Donor Advised Funds

Securing a tax benefit for making charitable donations used to be a simple task for middle- and upper-income taxpayers who itemized deductions — they simply reported their donations on their “Schedule A, Itemized Deductions”. Often, the main challenge was finding their receipts.
 
The Tax Cuts and Jobs Act of 2017 (TCJA) increased the standard deduction and capped the amount of state and local taxes that could be deducted at $10,000. These changes made the standard deduction greater than itemized deductions for many taxpayers. As a result, the number of households claiming an itemized deduction for their charitable gifts fell significantly.
 
The Coronavirus Aid, Relief, and Economic Security Act of 2020 (CARES Act) provided taxpayers who took the standard deduction the option to deduct $300 of cash contributions on their 2020 Form 1040 return. The CARES Act provided joint filers the option to deduct $600 of cash contributions on their 2021 Form 1040 return. The CARES Act also gave taxpayers who donated cash a significant break by allowing them to deduct up to 100% — rather than 60% — of their AGI for cash contributions to qualified charities in 2020 and 2021. This larger tax benefit for charitable only applied to those taxpayers who itemized their deductions.
 
To increase their itemized deductions to an amount above the standard deduction, many taxpayers implemented a strategy known as “bunching”, in which they concentrate two years of charitable contributions in one year. The taxpayer itemizes deductions in the contribution year and gets an increased deduction for his or her charitable contributions in that year, while taking the higher standard deduction in the year without contributions.
 
However, while wanting the tax benefit of making large contributions in one year, many taxpayers also want to spread out when the charities actually receive their contributions over a longer period. Enter the donor-advised fund (DAF), which have become increasingly popular because they allow taxpayers to achieve both objectives.
 
With a DAF, an account holder can put assets into a fund managed by a professional brokerage or other entity and recommend which organizations they would like to receive the funds. The beauty of the DAF is that a full deduction can be taken in one year, while the contributions may be spaced out over a much longer period.
 
DAFs, unlike charitable remainder trusts or private foundations, require minimal administrative work on the part of the donor and are relatively simple and cheap to establish. DAFs are easily organized, there are no legal fees, and they work for all levels of wealth. As a result, these funds have rapidly become a tax vehicle of choice.
 
DAFs are something a family can do. For example, one client set up a donor-advised fund at a local hospital for people to donate in honor of his deceased wife. DAFs offer donors an opportunity to involve their children in deciding what kinds of causes to support. They are also useful for individuals who have experienced a one-time windfall and want to minimize the tax pain.
 
The minimum dollar threshold to open a DAF can define the choice for some. The minimum to start an account is usually $25,000.
 
While DAFs offer convenience and other advantages, donors have less flexibility and control than they would writing a check. While the brokerages or sponsors typically accommodate recommendations to grant contributions to a certain group, there is no guarantee. Also, DAF participants cannot derive any personal benefit from a grant they request, such as tickets to a charity ball they used to attend.

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