Charitable giving may be done with the best of intentions on the donor's part, but unless it is done carefully, the donor may lose tax benefits that he or she hoped to obtain, and problems may also arise for the donee organization. In this article from the January 2006 issue of the Journal of Practical Estate Planning, Connecticut attorney Jonathan Tidd shares some practical insights into common issues that arise in charitable gift planning.
Charitable gift planning may be done with the best of intentions on the donor's part, but unless it is done carefully, the donor may lose tax benefits that he or she hoped to obtain, and problems may also arise for the donee organization. Worse, the problems faced by the donor or donee may not be solvable, at least not in any acceptable way. It is best, by far, to be a problem avoider when it comes to gift planning. Being a problem avoider requires the ability to anticipate potential problems involving the intersection of the requirements of the law and human behavior.
The most commonly encountered set of potential problems related to outright charitable gifts (i.e., direct, simple gifts of cash, securities and other types of assets) involves the determination of the date of the gift for federal income tax purposes.
If a check is mailed as an outright charitable gift using the U.S. Postal Service, the gift is complete for tax purposes on the date of mailing, assuming the check subsequently clears the donor's bank in due course.1 On its face, the rule is clear, but it can be complicated to apply because the actual date of mailing may not be the postmark date. This presents problems of proof for the donor, so the donor is best advised to mail a reasonable number of days before the end of the year, use certified mail, or as a last resort, bring a witness with him to the mailbox, in case he claims a deduction for the year and the postmark is dated after December 31.
The donee organization in this situation is not responsible for determining, and should not undertake to advise the donor, regarding the date of gift (in order to avoid giving the donor legal advice). The donee will issue a gift receipt that states the date of contribution.2 This receipt will state the facts: (1) the date written on the check, (2) the amount of the check, (3) the postmark date, and (4) the date the donee received the check. The donee may note that the donor indicated that the check was mailed on December 31. Such a statement is really only relevant if the donee receives the check very early in the new year, indicating that the check was most likely mailed on December 31. The donee should have a well thought out, written rule regarding the charity's policy in issuing gift receipts. Such a policy is based on a number of possible (i.e., likely-to-be-encountered) fact patterns and prescribes rules for issuing gift receipts. Clearly stated policies and procedures are at the heart of anticipating and avoiding problems in the charitable gift planning arena.
Charitable gifts of stock in certificate form involve two commonly encountered problems. The first arises when a stock certificate is mailed to the charity. The federal income tax regulations provide that the gift is complete when the certificate is mailed or hand delivered with all necessary signatures (endorsements).3 Charities typically do not want the certificate itself to be endorsed, because such an endorsement interferes with the donee's ability to deal with the stock. So the donor will usually mail (or deliver) an unendorsed certificate. In this case, the necessary endorsement is provided via a signed but otherwise blank stock power. But because the donor's signature on the stock power must be "guaranteed" by a broker or bank officer, the donor sometimes mails (or delivers) the stock certificate first and mails (or delivers) the stock power later. In this case, the gift is not complete until the stock power is mailed or delivered. The determination of the date of mailing is compounded here.
From the donee's perspective, it is beneficial to take the time to explain or perhaps provide written instructions to its stock certificate donors. Although there is generally no perfect way to do this, the fact is that many charities know who their regular stock donors are from past contributions. As to these potential donors, the charity can provide useful written guidance in making stock gifts.
A second potential problem regarding charitable gifts of stock certificates arises when the donor has a certificate for 1,000 shares but wants to donate only 400 shares. The donor may request that the issuing corporation issue one new stock certificate to the donee and another new certificate back to the donor. In this case, the gift is not complete for tax purposes until the new certificate for the charity is issued on the corporation's books.4 What the donor should do here is mail (or hand deliver) the certificate, a signed (signature guaranteed) stock power and a cover letter stating the donor's intention to give, e.g., 400 shares. In this case, the date of gift is determined under the usual mailbox rule.
The most serious problems involving charitable gifts of stock involve gifts of stock held in brokerage accounts. This is noted as a serious problem because of the frequency of occurrence and the uncertainty of the law regarding gifts of stock held in brokerage accounts. One situation to consider is when the donor and charity have accounts at the same broker. The donor wants to give stock in her account to charity, so she instructs her broker to transfer stock to the charity's account. The broker, however, delays making the transfer for a few (or possibly more than a few) days. The donor thinks her gift is complete when she calls her broker. The Tax Court has held twice that the gift in this sort of situation is not complete until the stock is transferred to the charity's account.5 The broker must be instructed to make the transfer immediately in order to effectuate the completed gift for tax purposes.
Another situation involves stock in a brokerage account that is wired to the donee charity. The concern again is possible delay in making the transfer. The gift might be complete when the stock is wired out of the donor's account, since the donor has parted with control over the stock at that point. On the other hand, it may be argued that the gift is not complete for tax purposes until the receipt of the stock by the donee. The gift planner will counsel the donor to instruct the broker to transfer the stock immediately, perhaps on the same day as the request for transfer is made.
In general, a charitable gift of tangible personal property (TPP) is complete for tax purposes upon physical delivery of the TPP to the donee, although the Tax Court has held on several occasions that there was constructive delivery prior to the time of actual delivery.6 If delivery is made through a private delivery service, the time of gift completion may hinge on who retained the delivery service. If the delivery service is an agent of the donee, delivery may be complete upon delivery to the delivery service. If the service is an agent of the donor, delivery will be complete when the items are actually delivered to the donee.
Using a credit card to make an outright donation has become increasingly popular. The problem is, the law is unclear regarding when the gift is complete for tax purpose—not so much an issue if the gift occurs early in the year, but perhaps a serious problem if the donor is attempting to complete the gift at year's end. The IRS has ruled that the gift is complete when the charge is made to the donor's card.7 But when is the charge deemed made? When the donor on December 31 calls or sends via Internet his or her credit card information to the donee? Or when, on January 14, the donee's business office processes (submits) the donor's charge? An argument can be made for either date, but one of the two dates is not the date of gift. The charity should establish a cut off date for all year-end gifts by credit card to avoid any ambiguity in the donor's tax situation.
A charitable gift annuity is a contractual arrangement in which a contributor transfers cash, securities or other acceptable property to a charity in exchange for the charity's promise to make annuity payments for life to one or two persons. The donor is deemed to make a gift equal to the amount transferred minus the initial present value of the annuity.8 Gift annuities are subject to a number of federal tax law requirements, including the requirements that the annuity not be for a maximum or minimum number of years, and that the sole consideration furnished for the asset used to establish the annuity is the charity's obligation to pay the annuity.9 Gift annuities also are regulated by about half the states, either as insurance or as a security.10 In recent years, gift annuities have become a popular method of giving. Recommended payment rates are as high as 11.3 percent, for annuitants aged 90 or older when the annuity is established.11 In an environment of low interest rates and low inflation, the relatively high fixed payment rates recommended for gift annuities have appealed to many charitably motivated individuals aged 70 and older, and even to some relatively young individuals. Setting up a gift annuity may be simple in principle but tricky in practice. Following are several situations that may present complicating issues:
The problem here arises if the donor wants to use stock from two different accounts to set up the annuity. The donee receives Stock 1 on Day 1 and Stock 2 on Day 2. When is the annuity contract formed? This question is important, because not until the contract is formed under applicable principles of contract law is the donor's gift via the annuity transaction complete. This means a sale of Stock 1 before completion of the gift may be viewed by the IRS as a sale by the donor, meaning any gain on the sale may be attributed to the donor. On the other hand, if the donee holds Stock 1 waiting for Stock 2 to arrive, treating the transaction as not complete until Stock 2 arrives-which is consistent with the proposition that the donor is setting up one annuity with two assets—Stock 1 may change value, in particular may lose value, upsetting the donor's expectations as to the amount on which the annuity payments will be based.12
One way to avoid such problems is for the donor to set up two annuities, one with Stock 1, the other with Stock 2. This requires an understanding between the donor and donee. The donee in this situation is well advised to adopt a good written gift annuity policy and procedure statement on the part of the donee.13 Creating such a policy is good practice and will be well worth the effort in future gift planning and the avoidance of future problems in this area.
Some donors, for their own reasons, want to set up a gift annuity for a specific dollar amount, such as $10,000. This is not a problem if the donor wants to use cash to establish the annuity. But it can pose problems if the donor wants, as some do, to use stock and to "make up the difference" with cash. This situation is a variation on the multiple-asset-funded gift annuity discussed above. A problem can arise if the donor sends stock to a charity, and the stock has a value less than the target amount when received by the charity. The charity may ask the donor to send a check for the difference, but if the check is delayed, the gift will not be complete until the charity receives the check. In the meantime, the value of the stock may fluctuate causing the final amount of the gift to be uncertain. The charity should not sell the stock, if appreciated, until the gift is complete. The charity should have an unambiguous procedure published about how it will handle transactions involving cash and stock. For example, the donor and charity could agree that donor will, on the day charity receives the stock, wire cash to the charity to make up the difference. Electronic Internet transactions easily facilitate this kind of arrangement. For some donors and charities, the Internet will make this easy.14
Some charities try to make it easy for individuals to set up gift annuities by using a credit card. The donor may like this approach if it allows him to receive a reward from their credit card like airline miles, cash awards or other promotional benefit.15 Again, the question raised by this gift method is when the gift is complete for tax purposes and the value of the gift. This issue can be avoided by a clear policy and explanation to the donor about when the gift will be considered received by the charity and how the amount of the gift is determined.
Assuming a basic familiarity with the charitable remainder trust (CRT),16 this section will focus on several commonly encountered problems involving CRTs that can be avoided with good planning.
A number of charitable remainder unitrusts have been funded with real estate. Today, the preferred strategy with such a trust is to set up the trust to pay out no more than the net income until a "flip" occurs and the trust begins paying out each year a fixed percentage of its asset value determined for the year. The flip occurs following some "triggering event" defined in the trust instrument, such as the sale of the real estate used to fund the trust. The flip takes place as of January 1 of the year following the year in which the triggering event occurs.17
It is typical for the donor to serve as the trustee until the triggering event has occurred, because usually neither a bank nor charitable remainder beneficiary of the trust wants to step in as trustee until the real estate has been sold. Unfortunately, in the writer's experience, the donor as trustee often mishandles the trust from a tax standpoint, for example, by not making required payouts, not keeping the right books and records for the trust, improperly borrowing from the trust, not performing required trust valuations or failing to file required tax returns for the trust. The successor trustee, if there is one (and there typically is), then steps in and finds a mess that may be difficult to clean up.
In this situation, the gift planner (actually, both the donor's attorney and the development officer who is working with the donor, if there is a development officer in the picture) should anticipate these sorts of potential problems and should set in place a procedure to avoid them The best procedure, in the writer's view, is for the donor's attorney or other tax adviser to monitor closely and continuously the donor's handling of the trust.
Sometimes, an individual desiring to establish a charitable remainder annuity trust will want to use multiple assets, such as stocks from two different accounts, to fund the trust. One of the constraints placed on annuity trusts is that there is only one contribution permitted to the trust.18 All contributions made on a single day are treated as a single contribution. The risk is that the donor will not take all steps necessary to ensure that all the assets he or she wishes to place in the trust will reach the trustee on a single day. To avoid the multiple contributions problem, the donor's attorney must anticipate that a broker of the donor's may not make a timely transfer of securities unless closely monitored and instructed.
Certain other problems that can arise in connection with CRTs can be avoided through careful planning and drafting. For example, a provision in the trust instrument allowing the donor to direct the trustee to distribute trust assets to charity allows for an easy, non-judicial method of partially or completely terminating a CRT in advance of its scheduled termination date.19 Along the same lines, a trust provision allowing the payout recipient to assign his or her interest in the trust to the remainder beneficiary can facilitate winding down the trust. Such a provision is especially important to consider when a spendthrift provision under local law or otherwise would throw up an obstacle. A provision calling for the termination of the interest in the trust of the donor's spouse if the spouse does not make a timely waiver of his or her right under applicable local law to elect against the donor's will and lay claim to trust assets may make sense in some circumstances.20
This article highlights some commonly encountered problems in charitable giving that can be avoided through good planning and drafting. For the charitable planner, as in most endeavors, it is far better to be a problem avoider rather than a problem solver.
This article is republished with the publisher's permission from the Journal of Practical Estate Planning, a bi-monthly journal published by CCH a Wolters Kluwer business. Copying or distribution without the publisher's permission is prohibited. To subscribe to the Journal of Practical Estate Planning or other CCH journals, please call 800-449-8114 or visit www.tax.cchgroup.com. All views expressed are those of the author and not necessarily those of CCH.
Reg. 1.170A-1(b).back
Reg. 1.170A-13(a)(1)(ii).back
Reg. 1.170A-1(b).back
Id.back
See R.B. Morrison, 53 TCM 251, Dec. 43,733(M), TC Memo. 1987-112; F.H. Currey Est., 41 TCM 800, Dec. 37,655(M), TC Memo. 1981-40.back
See T.G. Murphy, 61 TCM 2935, Dec. 47,415(M), TC Memo. 1991-276; J.L. Greer, 70 TC 294, Dec. 35,162 (1978).back
Rev. Rul. 78-38, 1978-1 CB 67.back
As to how the charitable contribution is calculated and how the payments are taxed for a gift annuity, see Reg. 1.1011-2(b), Example (8).back
Code Sec. 514(c)(5).back
See, for example, New York Insurance 1110, American Council on Gift Annuities, see www.acga-web.orgback
Gift annuity payment rates are recommended to the charitable community by the American Council on Gift Annuities. The rates serve as guides under some state insurance. Here is a sampling of the rates in effect in October 2005, shown at five-year age intervals:
Age at Date of Issue Standard Payment Rate
65 ................................ 6.0%
70 ................................ 6.5%
75 ................................ 7.1%
80 ................................ 8.0%
85 ................................ 9.5%
90+ .............................. 11.3%
backNote that if the donor disagrees with the charity's valuation of the stock for purposes of determining the annuity payments, there is no meeting of the minds and therefore no completed gift.back
In the writer's view, it is best practice to include the salient provisions of the policy and procedure in the gift annuity disclosure statement required under the Philanthropy Protection Act of 1995 (P.L. 104-62).back
Paypal is one way to wire funds via the Internet, but many individuals either do not use the Internet or use it only for very limited e-mail purposes.back
Although Code Sec. 514(c)(5)(A) prohibits consideration in addition to the annuity flowing to the donor from the donee, the frequent flier miles are not subject to this prohibition, because they are provided to the donor by the airline company.back
As to the various requirements of CRTs, the starting points in one study are Code Sec. 664 and the regulations thereunder.back
As to flip trusts, see Reg. 1.664-1(a)(7), (d)(1)(iii) and (f)(4).back
Reg. 1.664-2(b).back
See Reg. 1.664-2(a)(3), -3(a)(3).back
See Rev. Proc. 2005-24, IRB 2005-16, 909.back
Comments
Jon Tidd's article
Many thanks,
Melodie A. Turish Director, Planned Giving U S Naval Academy Foundation Beach Hall - 291 Wood Road Annapolis, MD 21402-1254 www.usna.com email: melodie.turish@usna.com Office: 410-295-4185