Astute financial advisers can minimise the effective after-tax cost of client donations to charities, writes Simon Mumme.
Like investors realising or transferring capital, strategic givers should consider tax efficiency when channelling funds to philanthropic causes.
Methods to minimise the effective after tax cost of donations are available to financial advisers, says John King, lawyer with Mallesons Stephen Jaques in Sydney.
Focussing on income tax, King says the relevant legislation and related materials are spread between divisions 30 and 50 of the Income Tax Assessment Act 1997, the first schedule of the Tax Administration Act and a variety of government websites dealing with Australian Business Numbers, charities and non-profit organisations.
The Australian Tax Office (ATO) has published four guides on the ways that tax concessions apply to charities, non-profits and donors. Together, these “basic” guides constitute more than 300 pages, King says. There are also hundreds of pages of related rulings, determinations and interpretative decisions.
King conveyed some key findings from these pages in a compact presentation delivered during a monthly meeting of financial advisers, estate planning and social sector professionals involved in strategic giving. The taxation provisions for donors are extremely complex, presenting another area in which financial planners can offer skilled advice.
Tax-deductible donations can be made through alternative gifting methods, such as prescribed private funds (PPFs), public charitable trusts and community foundations, if these vehicles are registered as deductible gift recipients (DGR).
But there are means of further making genuine philanthropic gifts attractive to potential donors, by lowering the effective after tax cost of making donations.
Specifically, a tax-deductible gift of cash can be attractive if the donor receives franked dividends or, as a shareholder or through another channel, such as a family trust, is entitled to receive fully franked dividends from a company with substantial retained earnings.
This same technique of making a cash gift can be used to clear retained earnings out of companies and to get rid of nuisance Division 7A loans, with minimum pain for the donor.
Alternatively, by giving the whole of the fully franked dividend, a donor can receive a cash refund of the franking credit attached to the dividend.
Both methods are more tax-efficient than if the relevant dividend paying companies, rather than individuals, made the donations.
Even better results can be attained through navigating the taxation fine print. When a donor sells an asset, such as shares or property, the resulting profits may qualify for capital gains tax (CGT) discounts, thereby reducing the tax rate by half, to 23.25 per cent. Donations of cash from these profits is even more attractive to potential donors, King says.
Moreover, this attractiveness is boosted if the profit satisfies the small business CGT concession, cutting tax to zero. However donors need to be mindful of the CGT timing rules, which can undo a giving strategy.
King supplies a hypothetical case study: in June 2007, a donor agreed to sell a parcel of shares in a company for settlement three months later, in September, and aimed to use all or part of the proceeds as a tax-deductible donation before the end of June 2008. Since the capital gain arose when the contract was made – before the financial year ending June 30 2007 – the proposed gift would be unable to reduce the tax payable on the capital gain.
In such a scenario, the contract should have been delayed until after June 30 2007. If for commercial reasons this was undesirable for the donor, the transaction should have been made through at risk put and call options that could only have been exercised in the next financial year, King says.
“If an option is exercised, the relevant date of the contract is the date at which the option is exercised, not the date when the option is entered into.”
But these options must be irrevocable offers, not conditional contracts, he adds.
King’s ultimate advice on tax-efficient giving is: “Don’t wait till it’s too late!”
Excluding a few situations, such as cultural bequests, testamentary gifts do not usually allow tax deductions. “Gifts to charities or other DGRs under a will are extraordinarily inefficient from a tax point of view.”
“Potential donors must be encouraged to make gifts while they are alive and in good health.”
Canvassing other issues for donors, the lawyer notes that, for donations to projects and organisations outside Australia, tax concessions will only be allowed if the recipients are registered developing country relief funds and developed country disaster relief funds.
“Necessitous circumstances” funds can also assist families of some people who have been severely disabled by accidents, such as sporting injuries.
