'Tis the season of giving, which got us thinking about how and when businesses make charitable contributions. Business owners we work with often want to use a portion of the proceeds from selling their company for one or more sizable donations to nonprofit organizations. Many owners see this as a way to give back to the community that supported the company and helped it grow.
In addition, the deduction from a charitable donation can help offset or avoid capital gains tax on the proceeds of the sale. Making a charitable donation in conjunction with selling a business can be done in several ways. Selecting the best option depends on the individual circumstances of the owner and the ability of the charity to accept certain types of donations.
The need for owners to consider charitable strategies in conjunction with a sale has never been greater. The Tax Cut and Jobs Act of 2017 effectively eliminated the tax benefits of charitable donations for more Americans by doubling the standard deduction. The number of tax payers who itemize deductions is expected to drop from 30 million to just 5 million. The National Council of Nonprofits estimates the tax law change will cost U.S. charities $13 billion annually in lost donations.
Assets such as company stock and real estate, regardless of the amount, can be transferred to a charity outright without incurring gift tax. The charity is not required to pay tax on any unrealized capital gains from the date the donor purchased the asset. Gifts of stock, property or assets other than cash worth over $5,000 require a qualified appraisal. So a business owner can gift shares of her company to a charity, pay no capital gains tax and claim a charitable deduction.
Another option for business owners is a charitable trust. The most common are charitable lead trusts and charitable remainder trusts. If the owner or her family members need an income stream, a charitable remainder trust allows ownership of non-income-producing business assets to be transferred to the trust. The trust can then sell the asset, paying no capital gains tax. The trust invests proceeds from the sale and pays the owner or other individuals a regular stipend. The term of the stipend payments may be for a specific period or a lifetime. At the end of the term, the remaining assets go to the charity designated by the business owner.
A charitable lead trust gets its funding the same as a charitable remainder trust: the owner transfers assets to the trust, which sells the assets, pays no capital gains tax, and invests the proceeds. During the term of the trust, it makes payments to charities designated by the business owner. At the end of the term, the remaining assets go to noncharitable beneficiaries, often the owner's family members.
Most charities can handle cash and stock donations, but not every charity has the ability to handle more complex gifts. A donor-advised fund allows a business owner to transfer cash, stocks, real estate, shares of privately held companies and other assets to an account at a public charity or community foundation. The donor gets the tax deduction in the year the asset is transferred but doesn't need to immediately designate a charity to receive the asset. The assets can continue to grow in value until the owner decides which charity to give to. The administering charity does due diligence when you make grants to nonprofits from the fund to ensure the receiving organization qualifies as an IRS public charity.
The rules and timing for charitable gifts related to a sale require preparation and planning before the owner(s) sign a legally binding sale agreement. Because deals can change or even fall apart in the eleventh hour, the uncertainty translates into a discount on the ultimate transaction price. The IRS does not require a valuation of the gifted company shares at the time the shares are transferred to the charity, charitable trust or donor-advised fund, but the valuation cannot be obtained more than 60 days before the gift.
Selecting the charitable giving strategy that works best for a business owner requires careful coordination among the investment bank, attorneys, CPAs and other advisors involved in a company sale. Bridgepoint Investment Bank has the experience and relationships to help owners ensure the sale of a business and a related charitable donation provide the greatest tax and asset benefit for the company, the owner and the charity. Call us to learn more.