By Robert Sharpe
Born in 1946, the oldest baby boomers are turning 70 this year. Through sheer numbers, boomers through the decades have made their mark on all aspects of finance, industry and popular culture. Now that they are entering the prime age for making major gifts, we should expect them to make an equally significant impact on the philanthropic landscape.
The big Rs: retirement plans and real estate
The estimated 76 million boomers are the first generation to pursue nearly their entire working careers contributing to 401(k) plans, individual retirement accounts and other income tax deferral savings plans created by Congress in the late 1970s in contemplation of the baby boomer retirement wave that’s now intensifying.
As a result, many individuals in their prime earning (and giving) years now hold a substantial portion of their net worth in these qualified, tax-deferred accounts. For many boomers, the bulk of their other assets is comprised of equity in their homes and other real estate they own.
With the majority of their assets held in this manner, fewer among the 70 and over age group may be prospects for charitable gifts of securities and other financial assets than was the case with earlier generations where donors held significant investment portfolios outside their retirement plans.
Charitable IRAs to the rescue?
While Congress acted in December 2015 to make permanent legislation allowing individuals aged 70½ and older to make tax-free gifts from their IRAs, the bulk of qualified retirement plan assets are held by individuals under the age of 70½, and/or in 401(k), 403(b) and other plans from which it’s not possible for those of any age to make gifts directly to charity.
Many seeking major gifts from boomers are beginning to realize that the bulk of many boomers’ assets are “locked up” in retirement accounts and that it will be increasingly important to encourage gifts from other assets such as real estate.
Getting grounded in real estate gifts
For those working with boomers, now may be a good time to review how real estate can be used to make charitable gifts, including the basic tax and financial benefits that can accompany such gifts.
Gifts of real estate can result in significant tax savings, but they vary depending on the way the gift is made, what interests may be retained and other factors. For example, real estate can be given outright or may be given in ways that provide some benefit to the donor or someone else the donor chooses; such benefits can include the generation of income or the right to use the property for life or another specified period of time.
Let’s briefly review a number of ways real estate can be used to make charitable gifts and summarize the possible tax and other financial benefits to the donor.
Perhaps the most common way to make a gift of real estate is through an outright donation. In these cases, the donor is allowed a charitable income tax deduction of an amount determined by a qualified property appraisal. If the property has increased in value since the donor acquired it and has been held for longer than 12 months, the deduction is for the appraised value of the property less any amount that would be reportable as ordinary income if the property were sold by the donor, up to a limit of 30 percent of the donor’s adjusted gross income (AGI).
If the property has been held less than 12 months, the deduction is limited to the lesser of the cost basis or fair market value, up to 50 percent of the donor’s AGI. The donor can carry forward any unused deductions for use in up to five future tax years.
Sometimes a donor may wish to give only a portion of the value of the real estate in question. In that case, the donor can transfer the real estate under an arrangement that is partially a gift and partially a sale. Known as a “bargain sale,” the charity purchases the property for less than its appraised value. The donor is entitled to take a charitable deduction for the value of the gift minus the purchase amount. Capital gain may be partially recognized in this event.
Gift with retained use
In today’s lower interest rate environment, donors may be interested in making a gift of a personal residence or farm while retaining the right to enjoy the property for life or for a specified period of time. In this case, the donor is allowed a charitable deduction for the value of the real estate minus the value associated with the right to continue to use the property. For example, a 70-year-old donor retaining the right to use a vacation home for five years prior to funding a campaign gift would enjoy a deduction for 85 percent of the value of the home.
Gift with retained income
Homes, investment property, agricultural property and other types of real estate can also be used to make gifts that provide a donor with income for one or more individuals for life or another period of time.
The most common tool used to make gifts in this way is the charitable remainder unitrust. Such trusts can be structured to pay the donor or another recipient only the income from the donated real estate until it is sold. After the real estate is sold, the trust can then distribute a specified percentage of the value of the trust for life or other period of time. This planning tool is referred to as a “flip unitrust.”
In some cases, it may also be possible to fund a charitable gift annuity with real estate. In this case, however, a marketability discount may be necessary to ensure the charity does not commit to payments that may be in excess of the amount received when the real estate is sold.
Significant income, capital gains and estate tax savings can be realized when making gifts in this way.
Tax-favored inheritances for heirs
It may also be possible to temporarily redirect income for charitable purposes while transferring real estate to heirs through charitable gift planning techniques, such as the charitable lead trust.
This option can be especially helpful in the case of a commercial property that’s expected to increase in value over time and also generates reliable cash flow.
A donor can transfer such property to a charitable lead annuity trust (CLAT) for a period of time before the heirs receive the property free of gift and estate tax.
When the trust terminates, heirs own the property at its then current value with no gift or estate tax due on any increased value. They will also receive any income generated by the property in excess of the required payment amount that has accumulated in the trust over its term free of additional tax, as those amounts will have been taxed as received by the trust.
Gifts through an estate
Finally, a donor may wish to leave a residence or other real estate to charity at death through a will, trust or other testamentary disposition.
While there are no lifetime tax or other benefits associated with a gift structured in this way, the full value of the property will be deductible for federal estate tax purposes. There may also be state tax savings.
Other partial interests
In addition to the gift methods described above, it’s also possible to make gifts of mineral rights, water rights, conservation easements and other gifts of less than the complete ownership of property. Alternatively, a donor may wish to donate the property while retaining these rights for themselves or their heirs.
As we can see, real estate can be used in a number of ways to make larger charitable gifts on a current or deferred basis, but your donors may not know about the options available to them unless you take steps to inform them. While these gifts must be approached with great care (see “Tips for Accepting Gifts of Real Estate” on Page 3), they may constitute some of your largest gifts in coming years. Where the bulk of a donor’s assets are tied up in other ways, real estate may be one of their most “donatable” assets and may be their best option for making their “gift of a lifetime.”
Robert Sharpe is Chairman of Sharpe Group.
To learn more about gifts of real estate, consider attending Sharpe’s popular “Gift Planning Toolbox” seminar. Click here for more information. ■
Sharpe Senior Consultant and SVP John Jensen has tips for creating a clear real estate gift acceptance policy. Click here to read more.
You can help educate your donors about noncash gifts, such as real estate. Click here to learn more about Sharpe booklets.
Real Estate Gifts in the News
After the death of movie director John Hughes in 2014, his family announced a gift of one of his mansions, valued at more than $4 million, to the Northwestern Lake Forest Hospital in Illinois. Click here to read more.
In celebration of his 100th birthday, David Rockefeller Sr. announced in May 2015 a gift of more than 1,000 acres of land to the Mount Desert Land and Garden in Maine. Click here to read more.
In December 2015, J.D. Nichols, chairman of NTS Realty Holdings LP in Louisville, KY, gave a retail building valued at $7 million to the University of Louisville as part of his $10 million pledge, one of the largest gifts in the school’s history. Click here to read more.
The Big Lebowski house became a museum gift. Click here to read more.