High earners face unique challenges when it comes to minimizing their tax burden. One underutilized yet highly effective strategy is donating appreciated assets. Let’s explore how this works and analyze a scenario involving someone with a $300,000 annual income.
What Are Appreciated Assets?
Appreciated assets are investments that have increased in value since you purchased them. Examples include stocks, mutual funds, real estate, or art. Donating these assets directly to a charity offers two major tax benefits:
- Avoiding capital gains tax on the appreciation.
- Receiving a charitable deduction for the asset’s fair market value (FMV).
Case Study: Meet Sarah
Profile:
- Annual Income: $300,000
- Tax Bracket: 24% federal, 9% state (California)
- Investment Portfolio: Sarah bought 100 shares of Company X stock five years ago at $50 per share. The stock is now worth $200 per share, making her total holding worth $20,000.
Goal: Reduce taxable income while supporting her favorite non-profit organization.
Scenario 1: Selling the Stock and Donating Cash
If Sarah sells her stock and donates the $20,000 cash proceeds, here’s what happens:
- Capital Gains Tax:
- Gain: $200/share – $50/share = $150/share
- Total Gain: $150/share × 100 shares = $15,000
- Capital Gains Tax: $15,000 × 15% (long-term rate) = $2,250 federal + $1,350 state = $3,600 total
- Charitable Deduction: Sarah gets a $20,000 deduction, but she has already lost $3,600 to taxes.
Net Tax Benefit: Sarah’s deduction reduces her taxable income by $20,000, saving $6,600 in federal and state taxes. However, after subtracting the $3,600 capital gains tax, her total tax benefit is $3,000.
Scenario 2: Donating the Stock Directly
If Sarah donates the stock directly to the non-profit, here’s the outcome:
- Avoid Capital Gains Tax: Since she doesn’t sell the stock, Sarah avoids the $3,600 in capital gains tax entirely.
- Charitable Deduction: Sarah still receives a $20,000 charitable deduction, reducing her taxable income by $20,000 and saving $6,600 in federal and state taxes.
Net Tax Benefit: Sarah’s total tax benefit is $6,600, with no reduction for capital gains tax.
Comparison of Scenarios
| Scenario | Capital Gains Tax | Charitable Deduction | Net Tax Benefit |
|---|---|---|---|
| Sell Stock and Donate Cash | $3,600 | $20,000 | $3,000 |
| Donate Stock Directly | $0 | $20,000 | $6,600 |
By donating the stock directly, Sarah doubles her tax savings compared to selling the stock first.
Additional Considerations
- Eligible Assets: Only long-term assets (held for over a year) qualify for FMV deductions. Short-term assets are deductible only at cost basis.
- Annual Deduction Limits: Deductions for donated appreciated assets are limited to 30% of your adjusted gross income (AGI). Any excess can be carried forward for up to five years.
- Qualified Charities: Donations must go to IRS-qualified charities to claim tax benefits.
- Documentation: Obtain a receipt from the charity and an independent appraisal for assets over $5,000.
Conclusion
For high-income earners like Sarah, donating appreciated assets is a powerful tool for supporting charitable causes while maximizing tax efficiency. By avoiding capital gains taxes and taking a full deduction for the asset’s fair market value, donors can significantly reduce their tax burden. If you’re looking for ways to give smarter, consider consulting with a financial advisor or tax professional to explore this strategy.
Are you ready to unlock the tax-saving potential of your portfolio? Start identifying appreciated assets and make a plan to give—it’s a win-win for you and the causes you care about!
Related Articles:
- Avoiding Tax Pitfalls for Investors, Understanding Wash Sale
- Offsetting Capital Gains with Losses Can Reduce Taxes
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