, after which time the remaining assets are distributed to one or more charitable organizations. You get an immediate income tax deduction for the value of the remainder interest that goes to the charity on the trust’s termination — even though you keep a life-income interest. In effect, you or your beneficiaries get current income for a specified period and the remainder goes to the charity.
Charitable Remainder Unitrust
This is the same as the charitable remainder annuity trust, except the trust pays the actual income or a set percentage of the current value (rather than a set amount) of the trust’s assets each year to the non-charitable beneficiaries. Here, too, you or your beneficiaries get current income for a specified period and the remainder goes to the charity.
Charitable Lead Trust
You transfer assets to a trust that pays a set amount each year to charitable organizations for a fixed term or for the life of a named individual. At the termination of the trust, the remaining assets will be distributed to one or more non-charitable beneficiaries (for example, you or your children).
You get a deduction for the value of the annual payments to the charity. You may still be liable for tax on the income earned by the trust. You keep the ability to pass on most of your assets to your heirs. Unlike the two trusts above, the charity gets the current income for a specified period and your heirs get the remainder.
Charitable Income Or Lead Unitrust
This is the same as the lead annuity trust, except the trust pays the actual income or a set percentage of the current value (rather than a set amount) of the trust’s assets each year to the charities.
Here, too, the charity gets the current income for a specified period and your heirs get the remainder.
Charitable Gift Annuity
You and a charity have a contract in which you make a present gift to the charity and the charity pays a fixed amount each year for life to you or any other specified person.
Pooled Income Fund
You put funds into a pool that operates like a mutual fund but is controlled by a charity. You, or a designated beneficiary, get a share of the actual net income generated by the entire fund for life, after which your share of the assets is removed from the pooled fund and distributed to the charity.
You get an immediate income tax deduction when you contribute the funds to the pool. The deduction is based on the value of the remainder interest.

How can I find out if contributions to a particular charity are tax-deductible?

To obtain tax-exempt status under Section 501(c)(3) of the Internal Revenue Code, an organization has to file certain documents with the IRS that prove it is organized and operated for specified charitable purposes.
Organizations with 501(c)(3) status are those that the IRS considers charitable, educational, religious, scientific or literary, those that prevent cruelty to animals, and those that foster national or international sports competition.
When the IRS rules positively on an application, the organization is eligible to receive contributions deductible as charitable donations for federal income tax purposes. The charity receives a “Determination Letter” formally notifying it of its charitable status. Older charities may have a “101(6) ruling,” which corresponds to Section 501(c)(3) of the current IRC. Churches and small charities with less than $5,000 of annual income do not have to apply to the IRS for exemption.
Tip: IRS publication 78, the “Cumulative List of Organizations,” is an annual list of tax-exempt organization eligible to receive deductible contributions. Contact the IRS (800-829-1040) for information on where to obtain this list.

What types of deductible contributions can be made to charity?

Generally, you can donate money or property to charity. A deduction is usually available for the fair market value of the money or property. However, for certain property the deduction is limited to your cost basis; inventory (some exceptions), certain creative works, stocks held short term, and certain business use property. You can also donate your services to charity, however you may not deduct the value of your services. You can deduct your travel expenses and some out of pocket expenses.

What is a living trust?

A trust, like a corporation, is an entity that exists only on paper but is legally capable of owning property. A flesh-and-blood person, however, must actually be in charge of the property; that person is called the trustee. You can be the trustee of your own living trust, keeping full control over all property legally owned by the trust.
There are many kinds of trusts. A “living trust” (also called an “inter vivo” trust by lawyers who can’t give up Latin) is simply a trust you create while you’re alive, rather than one that is created at your death under the terms of your will.
All living trusts are designed to avoid probate. Some also help you save on death taxes, and others let you set up long-term property management.

Is it expensive to create a living trust?

The expense of a living trust comes up front. Many lawyers would charge relatively little for drafting your will, in hopes of getting your estate later as a client. They may charge more for a living trust.
Some people have chosen to use a self-help book or software program, to create a Declaration of Trust (the document that creates a trust) yourself. They may consult a lawyer if they have questions that the self-help publication doesn’t answer. But there’s always the danger of problems they don’t see, that a lawyer could help avoid if consulted.

Can a living trust save taxes?

A simple probate-avoidance living trust has no effect on either income or estate taxes. More complicated living trusts, however, can greatly reduce your federal estate tax bill if you expect your estate to owe estate tax at your death. Professional guidance is needed to set up such trusts.

Can I just give all my property away before I die and avoid estate taxes?

You can give up to $12,000 (2008 number) per person per year with no gift tax liability. Gifts exceeding that amount are counted against a gift tax exemption of $1,000,000. Gifts exceeding that exemption are subject to gift tax. At your death, these gifts could become your taxable estate (with a credit for gift tax paid).
There are, however, a few exceptions to this rule. You can give an unlimited amount of property to your spouse, unless your spouse is not a U.S. citizen, in which case you can give away up to $100,000 indexed; the 2008 amount is $128,000) per year free of gift tax. Any property given to a tax-exempt charity avoids federal gift taxes. And money spent directly for someone’s medical bills or school tuition is exempt as well.

Will my estate have to pay taxes after I die?

It depends. The federal government imposes estate taxes at your death only if your property is worth more than a certain amount based on the year of death-$2,000,000 in 2006-8, $3,500,000 in 2009 and repealed thereafter. But there are a couple of important exceptions to the general rule. All property left to a spouse is exempt from the tax, as long as the spouse is a U.S. citizen. And estate taxes won’t be assessed on any property you leave to a tax-exempt charity.