I have a couple questions about donating stock to charity in the U.S. Particularly I’m wondering about the case where someone has cash available to make a donation, but they want to instead donate an equivalent amount of appreciated stock and invest the cash in the same stock. This would decrease the cost basis of their stock, reducing the amount of tax owed when selling shares of the stock in the future.
When is the best time to invest the cash: as you receive the money, right before you donate, or after any restricted period after you donate (some funds impose a waiting period to buy back the stock if you have recently sold shares)?
If the stock only has a small long-term capital gain, is there any advantage to donating cash this year and waiting to donate stock until the gain has increased?
I don’t know much about taxes—can you explain why this would help? I might want to do it myself :)
Currently though, it seems like you would pay the same amount of taxes in either case. Let’s take a small example—suppose you invested $75 two years ago, which is now worth $100. And let’s suppose it would be $125 in another two years, at which point you would sell it all.
Now currently you have to decide whether to donate $100 in cash, or to sell the $100 of stock and reinvest the $100 of cash into the stock. (I’ve heard of some law that prohibits you from re-buying the exact same stock, to avoid gaming the tax laws, but let’s ignore that for now—in any case, you could buy a different but similar stock.)
If you donate the $100 in cash, then:
You get a deduction of $100 on your taxes this year because of your donation
When you sell the $125 in two years, you realize a long-term gain of $50, which you pay taxes on
If you sell the $100 of stocks and reinvest the $100 in cash, then:
You get a deduction of $100 on your taxes this year because of your donation
You realize a long-term gain of $25 this year, which you pay taxes on
When you sell the $125 in two years, you realize a long-term gain of $25, which you pay taxes on
In both cases, you get a deduction of $100 this year, and you pay long-term capital gains taxes on $50 (albeit at different times). So unless you expect that your tax rate will be a lot higher in two years, it doesn’t seem like this is really helping.
In fact, since you sold and re-bought your stocks, you’ve reset the buy date, and now it’s possible that any gains you make will be short-term capital gains (if you sell the stock within a year), which would then be taxed at a higher rate.
If you donate the stock directly to a charity without selling it first, you don’t pay taxes on long-term gains. In your example, if you donate $100 of stocks and reinvest the $100 in cash, then you don’t pay taxes on the $25 capital gain. When you sell the $125 in two years, you pay taxes on a long-term capital gain of $25, compared to the gain of $50 if you donated the $100 in cash instead.
You’re right that you could end up paying more in taxes if you sold the stocks less than a year after reinvesting. Another caveat is that you can only deduct donations of stock up to 30% of adjusted gross income, unlike 50% for cash donations.
I have a couple questions about donating stock to charity in the U.S. Particularly I’m wondering about the case where someone has cash available to make a donation, but they want to instead donate an equivalent amount of appreciated stock and invest the cash in the same stock. This would decrease the cost basis of their stock, reducing the amount of tax owed when selling shares of the stock in the future.
When is the best time to invest the cash: as you receive the money, right before you donate, or after any restricted period after you donate (some funds impose a waiting period to buy back the stock if you have recently sold shares)?
If the stock only has a small long-term capital gain, is there any advantage to donating cash this year and waiting to donate stock until the gain has increased?
I don’t know much about taxes—can you explain why this would help? I might want to do it myself :)
Currently though, it seems like you would pay the same amount of taxes in either case. Let’s take a small example—suppose you invested $75 two years ago, which is now worth $100. And let’s suppose it would be $125 in another two years, at which point you would sell it all.
Now currently you have to decide whether to donate $100 in cash, or to sell the $100 of stock and reinvest the $100 of cash into the stock. (I’ve heard of some law that prohibits you from re-buying the exact same stock, to avoid gaming the tax laws, but let’s ignore that for now—in any case, you could buy a different but similar stock.)
If you donate the $100 in cash, then:
You get a deduction of $100 on your taxes this year because of your donation
When you sell the $125 in two years, you realize a long-term gain of $50, which you pay taxes on
If you sell the $100 of stocks and reinvest the $100 in cash, then:
You get a deduction of $100 on your taxes this year because of your donation
You realize a long-term gain of $25 this year, which you pay taxes on
When you sell the $125 in two years, you realize a long-term gain of $25, which you pay taxes on
In both cases, you get a deduction of $100 this year, and you pay long-term capital gains taxes on $50 (albeit at different times). So unless you expect that your tax rate will be a lot higher in two years, it doesn’t seem like this is really helping.
In fact, since you sold and re-bought your stocks, you’ve reset the buy date, and now it’s possible that any gains you make will be short-term capital gains (if you sell the stock within a year), which would then be taxed at a higher rate.
If you donate the stock directly to a charity without selling it first, you don’t pay taxes on long-term gains. In your example, if you donate $100 of stocks and reinvest the $100 in cash, then you don’t pay taxes on the $25 capital gain. When you sell the $125 in two years, you pay taxes on a long-term capital gain of $25, compared to the gain of $50 if you donated the $100 in cash instead.
Here’s an article that describes this in more detail: http://www.fivecentnickel.com/2010/04/30/reset-your-investment-cost-basis-with-charitable-donations/ It also mentions the wash sale rule, which might be the law that you were thinking of. That rule only applies if you sell assets at a loss, so it wouldn’t come into play here.
You’re right that you could end up paying more in taxes if you sold the stocks less than a year after reinvesting. Another caveat is that you can only deduct donations of stock up to 30% of adjusted gross income, unlike 50% for cash donations.