Gift annuities are supposed to be relatively simple arrangements, and for the most part they are. But complexities can arise when a gift annuity is funded with stock. One of the complexities involves the question of when the donor’s gift is complete. The answer to this question may have multiple tax consequences for the donor.
Background–outright gifts of stock
To appreciate the issues, it’s necessary to understand two basic concepts: first, the date-of-gift rules that are applicable to outright gifts of stock and second, the differences between an outright gift of stock and the transfer of stock in exchange for a gift annuity.
The date-of-gift rules for outright gifts of stock are laid out for the most part in the federal income tax regulations and various court decisions. One clear rule is that an outright gift of stock in certificate form is complete on the date of mailing or hand delivery, assuming the certificate is either properly endorsed on the back or is transferred with an appropriately signed stock power (the stock power is generally preferable from the donee organization’s standpoint). This rule is set forth in the income tax regulations.
The “mailbox rule” that applies when a stock certificate is mailed is based in part on the presumption that the donee organization will accept the tendered gift. If the donee organization for some reason does not accept the tendered gift, then there is no gift and, of course, no date of gift.
Acceptance, in other words, is an essential element of a gift–any gift. It’s necessary to determine whether an acceptance has taken place in order to ascertain whether a gift has occurred and, if it has, the date of gift.
Gift annuities as contracts
There is no regulation, ruling, or court decision dealing expressly with the question of when the gift is complete in the case of a gift annuity funded with appreciated stock.
One might assume that the same rules apply as in the case of an outright gift, but jumping to this conclusion could involve faulty logic. The reason is that in order for there to be an acceptance in the case of a gift annuity, there must be, at least, a meeting of the minds between the donor and the donee organization as to the terms of the annuity agreement. Why? Because a gift annuity is a contract, and contract law requires that both sides see eye to eye and approve of the terms of the arrangement before a contract in fact exists.
Example: Let’s say Jane Donor mails a certificate for IBM stock (along with a signed stock power) to ABC Charity on December 1, on which date IBM trades for a mean price of $180 a share. Donor’s express intention is to establish a gift annuity and receive annuity payments based on a $180 per-share value. ABC Charity receives the stock on December 5, on which date IBM trades for a mean price of $150 a share. What is the date of gift in this situation?
Without knowing more, one might consider December 1, the date of mailing, to be the date of the gift. But let’s assume ABC Charity has no policy to deal with this sort of situationone involving such a sharp decline in share valueand is not willing to base the annuity on a $180 per-share price.
In this situation, the question is not what is the date of gift. The question is whether there is any gift at all. And the answer, under contract law, is not until Jane Donor and ABC Charity reach agreement as to the terms of the annuity–most important, agreement as to the annual annuity amount. Bear in mind that because the donor has not intended to make an outright gift, the mailbox rule does not necessarily apply. The donor’s intent, it is important to note, is another essential element of any gift.
Now, here is something else to keep in mind. Until the terms of the annuity are agreed upon, the donor is still the owner of the stock for tax purposes (the donor, after all, has not intended to make an outright gift). This means the donee organization should not sell the stock, if it is appreciated, until there is a meeting of the minds. Selling the stock would put the donor at risk of being stuck with a capital gain should there be no agreement on the terms of the gift.
The final analysis
This example just begins to scratch the surface of the potential complexities involved in using stock to establish a gift annuity. The problems suggested in the example are the sort best avoided, and they can usually be circumvented by a charity’s adoption of a clear policy as to when stock to be used to establish a gift annuity will be valued for purposes of determining the annual annuity amount.
This policy should be communicated to donors up-front, during the gift discussion and negotiation process, and probably ought to be spelled out in some way in the formal gift annuity disclosure statement provided to prospective gift annuity donors. With a clear policy in place, a charity can avoid potentially uncomfortable situations and focus on assisting donors who want to fund gift annuities with stock.