Tax Details

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The Senate did not pass the IRA charitable rollover legislation this year, and probably won't. 

Here's the latest news: On June 24, 2010, the Senate bill that proposed extending the IRA charitable rollover through the end of 2010 (H.R. 4213) was taken off the table by Senate leaders. With other legislative priorities, and a general lack of cooperation in Washington, it is now highly unlikely that the IRA charitable rollover will be extended or enacted during 2010. 

(Please try not to confuse this failed IRA charitable rollover legislation with the 2010 traditional IRA to Roth IRA legislation, which did pass.  That legislation is also explained in our answers section.) 

Last year: During each of the past four years, 2006 - 2009, Congress had allowed donors to make tax-free gifts from their IRA Accounts. During that time, donors who were at least 70½ could make tax-free gifts totaling up to $100,000 each year from their traditional IRA to qualified charities. This was not that good of a deal for most donors, who could have accomplished the same tax outcome by accepting their IRA income and writing a check for the same amount to charity.  And most charities received a very small portion of their philanthropic income through this type of transfer. However, it had been a welcome loophole for people who already deducted 50% of their adjusted gross income (AGI) or who faced other limitations tied to AGI, because these gifts were not counted as income in any way, and individuals could in effect avoid receiving their IRA minimum distributions. 

What can a donor do?  An individual may still instruct an IRA plan administrator to make a direct contribution to a favorite charity.  If a retroactive IRA charitable rollover law is passed, then this gift may qualify in accordance with the new law.  However, it is more likely that any gift from an IRA account will be treated just like any other charitable gift.

Thanks for asking.
 
Christopher Hoyt, Professor of Law at the University of Missouri, Kansas City, covered this topic in great detail in his session at the National Conference on Philanthropic Planning, October 14-17, 2009.
 
In my opinion, this is not actually a gifting strategy. People have the opportunity to pay extra taxes in 2010, 2011 or 2012* by converting money in traditional 401k (etc.) or IRA accounts to Roth 401k (etc.) or Roth IRA accounts.  The "good news" is that they can move the money whether or not you made income that year. They can pay the taxes now, and take the principal and gain (if any) out later with no taxes at all.

You might ask, "Why would people choose to pay taxes now instead of waiting?"  Because many people believe the tax rates will "probably" go up.
 
Who is likely to pay taxes now to accomplish this type of conversion?  According to Hoyt (and I am paraphrasing liberally)

1. People in the 35% bracket who say, "Since the tax rate will go up in 2011 or later, I should pay these 'cheap' 35% taxes now, rather than the 40% or possibly higher rates when I retire." (Assuming they will still be in the highest tax bracket after retirement.)
2. People who know they will need to pay estate taxes decide that "since estate tax rates will be 45% or 55%, and that's more than the current 35% income tax rate, they should pay the 35% now and save the double & higher taxation later."
3. People who have "charitable deduction carry forwards" that expire in 2010.
4. People - like graduate students - who are in a low tax bracket in 2010, but expect to be in a higher tax bracket in the future.

Others might choose to pay the accelerated taxes in 2011 and 2012, when their stock investments might be more appreciated than now.  Such stock could be used for an outright charitable gift or a deferred charitable gift (CGA or CRT) to produce an income tax deduction that can offset the income from the Roth IRA conversion.
 
People must decide whether to claim 100% in 2010 or 50/50 for 2011 and 2012 is better by April 15, 2011.  Hopefully, they will also choose to make larger charitable gifts (preferably with appreciated property) in the appropriate year(s) to reduce the income tax sting.  Thus, related charitable gift planning may be more important in 2011 and 2012 than in the year 2010.

One potential "problem" for gift planners is that this tactic eventually takes money out of taxable estate assets and removes one of our favorite lines, "give it to charity so the government won't take 70% of what you designate for your heirs." The "good news" is that doing this in 2010, will create a taxable event, and therefore some donors MIGHT say, "I have made a wise choice that has resulted in a really big tax bill this year. Therefore I should give more to charity to reduce those taxes."
 
In my opinion, this "good news" scenario requires a couple of logical steps to be made, and I don't expect those thoughts to be strung together all that often. But the savvy planned giving officer who knows which donors might have this problem can always suggest the idea.
 
Scott

* In most cases, when a person converts to a Roth IRA in 2010, either 100% of the taxable income may be counted in 2010, it may be divided to 50% in 2011 and 50% in 2012.  Therefore people should have a better idea which option produces better results by April 15 2011.

My special thanks to Chris Hoyt, who not only made an excellent presentation, but also reviewed this answer.  However, he is not responsible for the final content; any mistakes or misstatements are purely my responsibility.

Like a deduction for mortgage interest, the deduction for a charitable gift reduces donors' income that is subject to tax (their adjusted gross income or "AGI").  It is not a direct subtraction from the income tax itself.

Note: If a donor asks you, "How much will this gift save me in taxes?" you can give a shorthand answer by multiplying the charitable deduction by the top tax rate which the donor pays.  As an example, a charitable deduction of $10,000 claimed by a donor in the 35 percent bracket will reduce that donor's tax bill by $3,500.

*Property of any kind that the donor has held for less than 1 year is considered short-term capital gain (or "ordinary income") property by the IRS, and its value for deduction purposes is limited to the donor's cost basis.

No, the IRS says that establishing the FMV (fair market value) of any gift asset except cash, publicly traded securities or mutual fund shares is the responsibility of the donor, through the services of an independent appraiser.

Closely!   Donors must file IRS Form 8283 ("Noncash Charitable Contributions") if the amount of the total charitable deduction they are claiming for all noncash gifts is more than $500 for the year.  If one item of donated property, or a group of similar items, exceeds $5,000 in claimed value (unless the property is publicly traded securities), donors must also summarize on Form 8283 the appraisal they obtained on that property.  The appraiser and a representative of your organization must also sign that appraisal summary. 

If, within 3 years of the date of the gift, your organization sells or disposes of donated property for which the donor claimed a deduction of $5,000 or more (except for publicly traded securities), you must file a separate report to the IRS, Form 8282 ("Donee Information Return").  You state the donor's name, identify the property, and tell when you received the property, when you disposed of it, and what proceeds, if any, you received on the disposition.

You can download Form 8283, its Instructions, and Form  8282 plus Instructions here.

Caution: The requirements that the IRS places on donors to substantiate charitable deductions for property gifts are complicated - we've just given you a summary here - and there are penalties for non-compliance.  As your non-profit's representative, be careful about providing any advice to donors about compliance, and urge them to consult with their own advisors before making a property gift.               

• One portion of the payment will be considered return of principal by the annuity, and thus tax-free to the beneficiary. If the donor funded the annuity with appreciated property, a second portion of the payment will be taxed at low capital gains rates. The balance of the payment will be taxed as ordinary income. This favorable tax treatment, not available on other types of life-income gifts, increases the effective yield of a gift annuity.
• If the beneficiaries live beyond what their life expectancies were at the time the gift annuity was created, subsequent payments to them will be taxed entirely as ordinary income.
• If the gift annuity is funded with appreciated assets, the donor does not have to pay capital gains tax at the time of the transfer. Only a portion of the capital gain in the donated assets is recognized, and the tax will be spread over the annuity payments, as described above.