Self-directed Charitable Investment

[no1g8r]

My wife inherited a small amount of money, about $8k, that she would like to set up in an investment that would allow her to annually siphon off gains and donate them to a qualified charity of her choice.

A bigger dollar amount to invest would lead us to a Donor Advised Fund, which is exactly the concept that she would like to mimic, but it doesn't make sense for such a small capital amount.

I would like for it to have the least possible impact on our joint tax bill, so I'm thinking of tax free munis, but haven't had the time to do proper analysis yet.

Does anyone have any suggestions?

 

[78]

How old is your wife? Also, do you already itemize deductions on your tax return?

 

[78]

One other question. Do you have a capital loss carryforward on your return? If so, how much?

I've got three or four ideas that may work. Depends on your answers to my questions.

 

[no1g8r]

How old is your wife? Also, do you already itemize deductions on your tax return?

She's 58. We didn't itemize deductions in 2018 as the increase in the standard deduction to $24k was the better option for us. That was the first year that we didn't itemize.

One other question. Do you have a capital loss carryforward on your return? If so, how much?

I've got three or four ideas that may work. Depends on your answers to my questions.

No capital loss carryforward the past couple of years.

I don't have a lot to work with so far, do I?

 

[Politigator]

If you don't itemize the value of a DAF is fairly marginal. Fidelity charges $100 per year admin fee, so probably not worth it.

Don't let the tax tail wag the investment dog here. Whether tax free munis make sense depends on your tax bracket and the state you love in. Unless you are in a high tax bracket or avoiding substantial state income tax the return you will lose with munis may be greater than the tax you save.

$8000 times 2.5% interest = $200, times 24% tax bracket is $48 tax. I'm not sure I'd go to great lengths to save $48 of tax. If you invested in index funds, say you made 10% and cashed out the whole thing out. That would be $800 gain times 15% cap gains rate or $120, and that's only if you sold the entire balance. You could just let it spit off dividends and distributions and the amount would be less.

Or put in a Roth IRA. You can always pull out the principal of a Roth IRA with no penalties, just not the gains. As long as your withdrawal donations don't exceed the principal there are no penalties. Having said that, I'd save Roth IRAS for my retirement, not for doing stuff like this.

I bonds don't tax interest until you pull it out, although you have to leave it for a year and you lose 3 months interest if you pull it out before 5 years.

You could buy multiple funds and put them in various low fee equity index funds, and you may be able to occasionally tax loss harvest the losers. But for me that would be more trouble than its worth.

 

[78]

She's 58. We didn't itemize deductions in 2018 as the increase in the standard deduction to $24k was the better option for us. That was the first year that we didn't itemize.



No capital loss carryforward the past couple of years.

I don't have a lot to work with so far, do I?

You have enough:

1) Have her contribute the annual max, post-50 amount to a traditional IRA. That's $7,000 for 2019. She can contribute the remainder next year.
2) Invest it directly in a low-cost fund family to minimize fees and transaction costs.
3) Wait the year or year and a half until she's 59 1/2 to withdraw IRS penalty-free the amount she wishes to give to charity.
4) Have the IRA custodian make the distribution check directly payable to the charity. You'll get a 1099-R to indicate it's a taxable distribution but you have the paper trail to prove it went to a charity. It's perfectly legal.
5) Boom. You get an upfront tax deduction, freedom to invest however you want and no tax on the distribution. The charity gets its money.

This is on the assumption that she is eligible to make a deductible contribution to an IRA based on income and not being covered at work by a retirement plan.

If not, do the same with a Roth.

 

[no1g8r]

Thanks to you both. Good advice. Here's what I think I heard based on her situation:

1) She isn't employed, so no employer sponsored 401k available to her. We have been funding a Roth IRA for the max each year to go towards her retirement, so using vehicle for this purpose appears to be off the table (so I switch from 78's approach to L-Boy's)

2) We are in the 24% federal bracket, so I could likely do better by investing in some fund that returns 8% or more on average rather than worrying about being in a tax-free muni. I would open a separate account for this purpose.

So let's say I go that route, and once each year skim off whatever dividends/growth that come out of it. Essentially, have dividends reinvest throughout the year, and after 12 months, make that the time to send a check to charity, have the fund send the check to the charity for everything in the account above $8k. Or if I want to be a stickler about adding zero tax burden to me, I have the fund send a check to the charity for (capital gains - (capital gains *15%)) + (dividends-(dividends * my effective tax rate)). Whatever is left above $8k after that I have cut as a check to me to pay towards taxes.

Are there any holes in that approach?

 

[78]

She's your spouse. As long as you have earned income, you can contribute tax-deductible to an IRA in her name. It's a spousal IRA contribution.

You're in the perfect situation to take advantage of what I described.

 

[no1g8r]

She's your spouse. As long as you have earned income, you can contribute tax-deductible to an IRA in her name. It's a spousal IRA contribution.

You're in the perfect situation to take advantage of what I described.

I’ve never looked into the spousal ira. How much can she contribute, in addition to the $7k she already put into a Roth and the money I put into my 401k and deferred comp plan?

 

[78]

I’ve never looked into the spousal ira. How much can she contribute, in addition to the $7k she already put into a Roth and the money I put into my 401k and deferred comp plan?

Your salary deferrals at work don't impact what she can contribute to an IRA. It's 7,000 total for the year regardless. If she already funded a max Roth contribution for 2019, you'll simply have to wait for Jan. 1, but you can do it and it will work with what she set out to accomplish.

 

[78]

Allow me to add this. In your case, it's simply a left to right pocket transaction. You could consider the money having been used to fund her 2019 Roth contribution as having come from the inheritance.

If you want the biggest bang for the dollar, though, for sure put it in a traditional IRA. You said you were in the 24% marginal bracket. Uncle Sam will be paying for $1,680 of the $7,000 contribution.

Where else can you get a 24% bump out of the gate on your investment?

 

[Bushmaster]

You have enough:

1) Have her contribute the annual max, post-50 amount to a traditional IRA. That's $7,000 for 2019. She can contribute the remainder next year.
2) Invest it directly in a low-cost fund family to minimize fees and transaction costs.
3) Wait the year or year and a half until she's 59 1/2 to withdraw IRS penalty-free the amount she wishes to give to charity.
4) Have the IRA custodian make the distribution check directly payable to the charity. You'll get a 1099-R to indicate it's a taxable distribution but you have the paper trail to prove it went to a charity. It's perfectly legal.
5) Boom. You get an upfront tax deduction, freedom to invest however you want and no tax on the distribution. The charity gets its money.

This is on the assumption that she is eligible to make a deductible contribution to an IRA based on income and not being covered at work by a retirement plan.

If not, do the same with a Roth.

Do this.

 

[no1g8r]

Allow me to add this. In your case, it's simply a left to right pocket transaction. You could consider the money having been used to fund her 2019 Roth contribution as having come from the inheritance.

If you want the biggest bang for the dollar, though, for sure put it in a traditional IRA. You said you were in the 24% marginal bracket. Uncle Sam will be paying for $1,680 of the $7,000 contribution.

Where else can you get a 24% bump out of the gate on your investment?

That’s a good point.

In 2017 I realized that we had a lot (relatively speaking) in various tax deferred retirement vehicles (401(k)s, SEP and traditional IRAs, etc), but not much in tax-free vehicles. So I focused on maxing out the amount of post-tax dollars we are putting into Roth accounts so that money can not only grow tax-free, but so the growth and gains will be tax free when we eventually withdraw them.

Since fully using our IRA/401(k) opportunities are part of our retirement strategy, I’d rather not have to reduce that at the expense of this charitable effort. That limits what I can do a lot, doesn’t it?

 

[78]

That’s a good point.

In 2017 I realized that we had a lot (relatively speaking) in various tax deferred retirement vehicles (401(k)s, SEP and traditional IRAs, etc), but not much in tax-free vehicles. So I focused on maxing out the amount of post-tax dollars we are putting into Roth accounts so that money can not only grow tax-free, but so the growth and gains will be tax free when we eventually withdraw them.

Since fully using our IRA/401(k) opportunities are part of our retirement strategy, I’d rather not have to reduce that at the expense of this charitable effort. That limits what I can do a lot, doesn’t it?

No, not at all. Your retirement accounts are yours. It's left to right pocket. The charitable contributions can come from any of them. I'm simply recommending it come from a traditional IRA to enhance the impact for you. You can do it with your 401k, but just be aware you'll be subject to mandatory 20% withholding tax. You'd ultimately get the 20% back when you filed that year's tax return.

Not wanting to touch your retirement accounts? Stick it a low-cost MF and send the year-end capital gains distributions, which are taxable whether taken as cash or reinvested, to the charity. LT gains are taxes at a favorable rate.

 

[no1g8r]

No, not at all. Your retirement accounts are yours. It's left to right pocket. The charitable contributions can come from any of them. I'm simply recommending it come from a traditional IRA to enhance the impact for you. You can do it with your 401k, but just be aware you'll be subject to mandatory 20% withholding tax. You'd ultimately get the 20% back when you filed that year's tax return.

Not wanting to touch your retirement accounts? Stick it a low-cost MF and send the year-end capital gains distributions, which are taxable whether taken as cash or reinvested, to the charity. LT gains are taxes at a favorable rate.

Okay. That helps. Thanks!