Personal Finance

Estate Tax Changes May Crimp Charitable Giving


As nonprofits take in holiday gifts, some worry that one key source of their funding—bequests from estates—could get squeezed. The tax law signed by President Barack Obama on Dec. 17 cuts both the estate tax rate from pre-2010 levels and slashes the number of people subject to it. That makes it far easier for wealthy families to pass on money tax-free to their heirs, which could mean reduced funds for charities. Previously, such groups already enjoyed tax-free gifts.

"On the surface, one would think there will be less charitable contributions," says Chris Roe, senior wealth adviser at Waldron Wealth Management. Despite this, Roe said he believes the wealthy will continue to be generous, echoing the sentiments of several other estate planners and nonprofit experts interviewed by Bloomberg Businessweek.

Any threat to nonprofits' income streams comes at a difficult time. Giving to U.S. charities fell 3.6 percent last year, to $303.8 billion, says the Giving USA Foundation. According to a Nov. 29 study by the Nonprofit Research Collaborative, 37 percent of charities reported a drop in giving in the first nine months of 2010, while 36 percent saw donations rebound. Nonprofits are experiencing "increased demand at the same time that you have all this uncertainty in revenue models," says Dan Moore, vice-president for nonprofit programs at Guidestar, which collects information on nonprofits. He notes that the weak economy and financial markets hurt all three main nonprofit funding sources: governments, foundations, and individuals.

Tough to Predict

Economists who have studied the estate tax issue have come to widely varying conclusions. A 2000 study by David Joulfaian, an expert at the U.S. Treasury Dept., concluded that a repeal of the estate tax would cause a 12 percent drop in charitable bequests, while a 2003 study by the Urban-Brookings Tax Policy Center projected a 22 percent to 37 percent decline. Making such predictions is difficult, and it's complicated by such other factors as the direction of financial markets and the economy's condition. "Overall, estimating the effects of estate taxation is a very humbling experience," Joulfaian wrote in a June 2009 review of the evidence.

The estate tax was repealed entirely in 2010, though it was scheduled to return in 2011 at a rate of 55 percent and an exemption of $1 million. The new law sets the rate at 35 percent, the lowest since 1931, and raises the exemption to $5 million. Because the law also makes it easier for spouses to share exemptions, a married couple would effectively be able to pass on $10 million to heirs tax free. With an exemption of that size, wealthy people have less incentive to donate money to charity to reduce the taxable portion of their estates.

Offsetting the charitable incentive provided by the estate tax is the fact that, at a lower tax rate, wealthy people will now have more money to give away. "If you pay a higher tax, you're poorer and you're less willing to give money," says Roberton Williams, senior fellow at the Urban-Brookings Tax Policy Center, a joint venture by the Urban Institute and the Brookings Institution in Washington. Fundraisers might be able to persuade donors to give even more if they can emphasize the benefits of the new law, says Warren Racusin, head of the trusts and estate practice at the Roseland (N.J.) law firm Lowenstein Sandler. The new tax law "means you can leave [enough] to your family, less to the government, and more to charity over and above that," he says. "If charities approach it that way, they may be pleasantly surprised."

Donations at an Earlier Age

Provisions of the new law could further help charities. The law now makes no distinction between giving while you're alive and giving after death, capping the individual exemption at $5 million for both combined.

That could cause wealthy people to give more of their fortunes away earlier. "If you've got enough money, it makes sense to give away more money while you're alive," Williams says. Donations made earlier in life can be deducted from income taxes while giving charities an immediate boost, he says. Donations early in life may be smaller in size, because they haven't had a chance to be invested and appreciate, but this appreciation would only boost tax bills later, and assets can be invested by beneficiaries, whether a foundation or heirs.

Mark Zuckerberg, the 26-year-old founder of Facebook, pledged on Dec. 8 to give more than half his estimated $6.9 billion fortune to charity, saying he would do so while still young. "People wait until late in their career to give back," he said in a statement. "But why wait when there is so much to be done?" Zuckerberg's promise was part of the Giving Pledge project, in which billionaires pledge the majority of their wealth to charity.

Bequests from estates are a relatively small portion of the donations individuals make to charity, about 7 percent to 8 percent of all charitable giving, says University of Colorado law professor Miranda Fleischer. Plus, many of the recipients of estate bequests aren't cash-strapped human service providers but foundations, wealthy hospitals, cultural institutions, and private schools and colleges—the sorts of organizations that can usually find other ways to raise money. "So even if bequest giving does drop," she says, "it's not as bad as it sounds."

Crosscurrent of Intentions

Many experts and people who work directly with the wealthy insist they don't see them cutting donations because of a drop in the estate tax. "I feel personally that it's almost irrelevant to most donors," says Doug White, professor and academic director at New York University's George H. Heyman Jr. Center for Philanthropy and Fundraising. Waldron's Roe says most of his clients are motivated by helping the mission of their favorite charities.

In a 2009 survey of wealthy households conducted by Bank of America (BAC) and Indiana University and released last month, 9.5 percent of donors said they would reduce estate bequests to charity if the estate tax were eliminated permanently. Another 43 percent said they would boost their giving. One important factor to remember is that, though the estate tax makes gifts to charity go further than those to heirs, it still ends up costing donors money, says Jeff Lydenberg, vice-president for consulting at PG Calc, which provides software and other services to nonprofits.

"Nobody ever got rich giving their money away," he says. Despite tax incentives, "it's a gift."

Steverman is a reporter for Bloomberg News in New York.

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