Some of life’s most profound moments occur when we approach what is broken as an opportunity to create something beautiful. Take, for example, kintsugi—the 400-year-old Japanese art of repairing broken pottery with urushi lacquer dusted or mixed with powdered gold, silver, or platinum. Instead of hiding the cracks, this technique showcases each unique break, creating a piece that is not only whole again but stronger and more beautiful than before.
This philosophy—finding opportunity in what seems broken—can be applied to many areas of life. In the financial arena, taking a tax hit when selling highly appreciated property held for longer than one year can seem like an unavoidable flaw in the system for most taxpayers. It’s costly and painful. However, there’s a way to transform that tax hit into something extraordinary. By donating long-term appreciated assets instead of selling them, donors can turn a tax liability into a meaningful opportunity to do good and make a difference while also enjoying significant tax advantages.
This issue examines several ways donors can secure useful tax benefits by turning valuable investments into gifts that achieve maximum impact. These strategies underscore the importance of initiating client conversations regarding gift options that prove more tax-efficient than cash. While donors are becoming more sophisticated each year, non-cash assets remain an under-leveraged source of effective philanthropy.
Expanded Giving Options
It’s not uncommon for donors to limit their charitable giving to cash, even though about 90% of household wealth in the U.S. consists of non-cash assets. Investors often hold long-term appreciated assets (held for longer than one year), such as stocks (publicly traded securities or restricted stock), bonds, real estate, artwork and collectibles, cryptocurrency, and closely held business interests (privately owned C corporations, S corporations, LLCs, or LLPs).
Long-term appreciated property presents donors with a unique and powerful giving opportunity by offering the following benefits:
Tax minimization
A gift of long-term appreciated assets can potentially eliminate the capital gains tax the donor would have incurred by selling the assets (at rates up to 20% or 23.8% when including the net investment income tax). This can allow the donor to make a more significant gift, and of course, the charity itself does not owe tax on the donated assets.
An income tax charitable deduction
A gift of long-term appreciated property qualifies for a charitable income tax deduction for the full fair market value (FMV) of the asset at the time of the gift—even though the appreciation has not been taxed. Some donors choose to pass these savings on to the charity to create an even larger gift. Gifts of long-term appreciated property to a public charity or donor-advised fund (DAF) are generally deductible up to 30% of the taxpayer’s adjusted gross income (AGI) for those who itemize (up to 20% of AGI for gifts to a private foundation).[1] Excess contributions may be carried forward for up to five subsequent tax years.[2]
When discussing charitable goals with clients, encourage them to consider their entire portfolio to determine the most tax-efficient assets for giving. Typically, donors reap the greatest tax benefits by targeting assets they have held for longer than one year with the lowest cost basis and the highest amount of appreciation. (Remember that short-term appreciated assets—those held for one year or less—are considered “ordinary income property,” and the deduction is limited to the cost basis.)
Gifts of Marketable Securities
It is easy for a donor to give long-term appreciated stocks, bonds, mutual fund shares, or other readily marketable securities by simply transferring the shares directly to a public charity or a DAF.[3] Let’s look at the impact of the double tax benefit (income tax deduction plus bypassing the capital gains tax) by comparing a direct donation of long-term appreciated securities and a sale of long-term appreciated securities with the sale proceeds donated to charity.
Example: Bob purchased publicly held stock 10 years ago for $10,000, and it is now worth $50,000. He would like to donate to his favorite charity. He thinks about selling the stock but doesn’t want to pay the tax on the $40,000 appreciation.
Bob considers another option—directly donating the stock to the charity. He could take advantage of the rare opportunity to obtain a double tax benefit (assuming he itemizes), and he could make a greater impact on a meaningful organization.
| Itemized breakdown | Sell the stock and donate after-tax proceeds to charity | Donate the stock directly to charity |
|---|---|---|
| Current FMV | $50,000 | $50,000 |
| Long-term capital gains tax paid (20% + 3.8% net investment income tax) | $9,520 | $0 |
| Charitable donation / tax deduction | $40,480 | $50,000 |
| Tax savings[4] | $4,648 | $17,500 |
| Total tax benefit (income tax deduction plus capital gains tax elimination) | $14,168 | $27,020 |
By donating the long-term appreciated stock directly to a public charity, Bob makes a larger gift, qualifies for a larger income tax deduction, and obtains greater tax savings. Bob’s gift is almost $10,000 more than if he sold the stock and donated the after-tax proceeds. At a tax rate of 35%, he would save $4,648 in taxes by selling the stock, but he would save an additional $12,852 if he donated the stock directly. Bob would also be able to bypass the capital gains tax, allowing him to gift the full $50,000 value to his favorite charity.
Charitable Gain Harvesting
Investors should regularly evaluate and rebalance their portfolios. One way donors can use this process for charitable giving is through “charitable gain harvesting,” in which they identify assets with significant unrealized gains and donate them directly to charity. Charitable gain harvesting focuses on the gains from highly appreciated assets, targeting assets that have performed exceptionally well and using them to maximize charitable gifts and offset tax obligations. The value of this strategy for mitigating taxes increases with larger donations and greater amounts of appreciation.[5]
Like with any charitable giving strategy, donors must consider the tradeoffs:
- The donor may give an asset that continues to appreciate—it’s impossible to predict future investment gains or losses.
- The donor may need to pay transaction costs and other expenses related to the harvested tax gains.
Of course, it’s important to remind donors to consider their entire financial picture, time horizon, and risk tolerance before donating or selling assets.
A donor who “harvests” a substantially larger amount than they want to donate in a particular tax year can still reap tax benefits. One option is for the investor to contribute the full harvested amount to a DAF, qualify for an immediate charitable income tax deduction, and then recommend grants in whatever amount and at whatever time the donor chooses.[6] The money has the potential to grow tax free inside the DAF.
Privately Held Stock
Privately held stock represents ownership in a company that is not publicly traded on the stock market. Typically, such companies are smaller, family-owned businesses or larger companies that have chosen to remain as a closely held company. Because stock from privately held companies is not as liquid as its publicly traded counterparts, it can be a strategic asset to use for charitable purposes, benefiting both donors and charities. However, unlike a gift of public securities, this gift typically requires a coordinated effort between the charity, the donor shareholder’s CPA and wealth advisor, and a qualified, independent valuation professional.
Timing Is Everything
Donors can achieve the most tax-advantaged position by making the charitable contribution of a full or partial business interest just before the sale of the underlying company—but the donor needs to plan carefully and get the timing just right.
Depending on the particular business, exit opportunities can arise quickly, creating a narrow window of opportunity to make charitable donations in a tax-efficient manner. A donation of privately owned stock must be made before a legally binding sale agreement is in place. If a letter of intent is in place, it must be nonbinding. When a donor makes a charitable contribution after a legally binding agreement is in place, the doctrine of anticipatory assignment provides that there is a material risk that the IRS will disregard the charitable contribution, which will cause the donor to recognize a taxable gain on the transaction.
The Qualified Appraisal Requirement
Determining the fair market value of the privately held stock is a critical step in the charitable donation process for privately held shares. The appraisal is essential to substantiating a charitable income tax deduction. For donations of privately held stock, IRC § 170 requires the donor to obtain a qualified valuation for the contributed property and attach it to the tax return on which the taxpayer first claims the deduction. The taxpayer must also file Form 8283, which includes a signed declaration by the valuation professional relating to the accuracy of the valuation.
A donor should start the qualified appraisal process as soon as they begin seriously considering a charitable donation of privately held stock. This prevents last-minute scrambling at tax time. Failure to accurately perform and document the valuation can result in a loss of the charitable deduction and penalties assessed to both the donor and the valuation professional.
The donor must obtain a certified appraisal no earlier than 60 days before the date of the gift and no later than the due date of the donor’s tax return for the year of the donation.[7] The donor must leave enough time to accurately document the stock’s value to ensure the charitable contribution will qualify for a tax deduction in the year of the gift. Valuations are purpose-specific; therefore, the donor cannot use a recent valuation prepared for another purpose.