Using shares of appreciated stock, instead of cash, when making a donation to charity or a gift to friends or family can help reduce taxes paid.
(Please see important disclosures at the end of this post)
First let us look at donating appreciated shares of stock to a charity
This strategy can work well if you are already planning to make a donation to a charity. It takes advantage of the fact that a taxpayer can give away shares without selling them, that charities typically don’t pay capital gains taxes, and that donations of appreciated stock are given full market value as the amount of the deduction. It is also particularly helpful when a highly appreciated stock has become too large as a percentage of a portfolio and would likely have been sold anyway for concentration risk reasons.
Consider the following example:
Assume you have $10,000 in cash and $10,000 of appreciated stock with cost basis of $5,000. You are already planning to make a $10,000 contribution to a charity. Instead of cash, you donate the shares of appreciated stock.
Since the charity does not pay capital gains taxes, it sells the shares of stock and receives the full $10,000 of value. The charity is financially indifferent to receiving cash and receiving shares of appreciated stock.
You as the donor, however, are better off by donating the stock instead of cash.
You get the same $10,000 tax deduction for donating cash and donating stock. This is because you are allowed to deduct the full market value of the stock, not just the net portion that you would have left if you sold the stock yourself and paid the capital gains taxes first.
The benefit to you as the donor is avoiding the long-term capital gains taxes on the $5,000 of unrealized gains in your stock position (which can be as high as 23.8%). You get a $10,000 tax deduction for donating an asset that would be worth less to you if you sold it yourself and owed capital gains taxes.
Now let us look at giving away appreciated shares of stock to family and friends
Some helpful background information on gifts and estate taxes is in the footnotes. You can skip that if you understand the gift tax rules already.
This strategy can work well if you are already planning to make a gift to a family member or friend and that person has lower taxable income than you (preferably if they are in the lowest income tax brackets). It takes advantage of the arbitrage between long term capital gains tax brackets of a higher-income giver and a lower-income recipient. It is also particularly helpful when a highly appreciated stock has become too large as a percentage of a portfolio and would likely have been sold anyway for concentration risk reasons.
You have a highly appreciated stock. If you sell the stock, you would owe capital gains taxes on the sale. Instead, you give the shares away to someone else. They get the shares from you with your existing cost basis. When they sell the shares for cash, they owe the capital gains taxes on the sale. Capital gains taxes are not the same for everyone. People with lower incomes pay lower tax rates on capital gains (as low as 0%). So giving away appreciated shares to someone in a lower capital gains tax bracket can reduce the overall taxes paid on the sale of the investment.
Here is an example of how this could play out in a real situation:
Assume a mother wants to give her daughter, who is out of work and making no income, $15,000 to help with her living expenses. Instead of giving cash, the mother gives her daughter $15,000 of highly appreciated stock with a cost basis of $5,000. Importantly, the daughter must assume the mother’s cost basis of the shares. The daughter can immediately sell the shares and generate $15,000 in cash and a $10,000 realized long term capital gain that must be reported on the daughter’s taxes. Because she has no other income, the daughter falls into the 0% capital gains tax bracket and will get to keep the full $15,000 with no taxes due. The mother reports nothing on her tax return related to the gift or the sale of stock, she simply doesn’t have the shares in her account anymore. Had the mother, who earns a high income, elected to sell the shares herself during her lifetime, she would have owed the long-term capital gains taxes herself (which could be as high as 23.8%).
So, by gifting shares of stock instead of cash, the mother can reduce the embedded capital gains tax liability of her own portfolio while still providing her daughter with $15,000 of support.
Footnotes:
Usually, a gift of any kind to family and friends is not tax deductible for you as the giver. Additionally, the recipient of the gift is not likely to have to pay income taxes on the amount received. Note that there is such a thing as the Gift Tax that applies in certain situations and is closely related to the Estate Tax. The Gift Tax only kicks in after someone has given away (including via their estate) an amount greater than the lifetime exemption amount of $11.58 million (that limit is as of 2020 and is per person, so a married couple is effectively double that amount).
Individuals are permitted to give up to $15,000 per calendar year to any other individual without having to report it to the IRS (the “annual exclusion amount” as of 2021). There is no limit on how many people to which you can give $15,000 per year. For any amount over $15,000 per year to one person it must be reported to the IRS, and the amount of the overage will reduce your lifetime exemption amount of $11.58 million. So, while gifting more than $15,000 to one person will trigger some paperwork on your tax return, it will not trigger any taxes due until you have exhausted your lifetime exemption amount. Importantly, these rules are all based on each individual, so a married couple can technically gift $60,000 per year to their married son and his spouse without exceeding the annual exclusion amount (4 gifts of $15,000: dad to son, dad to spouse, mom to son, mom to spouse).
Important Disclosures:
The Representatives and Advisors at Bainbridge Financial Services are not accountants/tax professionals and do not advise on tax strategies. For additional information and to find out if any of this information or mentioned tax strategies is right for you, please consult your own tax professional.
Securities offered through Bolton Global Capital, Inc., 579 Main St., Bolton, MA. Member FINRA, SIPC 978-779-5361. Advisory services offered through Bolton Global Asset Management, a SEC registered investment advisor. Please see www.boltonglobal.com/disclosure for additional disclosures.
Enter your email address to access full report.