Tax season is upon us, and most people’s first question is what they can do to pay less. The key to a lower tax bill is reducing your taxable income. Several financial maneuvers will achieve this result. For example, you can top off your 401(k) or IRA contributions, sell off losing investments from a taxable account, or ask that your employer hold off on paying you a bonus until after December 31.
Another excellent way to reduce your taxable income is to donate to charity. If you itemize your deductions and give money or property to a qualified organization, the value of the contribution can be deducted from your income.
In addition to giving during your lifetime, you may also want to include one or more charitable bequests in your will. This is a noble gesture, regardless of the amount, but chances are it won’t reduce your tax bill after you are gone.
Why? The simple fact is that upon our death, most of us won’t owe any estate taxes. The exemptions to these taxes are now so high that they apply to only a tiny sliver of the population. At the federal level, you can leave behind up to $5.49 million tax-free. In Maryland, the exemption is currently $3 million and will increase to $4 million in 2018. Then in 2019, it will increase again to equal the federal exemption.
These high exemptions mean there is generally no tax benefit to making bequests to charity under your will. How then can you leave money to charity and still enjoy a tax break? By taking a strategic approach, you can help others as you help yourself.
With a little advance planning, you can enjoy a tax break for your bequests to charity—even if your estate falls below the taxable threshold.
First, include charitable bequests under your will as you normally would. Second, authorize the person acting on your behalf under a power of attorney to fulfill these bequests as the end of your life approaches. In other words, the donations would be made in your lifetime, rather than under your will.
These gifts can then be deducted from your income in the year they are made, possibly reducing your tax bill. Upon your death, the bequests will already have been fulfilled under the doctrine of “ademption by satisfaction.” Your entire estate can then go to your partner, spouse, children, or other beneficiaries as you designate.
The authority to make these lifetime gifts would need to be included in your power of attorney, which can be prepared by the same lawyer who drafts your will. The will itself should include language allowing for your charitable bequests to be satisfied in this manner through a lifetime gift.
The person you appoint under your power of attorney (called your “attorney in fact”) should carefully document the gifts to charity. For cash donations, he should be sure to keep a canceled check or credit card statement as proof of your donation. And for gifts of $250.00 or more, he will also need a receipt from the charitable organization itself. This person should consult with a lawyer if he has any questions about how to go about making these gifts.
So how much should you give? If you make an annual gift to a charitable organization, whether it’s an alma mater, a house of worship, or some other qualified entity, consider multiplying that gift by 10. For example, if you give $100.00 a year to the college you attended, think about a bequest of 10 times that amount, or $1,000.00, under your will. This bequest will effectively endow your gift for a period of 10 years after you are gone.
Even a small bequest can be a gratifying addition to your estate plan. And if your attorney in fact fulfills the gift during your lifetime, it can have income tax benefits as well.