How To Multiply Gifts And Write Offs

You can get major tax benefits by making a charitable contribution now instead of through your will. And you can do that without crimping your standard of living. Even better, with a little creativity, you can leverage that tax deduction into a charitable contribution that far exceeds your cost.

Here’s how it works. You have an investment portfolio that has done well over the years. The portfolio exceeds your needs, and that is why you plan to give part of it to charity. Let’s say you have a $1 million portfolio and plan to leave $100,000 of it to charity.

Instead of leaving that $100,000 in your will, consider using a margin loan from your broker to borrow $100,000 against the portfolio. You can give that $100,000 to the charity today. That gives you a current tax deduction. It also lets you see the money go to work for the charity now. You haven’t sold anything from the portfolio. There are no capital gains taxes to pay, and you benefit from the income and appreciation generated by the total portfolio.

There is interest on the loan. Brokers currently charge from 7% to 10% on margin loans, depending on the broker. Discount and online brokers charge less. Most full service brokers charge 9% to 10%. But you don’t actually have to write checks to pay the interest. Instead, it can accrue as an additional loan against your portfolio. The loan and accumulated interest can be paid by your estate, and they will be deducted from your estate.

These are fairly good results. But several options can make this strategy even better.

You might be concerned that the accumulated interest will reduce the estate left for your heirs. Remember that you get a tax deduction for making the charitable contribution. You can use the tax savings to purchase a life insurance policy payable to your heirs. That should cover all or most of the accumulated interest. To maximize the life insurance benefit, buy a joint policy covering the lives of both you and your spouse. Depending on your age, such policies would pay benefits of five to 10 times your premiums.

Another way to enhance this strategy is to use the $100,000 loan to buy a life insurance policy payable to the charity. Then donate the policy. You’ll make the charitable contribution today, and you’ll get a tax deduction equal to the premiums paid or cash value of the policy if you transfer all interests in the policy to charity.

Buying the life insurance also greatly increases the benefit the charity eventually receives, because the benefit should exceed your premiums. As I said earlier, to really increase the benefit buy a policy covering the joint lives of you and your spouse. It might take the charity longer to get its money, but it will receive much more money than you could have contributed with the insurance. Your $100,000 gift can become $500,000 or more, depending on your age.

To really increase the amount of the gift, buy insurance covering the life of a younger family member. Insure a child or grandchild and the charity might receive 20 times or more your $100,000.

When you don’t want the charity to wait so long, consider a combination of life insurance policies covering different individuals. That way the charity receives the money in stages instead of all at once.

You might be asking: Aren’t margin loans dangerous and risky? Not necessarily. If you use maximum margin and the portfolio is highly volatile, then you could have a problem down the road. But conservatively used margin can be a wealth-enhancing tool.

Most brokers now require you to have about 30% equity in your account. That means the current value of the portfolio minus the loans must be at least 30% of the portfolio value. Under that guideline, you could borrow up to 70% of the account. But if you do that, the first time the portfolio drops you’ll get a margin call.

Suppose instead that you have a $1 million portfolio and borrow $100,000. You’ll have 90% equity, a very comfortable margin. The value of the portfolio would have to drop to about $142,000 before you would get a margin call. We’ll have to face a significant market drop before you would get a margin call.

Keep your margin to 10% to 20% of the portfolio’s initial value, and don’t borrow when valuations are extremely high. Then a margin loan can enhance your wealth.
Without dipping into cash reserves you can get a charitable deduction today. Couple the margin loan with life insurance and you can make a substantial contribution to charity.