Posted October 1st, 2000

Planning Matters

Gift planners and many donors are aware of the basic tax benefits of gifts of appreciated securities such as stocks, bonds, or mutual funds. Such assets given to qualified charities may be deducted at their full fair market value from federal taxable income for the year of the donor’s gift. The donor thereby enjoys a dual tax benefit from the charitable deduction and complete avoidance of capital gains tax that is not due at the time of the gift.

What about U.S. savings bonds?

Savings bonds are different from many other bonds because their interest accrues over time and is not paid out periodically. When redeemed the holder receives the original purchase price of the bond plus the accrued interest, which is taxed as ordinary income. Many of these bonds have extended maturities of 25 to 40 years.

The original retirement plan

U.S. savings bonds gained in popularity in the 1940s as a means to help finance World War II. There were highly publicized bond drives and millions of Americans purchased bonds and continued to do so after the War was over. Some purchased bonds every pay period and some members of the WWII generation still have lock boxes or mattresses stuffed with them. They became a form of retirement plan, and the way millions of Americans saved for a rainy day.

With the advent of Social Security and the proliferation of pension and retirement plans, many persons holding savings bonds do not need those funds for retirement. Many would like to give them to charity, instead of cashing them in and having to pay tax on the interest that has accrued for up to 40 years.

Unfortunately the bonds may not be given to charity during one’s lifetime without triggering income tax on the accrued interest. Oftentimes the income tax issue results in donors ending the discussion of gifts of savings bonds. The prospective donors’ bonds do not continue to earn interest after reaching maturity.

This need not be the case

Remember that donors who itemize their deductions receive a deduction for their gifts. If the bonds are merely cashed in, donors will owe additional income tax next April. However, if they give the proceeds to charity they can receive an offsetting deduction resulting in a “wash” for tax purposes. In other words, by giving the proceeds from U.S. savings bonds, donors can effectively bypass paying income tax on the accrued interest. (Note: Special attention must be given to the various limits and adjustments affecting itemized deductions.) In fact there will be a net reduction in a donor’s tax bill because the portion of the proceeds attributable to the original cost or purchase of the bonds is deductible without having to report offsetting income.

What about life income gifts?

Savings bond proceeds may also be used to fund charitable gift annuities or trusts, but the charitable deduction generated for these life income gifts will usually not be enough to totally offset the income tax for the savings bond interest. There are several strategies for dealing with this problem.

First, the donor could estimate the additional tax exposure after funding the life income gift and simply hold back a portion of the proceeds for tax purposes. Another strategy would be to use other assets to increase the size of the life income gift, thereby creating the desired offsetting deduction. Depending upon the donor’s income level and other factors, the tax savings from the offsetting deduction may be spread over several years.

If all else fails

Savings bonds can be given advantageously at death. U.S. savings bonds, like IRAs and other traditional retirement plans, are “income in respect to the decedent” assets and may be subject to both income and estate tax liability. Therefore they are ideal assets to be used to fulfill charitable bequests. This is usually accomplished by having appropriate language in a will or living trust.

The “Greatest Generation”

U.S. savings bonds represent yet another legacy that may be left to society as members of the WWII “Greatest Generation” pass away in increasing numbers. In the 1940s their contributions helped to make the world a safer place and laid the foundation for widespread economic prosperity. Now these same bonds represent another resource that can be used to invest in the future of the charitable interests they leave behind. For more information about U.S. savings bonds, see www.savingsbonds.gov

The publisher of Give & Take is not engaged in rendering legal or tax advisory service. For advice and assistance in specific cases, the services of your own counsel should be obtained. Articles in Give & Take may generally be reprinted for distribution to board members and staff of nonprofit institutions and other non-donor groups. Proper credit must be given. Call for details.

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