How to use a donor-advised fund to get the most tax bang for your charitable buck.
By Rachel Elson, CFP®
Wealth Advisor, Perigon Wealth Management
Don’t give to charity for the tax benefits: Give because you’re committed to using your money for an important cause.
But if you do give to nonprofits, make sure you’re using the smartest, most tax-advantaged strategy. For many people, that involves using a tool called a donor-advised fund.
What’s a Donor-Advised Fund?
A donor-advised fund, or DAF, is a personal charitable giving account. You can open one at brokerages like Fidelity or Schwab, or ask your financial advisor to set one up. A DAF works as a conduit – you contribute funds to the DAF, then transfer that money to charity over any time period, whether three months or a dozen years. You can also invest the money inside the DAF, rather than keeping it in cash.
What Are the Advantages?
For donors, DAFs offer a couple of advantages over direct gifts.
Timing is one: By using a DAF, donors can control when they make their gifts. You receive a tax deduction in the year you give to the DAF, and deductions are more valuable in years of higher income – so you can time gifts in years of IPOs or other liquidity events, or make a donation ahead of retirement or a professional downshift.
Strategic gift timing can also be useful for people who are near the threshold for itemized deductions.
DAFs also make it easy to donate shares of appreciated stock – opening up another tax advantage. Even though many large charitable organizations have fund-raising teams that can help you transfer stock gifts, stock gifts can be a headache for smaller nonprofits, and DAFs can make that easier.
Are There Downsides?
From both tax and practical perspectives, once you put money in a DAF, you’ve made a permanent gift to charity — there are no take-backs. Make sure you’re giving an amount that is appropriate for your family.
Additionally, the money has to go from the DAF to a qualified 501(c)3 charity — so if your charity is usually via Gofundme campaigns or personal gifts, a DAF is probably not the best choice.
Finally, check the account fine print for minimums and fees. Schwab and Fidelity both have no minimum investment and admin fees of roughly 0.6% of the assets in the account; some of the larger brokerages have higher minimums and fees.
How Can You Take Advantage?
There are several best practices for using donor-advised funds.
Fund the account with long-term, low-basis stock, rather than cash. Not only will you get a tax deduction equal to the market value of the shares you contribute, but you’ll avoid paying capital gains taxes on the stock’s appreciation – which you’d wind up paying if you sold the stock and then made a cash gift.
Time your donations. If you’re near the threshold for itemizing deductions, for example, a “bunching” strategy lets you give a few years’ worth of donations to the DAF – enough to get you over the itemization limit – then distribute that money over subsequent years, while you take the standard deduction. (Ask your tax advisor for help.) Or, as noted above, make your DAF gifts during higher-income/higher-tax years.
Finally, as with any investments, be sure to align your DAF portfolio strategy with your time frame. If you expect to be distributing gifts over several years, consider an investment strategy that will let those funds continue to grow with the market. But if you’ll be making gifts over a short time frame, don’t take too much risk inside your DAF.
Perigon Wealth Management, LLC (“Perigon”) is a Registered Investment Advisor (“RIA”) located in the State of California. Perigon provides investment advisory and related services for clients nationally. Additional important disclosure information can be found here. Certain securities may be offered through Purshe Kaplan Sterling Investments, member FINRA/SIPC, headquartered at 80 State St., Albany, NY 12207. Purshe Kaplan Sterling Investments and Perigon Wealth Management are not affiliated companies.