Charitable gift annuities: Combining retirement income & philanthropy

If you're looking for ways to help your favorite charities, charitable gift annuities may be a great choice. While cash donations always are appreciated, this type of gift allows you to make a difference while also reaping benefits for yourself and your loved ones.

Let's explore some of the opportunities, such as how this approach can provide retirement income and other charitable gift annuity examples. You may find you can satisfy seemingly diverse goals, such as giving to important causes while setting yourself up for lifetime income.

Charitable gift annuities are arrangements that involve giving assets to charity in exchange for a stream of income payments. Think of it as a way to give and receive at the same time, recognizing your need for retirement income as well as your desire to contribute to the greater good.

You may give cash, stocks or mutual funds to a charity you value, and in return, you receive a lifelong stream of income as those assets are invested and potentially grow over time. The annuity component ensures you have some predictable income while you enjoy your retirement years.

When you pass away, the charity receives any remaining assets, which can be used to fund the charity's mission. If you're someone who feels particularly connected to or engaged in a specific cause, it may bring comfort to know your legacy will live on in the form of financial support for that cause.

Charitable gift annuities come in different variations, and you can add complexity or customize the strategy to the extent allowed by law.

You can establish charitable gift annuities with cash, publicly traded securities or mutual funds. Then you receive payments for the rest of your life. After the death of all named income recipients, the remaining funds go to charity via a donor-advised fund, which can make ongoing payments to the charity. This short video goes through how both you and your chosen charity can benefit from this kind of investing:

The amount you receive depends primarily on the size of your gift and your age. The older you are, the larger the payments may be (because you have a shorter life expectancy and fewer expected payments). You also can defer payments, having them begin later in life, which may result in bigger payments. But even if you wait to take income, you could be eligible for an immediate tax deduction.

Payments are fixed—they do not change based on investment performance—so it's easy to budget for the future. And you can link the payments to more than one person's lifetime, providing income for you and your spouse, for example.

Ann, a 77-year-old woman who loves animals, decides to cash in a maturing certificate of deposit. She establishes a charitable gift annuity of $25,000. Given her age and other factors, the payout she receives might be 7.4% of the amount she funded the arrangement with—or $1,850 per year for life. Roughly $1,256 of the amount will be tax-free during her life expectancy, although the entire amount could become taxable if she outlives her life expectancy. She also would qualify for a tax deduction of $11,058 in the year she establishes the annuity.

After Ann's death, the balance of the invested funds will go to her favorite qualifying charities.

In general, portions of your income from charitable gift annuities will be taxed at the federal and state levels, although this may depend on what state you live in. However, certain benefits still can be valuable for your tax optimization strategy.

When you establish this type of annuity, you may qualify for an immediate tax deduction for charitable giving. If you can't take full advantage of the deduction in the year you give, you may be able to carry the deduction forward for five years. It's important to note, though, you generally aren't allowed to deduct the full amount you give from your federal taxes. Depending on your state, you may or may not be able to deduct a portion of your income on your state taxes.

In addition to offering a potential deduction, this type of annuity might help you manage capital gains taxes. If you own investments that have gained substantial value, you can give those holdings in-kind instead of donating cash. That way, you avoid selling for a gain.

You might have to pay some capital gains taxes on the annuity payments you receive, but you can potentially spread out those tax costs over numerous years. A portion of each payment you receive is typically a tax-free return of principal, while the remainder might be taxable.

Of course, you always can give appreciated securities directly to a charity without using a gift annuity. Doing so could offer a bigger deduction, but you wouldn't receive the lifetime income that comes with the charitable annuity.

As you might expect, the nuts and bolts of calculating your annuity payment are complex. When you set up your annuity, the payment will be calculated based on the value of your assets, your age and the expected returns on those investments. You will receive a fixed payment for the rest of your life. That standard payment can be very comforting when other invested assets fluctuate.

Leave a legacy with a donor-advised fund

Donor-advised funds are popular accounts designed for charitable giving. They may help simplify your giving while providing flexibility in supporting the charities and causes you cherish.

Learn more about how they work

Aside from the good feelings of giving, charitable gift annuities offer other benefits:

• Supporting a charity in this way can be part of your tax and estate strategy. You can reap benefits on your taxes now without depriving yourself of income in retirement.

• In addition to offering a potential deduction, charitable gift annuities might help you manage capital gains taxes. If you own investments that have gained substantial value, you can give those holdings in-kind and avoid selling for gain.

• Charitable gift annuities potentially can simplify your estate. When you establish and fund a gift annuity, those assets no longer are part of your estate. As a result, you may be able to reduce or avoid estate taxes. Plus, in some cases, assets that are not part of your probate estate can lead to lower probate costs.

While charitable gift annuities offer many potential benefits, also consider their potential drawbacks.

• You lose liquidity when you fund a gift annuity, which could be problematic if you need cash in the future.

• If you pass away shortly after starting the annuity, you won't receive a meaningful amount in payments (but more will be left to charity).

• A standard lifetime annuity might offer higher income payments, although those arrangements lack the charitable giving component.

• You generally need to itemize deductions to take advantage of charitable giving deductions.

• Payments are not guaranteed by any government agency, but by the financial institution you choose. Choose carefully and consider favoring well-established organizations as you evaluate your options.

If you're considering both charitable gift annuities and charitable trusts, there are some key differences that you will want to consider.

A charitable trust requires a trustee to be appointed to manage the administration and investments of the trust. Trusts come in different varieties, too, including a charitable remainder annuity trust and charitable remainder unitrusts. Some charitable remainder trusts also can accept other types of gifts, such as real estate, whereas gift annuities typically are limited to gifts of cash and securities. Upon your passing, the remaining assets in the trust will be directed to the charity of your choice, although you usually can change this beneficiary.

On the other hand, charitable gift annuities are often agreements between a particular charitable organization and the donor. While there may be other differences, a big one is that charitable gift annuities often require less administrative work and management, and they have a fixed return, while not every trust has the structure of fixed payments.

Other differences include the fact that a charitable trust requires a legal trust agreement, while a charitable gift annuity can be a simpler process to set up. It doesn't require a trustee or trust agreement. While some of the rules governing both trusts and charitable gift annuities vary from state to state, a financial advisor can help you understand whether a charitable gift annuity or a charitable trust would better serve the goals you have for your charitable giving.