The most tax-advantageous ways to protect your wealth and leave your legacy.
Benjamin Franklin famously suggested that taxes are one of just two certainties in life. And while it’s true that you can’t escape taxes entirely, you can take steps to reduce your tax
burden, while simultaneously supporting family, friends and the causes you care about.
Here are a few strategies for safeguarding your hard-earned wealth while also building your legacy.
401(k) and IRA Maneuvers
When discussing taxes and retirement, a point we often make with clients about 401(k)s, qualified plans, and IRAs is that in a sense, they are a growing IOU to the government. The money
grows tax-free, but that money eventually has to come out of your plan and is taxed as ordinary income.
First, it’s important to understand when your money has to come out. If you were born in 1960 or later, Required Minimum Distributions (RMDs) start the year you turn 75 under current law. Those born earlier than 1960 begin RMDs the year they turn 73.
At Trust Point, we have some different strategies that can reduce your RMD and tax burden:
Qualified Charitable Distributions
Instead of pulling money out for your own benefit, you can direct it to a qualified charity. A distribution made directly to a qualified charity has two key tax advantages: First, it is exempt from Federal and most state income tax, and second, if you are subject to RMDs, it is applied to that year’s distribution requirement.
Qualified Charitable Distributions (QCDs) do come with some requirements. For example, you must be 70.5 years old and have the IRA custodian (financial institution) issue direct payment to the charity. The maximum annual QCD per individual in 2024 is $105,000 (if donating to separate charities, the combined total cannot exceed that amount). Spouses filing jointly can each make a $105,000 QCD from their respective accounts.
Certain charities, such as donor-advised funds, private foundations, and supporting organizations, are not considered qualified charitable organizations under QCD requirements and therefore are not eligible to receive QCDs. A financial professional can help you find qualified charities in line with your wishes.
Roth Conversions
For a lot of retirees, IRAs and retirement plans are their primary source of investment assets. Many may not need their RMD — but must withdraw it, which could force them into a higher tax bracket.
One way to proactively reduce this problem is by converting balances in a traditional pre-tax account to Roth. In doing so, you pay tax at the time of the conversion, essentially locking in your current tax rate. A conversion is especially advantageous if you project your current tax rate to be lower than your tax rate at retirement. Once funds are moved to a Roth account, all growth and qualified distributions are tax free. Plus, RMDs are not required in Roth accounts.
This type of maneuver not only benefits you, but also your heirs. After death, your beneficiaries can typically enjoy ten additional years of tax-free growth and distributions.
Leaving a Charitable Legacy
One key thing to remember when working on estate plans is that if you’re planning to leave a charitable legacy at your passing, pre-tax retirement savings are a very tax efficient vehicle to accomplish this. Unlike leaving to children or other individuals, charitable organizations do not have to pay income tax. You can leave your other investment assets to your family or other individuals. Additionally, charitable bequests can reduce any applicable estate tax.
Annual Exclusion Gifts
As we’re working with families and generations of families, we’ll often see grandparents or even parents who are at a point in their life where they want to be able to help either the second or third generation. They’re looking to make life a little bit easier now rather than at their passing. One simple strategy is to use an annual exclusion gift.
Through an annual exclusion gift, you can give any number of individuals up to $18,000 each in 2024. If you’re married, as a couple you can give up to $36,000 to each individual. Those donations are exempt from gift or estate tax and also don’t generate a filing requirement for a gift tax return.
Gifting In-Kind Securities
Gifting stocks can also create tax advantages. For example, if you buy or receive a stock that was purchased 20 or 30 years ago, there’s probably a very low cost basis of the original purchase price. If that value has appreciated, say hundreds of percent, there’s an unrealized capital gain that you will have to get taxed on when you sell that stock to gift cash. But if you give the stock directly to the charity, rather than cash from the sale of stock, the value of the gift is the fair market value on the date of the gift, and you, as the donor, do not have to incur the capital gains tax that would apply if you sold the stock. Additionally, as a tax-exempt entity, the charitable organization does not have to pay capital gains tax if they choose to sell the gifted stock.
Forming a Family Foundation
Private family foundations are a great way to preserve wealth, especially for people who are charitably inclined.
A family foundation is an independent charitable entity that makes annual grants to one or more public charities. A tax-deductible gift of cash or appreciated securities is used to start a family foundation — we generally recommend at least $750,000 for the most impact. Then the foundation board — usually family members — can sell the gift, avoid ordinary capital gains tax, and reinvest the funds for future growth. Annual grants are made to charitable organizations of the foundation’s choice.
Funding a private family foundation creates both income tax and estate tax benefits. Cash gifts can be deducted from individual income taxes up to 30% of the donor’s adjusted gross income (AGI) and gifts of qualified appreciated stocks (publicly traded stocks or mutual funds) can be deducted at their fair market value, up to 20% of the donor’s AGI per year. And upon a funder’s death, a private foundation can receive gifts or bequests free of federal or state estate tax.
Beyond wealth protection, family foundations offer numerous other benefits, such as educating younger family members, ensuring privacy, and maintaining control over assets, investments, and grant-making decisions.
Donor Advised Funds
A donor advised fund (DAF) is a charitable investment account that lets you manage donations to charitable organizations you care about. Gifts to a donor advised fund grow tax-free, and the gift
and future growth are excluded from the donor’s estate.
Cash gifts can be deducted from individual income taxes up to 60% of the donor’s adjusted gross income (AGI) and gifts of qualified appreciated stocks (publicly traded stocks or mutual funds) can be deducted at their fair market value, up to 30% of the donor’s AGI per year. There is a five-year carry-forward for unused deductions. Unlike a private foundation, where we’re talking about additional family involvement for generations to come, a donor advised fund might still have donor and first-generation family involvement, but it’s not always perpetual.
One advantage of a DAF is the flexibility to “bunch” contributions into a single tax year to take full advantage of the benefits of itemizing deductions. For example, you may fund three years’ worth of planned charitable giving in year one, and then advise charitable distributions from the DAF in years one, two, and three. This allows the donor maximum tax benefit and provides the charitable organization consistency in budgeting.
Financial Professionals At Your Side
The professionals at Trust Point are here to help you and your family reach your financial goals. It’s what we do on a daily basis — we enjoy ensuring clients are making the best decisions for themselves and their families in both their income tax, estate tax, and charitable giving strategies. We’ll take the time to get to know you and your family, understand your goals, and create peace of mind for generations to come. Contact us if you’d like to learn more about how we can help with your unique financial needs.
Click HERE to request digital access to the full 2024 Trust Point Magazine, Guiding You Every Step of the Way.
