Oh, what a year it has been! Since the market’s low point on March 23, 2020 through March 16, 2021, the S&P 500 (U.S. large companies) is up 80% and the Russell 2000 (small-to mid-sized U.S. companies) is up 134%¹.

With that strong performance in stocks, you may need to rebalance your portfolio, reducing positions in stocks that have done well and buying other asset classes to maintain your target asset allocation. While rebalancing to manage risk is a critical investment discipline, the downside of selling strong performing stocks is that you could end up with a capital gains tax bill.

If you’re charitably inclined, now is an especially good time to donate appreciated stock. Gifting appreciated stock is not only a beneficial way to avoid a hefty capital gain tax, but it can also be very fulfilling to give to a charitable organization. As long as you’ve held the stock for more than a year, you can get a quadruple benefit from the gift by donating the stock to a qualified 501(c)(3) charity instead of selling it:

1. Get a tax deduction for the fair market value of the stock. Note: you do have to itemize deductions to receive this benefit.
2. Avoid paying capital gains tax.
3. Rebalance your portfolio to trim highly appreciated positions.
4. Help others by donating to those in need.

As noted, there are many tax incentives for charitable giving. Here’s a hypothetical example:

Let’s say that Sarah bought $10,000 of Amazon stock in January of 2020. A year later, the stock’s current value is $16,110. If she sells the stock, she will have $6,110 in capital gains.

Sarah loves supporting her local food bank. She decides to donate the stock to the food bank instead.  In return, she:

1. Gets a tax deduction for $16,110.
2. Avoids paying tax on $6,110 in capital gains.
3. Trims back on the Amazon position in her portfolio, rebalancing closer to her target asset allocation.
4. Helps the food bank serve even more people.

What would have happened if Sarah had decided instead to sell the stock and donate the net proceeds? Let’s assume she pays the highest federal capital gains tax rate of 23.8% and itemizes deductions.

Stock Sale:            $16,110

– Purchase Price:  $10,000

Capital gains:         $ 6,110

Tax on Capital Gains = 23.8% x $6,110 = $1,454

Net cash amount available to donate = ($16,110 – $1,454) = $14,656

In addition to paying the $1,454 in capital gains tax if she were to sell the stock and donate the proceeds, Sarah would also get a lower itemized deduction, leading to a higher tax bill. If we assume Sarah is paying taxes at the highest marginal federal tax rate of 37%, then her itemized deduction would save her 37% x $14,656 = $5,423 in taxes. On an overall basis, Sarah would receive a net tax benefit of $3,969 if she sold the Amazon shares and donated the net proceeds after paying capital gains tax ($5,423 itemized deduction less capital gains tax of $1,454). Contrast that with the 37% x $16,110 = $5,961 in tax savings if she donates the stock directly, a 50% increase in her tax benefit by donating the shares directly.

In either case, she doesn’t own $16,110 of Amazon stock anymore. Donating the shares directly to charity allows the charity to receive a larger gift and saves Sarah taxes at the same time! Depending on the income tax laws in her state, Sarah may also receive an even greater benefit for her appreciated stock donation.

If you’d like more detail about donating appreciated stock, please see our explainer video.

What if you would like to donate your stock but aren’t yet sure what charity you’d like to support? When it comes to gifting stock, you should also consider using a Donor Advised Fund (DAF).

When you gift appreciated stock to a DAF, you get a tax deduction at the time of your gift, and you still avoid paying capital gains taxes. The funds are invested and potentially grow over time. You serve as a grantmaker, selecting charities to receive the funds over time. For more information, please see our short explainer video that answers several questions, including “how do donor advised funds work?”

If you’d like help with your charitable giving strategies, tax-smart ways to rebalance your portfolio, or other financial questions, please contact us to speak with an experienced D&Y financial advisor.

 

1 – https://www.bloomberg.com/

This material is presented for informational purposes only and should not be construed as individual legal, tax or financial advice. When considering gift planning strategies, the donor should always consult with donor’s own legal, tax and financial advisors. Indices such as the S&P 500 and Russell 2000 cannot be directly invested and performance does not reflect management of an actual portfolio, fees and expenses, and other factors which contribute to performance of an investment portfolio. Past performance does not indicate future results.