Estate Planning Blog Articles

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Why Do People Give to Charities at End of Year?

The landscape for charitable giving has undergone a lot of change in recent years. More changes are likely around the corner. This year, a more intentional approach to year-end giving may be needed, according to the article “How to Make the most of Year-End Charitable Giving” from Wealth Management.

From the continuing pandemic to natural and humanitarian disasters, the need for relief is pressing on many sides. Donors with experience in philanthropy understand charitable giving as part of a tax strategy, part of providing the essential support needed by non-profits to keep operating and respond to emergencies and, at the same time, ensure their charitable dollars are aligned with their family values and missions.

For the tax perspective, changes resulting from the Tax Cuts and Jobs Act of 2017 left many nonprofits harshly impacted by the doubling of the standard deduction, which gave fewer people a financial incentive to donate. The question now is, could the latest round of proposed changes spur greater giving?

Amid all of these changes, sound and stable giving strategies remain the wisest option.

The CARES Act encouraged individual giving during times of hardship, and tax breaks were extended in 2021. However, certain incentives are now closing, such as the ability to deduct up to 100% of adjusted gross income for cash gifts made directly to public charities.

The Build Back Better Agenda proposes increasing the long-term capital gains tax rate for individuals with more than $400,000 of taxable income, and married couples filing jointly with more than $450,000 of taxable income, to 25%, plus a 3% surcharge to income of more than $5 million. This would make charitable giving more attractive from an income tax perspective. However, this bill has yet to be passed.

Consider the following strategies:

Qualified charitable distributions. RMDs must be taken in 2021. For donors taking a standard deduction, a qualified charitable distribution is a possible option. If you are 70½ and over, you can donate up to $100,000 from an IRA. This satisfies the RMD, as long as the gift goes directly to a charity, not to a Donor Advised Fund.

Contributions of appreciated stock. To make charitable gifts in the most tax-efficient way possible, a donation of appreciated stock is a smart move. Donors receive a charitable income tax deduction (subject to AGI limitations) and avoid capital gains tax.

Charitable bequests. The uncertainty around income tax reform includes estate taxes, and pro-active individuals are now reviewing their estate plans with their estate planning attorneys.

Funding a Donor Advised Fund (DAF). A DAF allows donors to contribute assets to a tax-free investment account, from which they can direct gifts to the charities of their choice. The contribution to the fund provides the donor with a charitable income tax deduction in the year it’s made.

Reference: Wealth Management (Oct. 11, 2021) “How to Make the most of Year-End Charitable Giving”

How Do I File Taxes on a CARES 401(k) Withdrawal?

Several bills were passed by Congress to ease financial challenges for Americans during the pandemic. One of the provisions of the CARES Act was to allow workers to withdraw up to $100,000 from their company sponsored 401(k) plan or IRA account in 2020. This is a big departure from the usual rules, says an article from U.S. News & World Report titled “How to Avoid Taxes on Your CARES Act Retirement Withdrawal.”

Normally, a withdrawal from either of these accounts would incur a 10% early withdrawal penalty, but the CARES Act waives the penalty for 2020. However, income tax still needs to be paid on the withdrawal. There are a few options for delaying or minimizing the resulting tax bill.

Here are three key rules you need to know:

  • The penalties on early withdrawals were waived, but not the taxes.
  • The taxes may be paid out over a period of three years.
  • If the taxes are paid and then the taxpayer is able to put the funds back into the account, they can file an amended tax return.

It’s wise to take advantage of that three-year repayment window. If you can put the money back within that three-year time period, you might be able to avoid paying taxes on it altogether. If you are in a cash crunch, you can take the full amount of time and repay the money next year, or the year after.

For instance, if you took out $30,000, you could repay $10,000 a year for 2020, 2021, and 2022. You could also repay all $30,000 by year three. Any repayment schedule can be used, as long as all of the taxes have been paid or all of the money is returned to your retirement account by the end of the third year period.

If you pay taxes on the withdrawal and return the money to your account later, there is also the option to file an amended tax return, as long as you put the money back into the same account by 2022. The best option, if you can manage it, is to put the money back into your retirement account as soon as possible, so your retirement savings has more time to grow. Eliminating the tax bill and re-building retirement savings is the best of all possible options, if your situation permits it.

If you lost your job or had a steep income reduction, it may be best to take the tax hit in the year that your income tax levels are lower. Let’s say your annual salary is $60,000, but you were furloughed in March and didn’t receive any salary for the rest of the year. It’s likely that you are in a lower income tax bracket. If you took $15,000 from your 401(k), you might need to pay a 12% tax rate, instead of the 22% you might owe in a higher income year.

Reference: U.S. News & World Report (April 23, 2021) “How to Avoid Taxes on Your CARES Act Retirement Withdrawal”

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