Wealth managers understand that the complexity of any given client plan commonly corresponds to the overall net worth of the particular client. That certainly makes sense. A client with a higher net worth requires more complex strategies to meet the planning needs associated with greater wealth. There are instances, however, when a high net worth client can achieve specific planning aims without the typical complexity that we may expect. Sometimes a simple and effective solution can work best.
Charitable planning is consistently mentioned as a primary goal for high net worth clients. It provides several benefits, including the highly desired results of tax efficiency and moral satisfaction. But how clients and wealth managers go about achieving these results can differ greatly in complexity and overall effectiveness. Though charitable lead annuity trusts, charitable remainder trusts, and private foundations have their rightful place within charitable plans, many clients can satisfy their intentions by implementing one or more of the following, simpler strategies.
In a profession where “complex” planning is often confused with “better” planning, it is important for wealth managers to consider the simple solutions that can lead to the same or even more advantageous results. Too often I have reviewed previously implemented plans that are so complex the clients don’t understand how they work or why they were implemented.
Qualified plans and IRAs
When a client expresses charitable intent, it should prompt the wealth manager to review the client’s existing assets to determine how the goal can be met while providing maximized tax efficiency. When a charitable bequest is a component of a client’s estate plan, qualified plan and IRA balances are excellent candidates for identifying assets to be left to charity.
Qualified plans and IRAs are income in respect of a decedent (IRD) items. IRD items maintain their tax character in the hands of the account’s beneficiary. This means that, upon distribution, a noncharity beneficiary who inherits a qualified plan balance or an IRA will owe the ordinary income tax associated with the balance. But a public charity with tax-exempt status will not pay income tax upon receipt and distribution of the IRD items. By naming a charity as the beneficiary of a qualified plan or IRA, a client can maximize the amount left to the charity without the drag of tax liability. At the same time, the client’s estate will receive an estate tax deduction for the total amount passed to the charity. This simple strategy can provide significant income and estate tax benefits to the client.
For clients who wish to make gifts to charity while they are alive, an IRA is not the best option, as the client would incur income tax liability upon distribution of the amount that he or she will subsequently gift to the charity. Although a tax deduction may be available for the donation, there is a possibility that the deduction will not fully offset the tax liability associated with the distribution because of adjusted gross income limits on charitable deductions.
Talk continues about legislation to extend the charitable rollover option available in recent tax years. The charitable rollover allows certain individuals (at least age 70 1/2 ) to make gifts directly to the charity without recognizing the income associated with the distribution. At this time, however, legislation extending this option has yet to be passed. Keep an eye on this, as the option could represent a highly effective and tax-efficient means for older clients with IRA balances to meet charitable goals during their lifetime.
Stock and donor-advised funds