Many people include gifts to charities in their wills and trusts. The most common way of accomplishing this is by naming a specific charity as a beneficiary. A donor advised fund (DAF) has also become a popular way of giving to charity that could be beneficial for your estate plan and your charitable wishes. This article focuses on what a DAF is and how you can benefit by using a DAF.
WHAT IS A DONOR ADVISED FUND?
A donor advised fund is a fund you set up at a 501©(3) organization (sponsoring organization) by making an irrevocable transfer of money or other assets. Once the owner makes the contribution, the sponsoring organization has legal control over it. However, the donor, or the donor’s representative, retains advisory privileges with respect to the distribution of funds. The most popular sponsoring organizations are Vanguard, Fidelity, and Schwab.
Most DAFs do not have a minimum required distribution, so you can contribute to the DAF in one year and advise distributions to charity in later years. It is therefore a very flexible device and easy to set up. There have been ongoing discussions about changing this rule, so be aware that a minimum may be required at some future time.
BENEFITS OF A DONOR ADVISED FUND
- Estate Tax Reduction
Currently in 2021, an individual will owe federal estate tax if their estate is worth more than $11.58 million. Illinois imposes its own estate tax when an estate is worth more than $4 million in 2021. DAF’s are a powerful tool for reducing these taxes because DAF’s offer an unlimited estate tax deduction for contributions made. This means you may be able to utilize DAF’s to reduce your estates total net worth since a DAF is not subject to estate taxes. It is important to note that leaving retirement assets to a charity as opposed to non-retirement assets may be more advantageous to the donor and their beneficiaries. This is because distributions from retirement accounts are usually taxed as income to the beneficiary. So, contributing an IRA to a DAF instead of cash could potentially eliminate or reduce the income tax they would have paid if they were the beneficiary of the IRA.
- Income Tax Deduction
The donor also receives an immediate tax deduction the year the contribution is made. There are annual limitations. A donor can take a deduction up to 60% of their adjusted gross income (AGI) for cash contributions and up to 30% of their AGI for securities and other appreciated assets. You do not get another deduction when you request a distribution to a charity.
- Capital Gains Avoidance
If you have highly appreciated assets such as securities, real estate, or other liquid assets, you will need to pay a capital gains tax if you sell those assets. Donating these highly appreciated assets to a DAF avoids the donor incurring any capital gains tax.
WHAT HAPPENS TO THE DAF AT YOUR DEATH?
When you die, what happens to the DAF? There are several possibilities:
- You can name children or other individuals to be advisors after your gone. The successor advisors can then request the sponsor to distribute to specific charities.
- Name a specific charity to take the balance of the DAF. The typical DAF agreement provides you the opportunity to name the ultimate taker.
- If you leave the part of the contract blank that specifies what happens at the end of the DAF, then the DAF sponsor, such as Vanguard, Schwab or Fidelity will receive the money. We strongly recommend that you check your agreement. Is this what you want? Make sure you have provided for distribution at some point.
Donor advised funds provide a simple and flexible opportunity to provide funds for future charitable giving.