Newsletter for Professional Advisors – October 2021

Welcome to Fall!

As we enter into an era of potential tax reform, I pledge to keep you informed of legislative developments and no matter what legislation is passed and when, the community foundation team is here to educate you and your clients.
Jennifer McComb
CEO, Community Foundation of the Florida Keys
305-809-4991 direct
305-587-1888 cell
Email here

Proposed legislation: What’s in it for giving?

Here are four considerations as you prepare for the possibility that the legislation may become law.

  1. Take advantage of the AGI limitations suspended by the CARES Act.

The CARES Act may seem like a very long time ago, now that sweeping tax reform could be imminent. Still, the Act contained helpful incentives for charitable giving. Instead of the usual caps, eligible taxpayers may deduct up to 100% of AGI for cash gifts made directly to qualifying charities in 2021.

  1. Start seeing a silver lining in capital gains tax increases.

It’s possible that the top capital gains rate could increase immediately to 25%, up from 20%, for certain high income individuals. Although there are transition provisions that would apply in some circumstances. For your clients who may have been on the fence about donating highly-appreciated assets to charity, the higher tax rate (and the corresponding higher amount of tax that can be avoided) might be enough to tip the scales in favor of philanthropy.

  1. Consider planning for more aggressive annual giving.

Client households earning $1 million or more in annual income would see their taxes go up under the proposed legislation. The Joint Committee on Taxation indicates that this represents an increase in these households’ average federal tax rates from 30.2% to 37.3%. Other tax increases in the proposed legislation include a 3% surtax on income over $5 million and additional tax hits on business owners and business income. These high-income clients may decide to increase their annual charitable giving, effectively redirecting funds to charity that would otherwise go to taxes.

  1. Dust off that estate plan.

For the last few years, estate plans enjoyed more breathing room, thanks to the high estate and gift tax exemptions. For estate and gift transfers after December 31, 2021, under the proposed new law, these exemptions would return to their pre-2017 levels of $5 million (adjusted for inflation), instead of the current inflation-adjusted level of $11.7 million. The increase in taxes may prompt wealthy families to consider increasing charitable gifts and bequests to reduce their taxable estates.

Some good news? As it is currently proposed, the legislation does not impact the step up in basis for capital gains tax purposes. Bad news? The legislation effectively ends the use of the grantor trust as an estate planning technique because trust assets would be pulled back into the estate at the taxpayer’s death.   

These three factors are a big deal in gifts of S Corp stock to charity

S Corporation, or limited liability company? That’s a question many family businesses grapple with in their formative stages. For years, S Corporations were frequently preferred for small businesses that wanted the protection of a corporate structure versus a traditional partnership. In the 1990s, limited liability companies, or LLCs, rose in popularity because they offered both favorable tax treatment and corporation-like protections. In recent years, lower tax rates have contributed to the resurgence of traditional C Corporations as a viable structure for a business.

Since the adoption of laws and regulations decades ago making them advantageous, many S Corporations and LLCs have grown into thriving, highly-valuable businesses that are owned by your clients and are therefore now the subject of your estate planning work. So, too, have grown many clients’ desires to unlock these assets to fulfill charitable goals.

Many advisors find themselves discussing the benefits of donating S Corp stock to a charity prior to the sale of a business, but rarely do advisors feel prepared for that discussion with a client. That’s why it is important to be generally aware of the rules before the topic arises in a client meeting. A discussion with your client is especially important as business succession plans are crafted because many business owners want to minimize tax liability and also give back to the communities where their businesses have flourished. As an advisor, you have a responsibility to understand what might be possible.

Donating S Corp stock to a charitable organization is an important option that your clients will want to consider, and understanding the complexities is critical. Three factors are particularly important:

  • This idea must be addressed early in the process of business succession planning, especially prior to any formal discussions about a sale. Indeed, the IRS is known for its keen eye in spotting transactions that could be construed as resulting in “anticipatory assignment of income,” especially where a charitable deduction is involved. At the same time, many charitable organizations prefer not to hold hard-to-value assets like S Corp stock for more than a few years. Balancing these factors requires thoughtful planning and timing.
  • Private foundations and certain donor-advised funds at trust-form institutions (which then trigger the truest tax rates) are permissible shareholders of S Corp stock. Moreover, public charities have been eligible S Corp shareholders since 1998. Before you explore an S Corp gift to a charity, be sure to review the rules related to permissible S Corp shareholders.
  • Charities holding S Corp stock may be subject to Unrelated Business Taxable Income rules. Be sure to show your client various alternative calculations to determine the most cost-effective structure for each transaction alternative.

Four pointers for gifts of life insurance to charities

“Incidents of ownership” three powerful words in estate planning where life insurance is concerned. The phrase is a key component of Internal Revenue Code Section 2042, which provides for the inclusion in a taxpayer’s gross estate, for estate tax purposes, of the proceeds of insurance policies on the taxpayer’s life under two circumstances. First, if the proceeds are actually received by the estate, they are included. Second, proceeds are included in an estate when the money is received by named beneficiaries other than the estate if the taxpayer died possessing “incidents of ownership” in the policy.

Before you assist your client with a gift of life insurance to a charity, here are four pointers:

  • Request change of ownership and change of beneficiary forms from the insurance company, and make sure you have the right forms. The paperwork is not always user-friendly. There are instances where a taxpayer completed the wrong set of forms and thus failed to accomplish the intended transfer. The charity will need to be the policy owner and, unless the charity intends to surrender the policy, also be the named beneficiary.
  • Carefully calculate the charitable income tax deduction for the gift of the life insurance policy to the charity. The taxpayer is eligible for a deduction equal to the lesser of the policy’s value or the taxpayer’s basis (usually the total amount of premiums paid). The “value” of the policy is computed using the replacement cost or the “interpolated terminal reserve” plus unearned premiums.
  • Be sure to check for loans against the policy to avoid an income tax event for the taxpayer.
  • Finally, do not run afoul of the “insurable interest” rules, which can come into play where the charitable entity pays the premium on a life insurance policy transferred to or secured by the charity on your client’s life.

The team at the community foundation is a resource and sounding board as you serve your philanthropic clients. We understand the charitable side of the equation and are happy to serve as a secondary source as you manage the primary relationship with your clients. This newsletter is provided for informational purposes only. It is not intended as legal, accounting, or financial planning advice.

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