2021 has been an amazing year for the stock market. As of December 8, Vanguard's Total Stock Market Index (Ticker: VTI) is up over 25.1% for the year. Six companies (Apple, Amazon, Microsoft, Google, Facebook, and Tesla) are now worth over $1 trillion dollars in market capitalization. Newly public companies, like Roblox and Coinbase, trade at valuations of well over $60 billion.
These are eye-popping returns by almost any historical measure. 👀
These stock market returns have benefited employees, venture capitalists, and public market investors. However, these rapid gains have left investors with difficult choices about how to handle the tax implications of this success.
More importantly, while millions of people have benefited from the stupendous rise in stock market valuations, millions more have not. As 2021 winds to a close, many people are looking around and asking, "What can I do to help those less fortunate than myself?"
As it turns out, 2021 is also an amazing year to be generous. Donating highly appreciated stock can not only be a generous act, but it can also be a tremendous tax advantage.
Understanding Capital Gains Taxes on Stock
Like most investments, taxes are only due on stock when you sell your investment. At that point, the IRS looks at your overall gain (or loss) in the investment, net of all investment fees. Taxes on the sale are called "capital gains taxes," and are assessed based on the length of time that you held the investment before selling.
Assessing the length of time is fairly simple: if you hold your stock for less than 365 days, any gain on that investment is considered "short term," and taxed at federal ordinary income tax rates. If you hold your stock for more than a year, then your investment gains qualify as "long term," which in general offers lower tax rates.
The higher the gain, the more capital gains taxes that are owed, and if you've held your stock for less than one year, those taxes can be formidable. Fortunately, there is a reliable way to avoid capital gains taxes: charitable donations.
When it comes to donating assets, the IRS has very different rules for assets that have been held short-term vs. long-term. If you have held an investment for less than a year, then the IRS limits your deduction to the fair market value of the asset minus the capital gain. As a result, your deduction is effectively limited to your purchase price.
In this case, it usually makes sense to just sell the asset and donate the after-tax proceeds rather than donating the asset itself. This is even more true for assets where you have a loss since donating the asset prevents you from taking the capital gains loss on your taxes.
However, when you have an investment with long-term gains, the benefits of donation are significant. When you donate an investment that you have held more than a year to a qualified public charity, the IRS considers the donation value to be the fair market value of the asset at the time. Not the value you paid for it — the current fair market value.
If you itemize your tax deductions, this amount can be substantial. Donations of stock held less than one year (short term) can currently apply towards a maximum of 50% of your adjusted gross income (AGI), with a five-year carryover. For stock held more than one year, the deduction is capped at 30% of your AGI.
Let's look at a plausible recent example, and then ask (ala Marvel) "What If?"
Imagine a couple that makes $250,000 who purchased 500 shares of Apple (Ticker: AAPL) stock in January 2021 for $130 per share, a total purchase of $65,000, and then decided to sell it in February 2022 for $175 per share, or a total of $87,500.
In a state like California, a couple earning $250,000 might be in a 15% federal tax bracket for long-term capital gains in addition to a 9.3% California tax bracket, for a total of 24.3%. As a result, they would owe a total of $5,468 in taxes on a reported gain of $22,500, leaving them with an after-tax gain of $17,032.
Of course, they could lighten this tax bill by donating the proceeds of the sale to charity. Assuming the couple is in the 24% federal tax bracket for income, added to their 9.3% tax rate, their total income tax rate would be 33.3%. With a cash donation of $17,032, they would get a tax reduction of $5,672. By making this generous donation, their net tax impact would be negative $204 (5,468 - 5,672). Not a bad reward for being so generous!
However, if this couple donated their Apple stock directly, the numbers are quite different. Let's look at a scenario where the couple donates 100 shares of the Apple stock to charity.
The couple still has 400 shares of Apple stock to sell, which will net them a gain of $18,000, resulting in a tax bill of $4,374. However, by donating 100 shares of Apple stock to charity, with a fair market value (FMV) of $17,500, would allow the couple to deduct $17,500 off of their income. At a tax rate of 33.3%, that would potentially save them $5,828 in taxes. This benefit completely wipes out the taxes that they owe on the 400 shares of Apple stock they did sell, resulting in a net tax impact of negative $1,454! This is $1,250 more in tax savings compared to just selling the stock and donating the net gain in cash.
The generous couple wins twice because they (1) get a tax deduction for the donation, and (2) they never have to pay capital gains taxes on the appreciation of the shares of Apple stock that they donate.
From a practical standpoint, donating the 100 shares of Apple stock allows the couple to pocket the gain from selling 400 shares tax-free, with an additional $1,250 in tax savings!
But here is the amazing part: the charity wins too! In the first scenario, if the couple donated the after-tax gains to charity, they would have only been able to donate $17,032. However, in the second scenario, the couple donated Apple stock worth $17,500. Since the not-for-profit organization does not have to pay taxes, they get the full benefit of that $468, a 2.7% larger gift.
Give Stock with Daffy
Daffy has a very simple mission to help people be more generous, more often. As a result, we've tried to make it as easy as possible to donate stock:
- In the Daffy app or on daffy.org, just select "Add Funds"
- Select "Stock" and choose which brokerage firm holds your shares.
- Enter a few simple details about your stock, including the number of shares you intend to donate and the ticker symbol of the security. Example: 100 shares of Apple Computer (AAPL)
- Daffy will send you instructions to give to your broker to send the shares.
- Daffy will liquidate your contribution as soon as the shares are received, and then will invest the proceeds in the portfolio of your choice.
Because Daffy Charitable Fund is a 501(c)(3) not-for-profit organization, your stock donation qualifies as a tax-deductible donation in the immediate tax year it is made.
The best part about using Daffy to donate stock is that you no longer have to worry about whether or not your favorite charity supports stock donations. Daffy delivers all donations to charities in cash, so you can choose from any of the over 1.5 million charities on Daffy.
If you are one of the fortunate investors who have benefitted from the amazing rise in the stock market this year, we hope you'll consider giving a little this year to charities in need.
This is a rare opportunity for you to benefit personally and maximize your generosity to charities.
Please note that the information contained on this page is for educational purposes only and should not be considered tax advice. Any calculations are intended to be illustrative and do not reflect all of the potential complexities of individual tax returns. To assess your specific tax situation, please consult with a tax professional.