Charitable Giving Strategies

Giving Smarter: The Complex Asset Donation

Zacc Call

Giving Smarter: The Complex Asset Donation

There have only been a few days in my career that I can say I have saved someone between $100,000 and $1 million in taxes in just one day. It has been through using a donor advised fund (DAF) on the day of the sale of their company to complete a complex asset donation.

A DAF is a charitable account into which you may deposit assets and get a tax deduction. You may invest the charitably earmarked assets and later make grants to your favorite charities.

The complex asset donation has been one of the most unique activities in which I have been involved over the years. With the right tools and advisors the process doesn’t have to be so complex and it may save charitable business owners enormous amounts of tax dollars. This article is for business owners and is also part of a “Giving Smarter” series on Any charitably minded individual should read the rest of the “Giving Smarter” articles.

Setting the stage for the business owner

You have poured everything into a business and created real wealth in the value of this entity. You probably don’t feel wealthy yet because your net worth is tied up in the business equity. You are considering selling all or a part of your business. You learn you will pay a massive portion of the sale in federal taxes and possibly some state tax. It would be easiest to describe the benefit of a complex asset donation and the process through a true story (using fictitious names):

When your truck is stuck in the mud, your heavy machinery isn’t working, or you need someone who won’t sugarcoat it, you want to talk to Jeff and Greg. These business partners would do anything for anyone. Their hard work positioned them each as 50 percent owners of a $6 million storage company. Jeff and Greg are tithe payers, meaning they pay 10 percent of their increase to their church. They were facing a $6 million capital gain. The highest federal long-term capital gain rate is 23.8 percent with a 5 percent state tax. The tax bill would be approximately $1,728,000. They had anticipated paying $600,000 in tithing to their church (10 percent of $6 million).

Sell-then-donate scenario:

They sell the business and give their church cash.

For doing the donation of $600,000, the tax benefit would be $172,800 (28.8 percent of $600,000).

Can we do this in another way that would make the final proceeds number more than $3,844,800? Absolutely. You flip the order of events. Donate the asset before you sell.

For Jeff and Greg, this was simpler than they realized. They asked me how they would come up with $600,000 cash to donate prior to selling the company. Yet, there was no need for that liquidity yet. All we did was bring on another partner. They changed their equity allocations from 50 percent each to 45 percent each and introduced a DAF as a 10 percent owner.

There was a fair amount of due diligence involved, however, the gift was as simple as a few pages that said they had assigned 10 percent of the company ownership to a third partner, a DAF.

Having given 10 percent away, Jeff and Greg will only experience 90 percent of the gain ($5.4 million instead of $6 million. The DAF experienced the rest. Given the 501(c)3 charitable status of the DAF, the DAF does not pay capital gain tax on the sale. It is important to note that the DAF may be subject to unrelated business taxable income (UBTI or UBIT) on a portion and there is something called hot assets to consider. UBTI is typically much less than your tax rate on these large donations so it is still worth the transaction. If you’ll let me ignore hot assets and UBTI, let’s run through the math on the donate-then-sell scenario.

Donate-then-sell scenario:

They give 10 percent of the business before selling. All the numbers from the previous example stay the same, however, you no longer pay the 28.8 percent capital gain tax on the $600,000 of equity given prior to the sale. That portion of the gain is experienced by the third partner, the DAF.

The tax savings (28.8 percent of the $600,000 gain) are experienced by the DAF instead of Jeff and Greg. The taxes saved are $172,800. There may be some costs involved in the transaction depending on the DAF you use. If they are not cutting too much in to the $172,800 savings, this is well worth your while.

Keep in mind that Jeff and Greg still get to claim the $600,000 donation as a tax deduction. They are saving $172,800 in taxes as a charitable deduction and another $172,800 through not experiencing a 10 percent of the gain in the first place. It doubles the tax savings already available for donating to a charity.

Jeff and Greg each ended up with a little under $300,000 in a donor advised fund. They have options to give from their DAF account to the church right away or at a later date. If they choose to leave it in the DAF, they can invest in the meantime, allowing the potential to give more at a later date.

I was involved in a very similar transaction for another group of business owners who sold a business for $100,000,000. They were also 10 percent tithe payers. These tax savings are proportionate. Instead of giving $600,000, they were donating $10,000,000 for tithing. You can see how the tax savings can greatly surpass $1,000,000 in a day if done right.

If you are considering selling your business and you are a charitably inclined, there are some steps to take prior to selling. In fact, if you push this decision and gift too close to the closing day, the IRS will deem it an assignment of income. I have yet to run in to this problem, but the key is to talk to professionals early. I am happy to run through these numbers with you by phone and determine if it could make sense for you. If it does, I’ll give you a few contacts that have been instrumental in pushing these transactions through.

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