Planned Giving, Part 2 By DEWAYNE OSBORN, CGA, CFP Introduction Gifts by will Outright gifts for individual donors Gifts using insurance products including annuities Conclusion This article is the second in a three-part series by Mr. Osborn on the subject of Planned Giving to be carried on PD Net. Introduction Part 1 of this series presented a broad perspective of planned giving in Canada. It looked at the types of charities in Canada, the regulatory environment, how to claim charitable contributions, and a brief introduction to the more common planned gift strategies. In this part, three of the major gift strategies gifts by will, outright gifts by individuals, and gifts using insurance products are discussed in more detail from the perspective of the donor, the charity, and the donor s advisor. Each strategy is subdivided into the following sections: How the strategy works Tax implications for donors Regulatory and other issues for the charity Issues for the advisor Examples Part 3 of this article will discuss gifts using trusts. It will also present proposed legislation including sanctions and other enforcement tools, as well as disturbing trends in the regulatory environment that will affect donors, advisors, and charities. For the purposes of this article, only individual donors are considered. Gifts by will How the strategy works These gifts, called bequests, are made exclusively through a donor s last will and testament. In the will, the donor describes his or her charitable intent and the executor of the estate distributes property to the charity in accordance with that written direction. Pursuant to The Income Tax Act of Canada (ITA) Section 118.1 (5), a gift by will is deemed made immediately before the individual s death. The resulting tax receipt can be used on the donor s final tax return. The actual wording of the bequest can be very simple or quite complex. Generally speaking, bequests can take one of five forms: A general bequest is usually for a certain amount for the charity s general use. For example: I give $100,000 cash to ABC charity for its charitable activities. A restricted bequest is similar to the general one except that the funds are to be used for specific purposes. For example: I give $10,000 for arthritis research at ABC charity.
A specific bequest gifts a stated amount of cash or property (e.g., 500 shares of ABC Corp.) to the charity. An important point to note is that specific bequests are paid before residual ones. Therefore, provided the property is still in the estate, it is more likely that the charity will receive a specific bequest over a residual one. The risk for the charity is that the donor will sell or otherwise dispose of the property and not update his or her will. A residual bequest is a gift of a portion or all of whatever is left in the estate after taxes, debts, burial, and the other specific bequests have been distributed. For example: I give 10% of the residue of my estate to ABC charity. A contingent bequest will result in a gift to a charity only if a certain event(s) occurs. For example: In the event that my wife does not survive me, I give $25,000 to ABC charity. More recently, donors have begun to limit their bequests by using prescribed percentages combined with a maximum dollar amount. For example: I leave 30% of the residue of my estate to ABC charity to a maximum of $50,000. Any remainder is to be distributed. Furthermore, donors can make charitable gifts using testamentary trusts that were created in the will. The key here is to ensure that the tax receipt follows the tax. This issue will be discussed in more detail in the Gifts using trusts section in Part 3 of this series. Tax implications for the donor Theoretically quite straightforward, the charity issues a tax receipt for the fair market value of the property. If the bequest is a non-cash property worth over $1,000, an independent, expert valuation of the fair market value must be obtained to support the tax receipt. Once the bequeathed property is received by the charity, the resulting tax receipt can be used on the deceased s final tax return. The donor can claim the gift to a maximum of 100% of his or her net income in the year of death and pursuant to ITA 118.1 (4). Any donation excess can be carried back one year to the same 100% of net income limit provided the donor has the contribution room on that tax return. For more information, see the example at the end of the Gifts by will section. Note that if the donor can carry back some of the donation to the previous year, a refund may be generated that will increase the cash available to be distributed through the estate. Regulatory and other issues for the charity In terms of regulatory issues, bequests are exempt from inclusion in the 80% portion of the charity s disbursement quota. They are therefore excellent gifts for building endowment funds 1. Given that bequests gifts are such good endowment builders, in situations where a charitable organization has a public foundation associated with it, then the bequest should go to the foundation. Why? While there are prescribed limits as to how much money a charitable organization can give to another charity, there are none for a public foundation because it is designed to do its charitable work primarily through other charities. As mentioned previously, another significant regulatory issue is the valuation of the receipt. For non-cash gifts in excess of $1,000, a qualified, independent assessment is required to verify the fair market value tax receipt. If no assessment is possible, then no tax receipt can be issued. The nature of the property included in the estate can be an issue for the charity. For example, it is not uncommon for charities to not accept property such as real property or private company shares. Therefore, if the bequest includes property the charity is not willing to accept, then a gift has not been made and no tax receipt can be issued. 1 Endowment funds are invested property where the capital is not encroached upon and only the income is used by the charity. Planned Giving, Part 2 2
Issues for the advisor A relatively new phenomenon is for donors to ask the charity to perform the role of executor for their estates. These are situations where such a request may be made: The donor has no children or close family. A majority or all of the estate is going to the charity anyway. The donor does not wish to spend money on trust services. A related factor is that the estate is not large enough to meet the minimums of major trust companies. The donor truly looks upon the charity as family. A combination of some or all of the above. The charity s typical reaction when asked to be the executor is to say no, which may not be the right answer. Regardless of the charity s position on such a request, the charity s policies and procedures should address this issue. When the gift is cash or marketable securities, there are few issues for the advisor. However, as mentioned previously, when working with a client that is contemplating making a gift of non-cash property, a vital role for the advisor is to ensure that the charity will accept the gift. Another key issue with complicated bequests is to ensure that the tax receipt follows the taxable income. For example, bequests that give too much discretion to the executor with regard to choosing the amount or the recipient charity may negate the gift being from the deceased, where all the taxable income resides. Therefore, you have a taxable event to the deceased, and yet the tax credit is denied or flows to the estate that may not have the income to fully utilize the tax credit. The next section will illustrate this issue with an example. Examples of bequests Application of 118.1 (4) Bob died in 2003. He had made no charitable contributions in that year. Bob s net income was determined to be $100,000 in 2003 and $50,000 in 2002. He claimed $10,000 in charitable gifts in 2002, and he had no charitable contribution carry forwards from the past. Bob left a cash bequest to his church of $125,000. In 2003, his tax preparer can claim $100,000 in 2003, and carry back the remaining $25,000 to his previous tax return. The maximum amount that can be carried back to 2002 is $40,000, which is the $50,000 limit less the $10,000 already claimed. Tax receipt not following income Using the same example, suppose Bob left a bequest stating: My brother (the executor) can determine which charities need my support. The maximum amount I want to contribute is $125,000. It is quite possible that the Canada Revenue Agency would deem that this gift actually came from the estate and not Bob because the decisions were made from the executor and not Bob 2. Unless Bob s estate has sufficient income, the tax credit will be wasted. Outright gifts for individual donors How the strategy works There are two key points to keep in mind with regard to planned giving: 1. Planned gifting is not deadly giving! The donor does not have to die to make a planned gift. 2. The size of the gift is irrelevant. It is the process used to make the gift that is important. 2 Such situations are usually a question of fact. To avoid such problems, clearly state the full legal name(s) of the charity in the bequest. Planned Giving, Part 2 3
When a donor makes an outright charitable gift, he or she irrevocably transfers all rights and ownership of the property to a charity. For the gift to be complete, the charity must accept the property. Once the transaction is complete, a tax receipt can be issued to the donor for the eligible amount 3 of the gift. Individuals receive a tax credit that reduces their tax payable. Companies receive a deduction that reduces their taxable income. Donors can donate virtually any kind of property provided it has a readily ascertainable fair market value and any advantage 4 to the donor is verifiable. The central issue to be discussed later is whether or not the charity will accept the property. Today it is commonplace for charities to receive gifts of publicly listed securities 5, mutual funds, works of art, and even automobiles. Furthermore, gifts of cottages, land, boats, and shares of privately held companies are becoming more popular. Tax implications for the donor In terms of tax implications for the donor, cash is the king of planned gifts because it generally produces the maximum in tax savings per dollar donated. The tax implication for the donor depends on the type of non-cash property that is donated. Here is a brief overview of the various types of property and the tax implications of using them in planned giving. Personal use property Personal use property is property that is normally acquired for personal use and is not expected to gain in value. Examples include non-collectible cars, boats, pianos, furnishings, and so on. From a tax perspective, both the fair market value and cost of the property are deemed to be $1,000. Therefore, if the actual fair value and cost are less than $1,000, then the donation of these items does not produce a taxable gain or loss for the donor. In theory, this kind of property should not generate a capital gain, and under no circumstances are personal use property losses deductible for tax purposes. However, if a capital gain is incurred, then it must be reported on the donor s income tax return. For example: Mary purchased a boat for $35,000 five years ago. If she donated it to a charity today for a tax receipt of $10,000, then no portion of the $25,000 loss would be deductible. Conversely, if Mary donated her china set that cost $900 to a charity for a $1,500 tax receipt, she would have to report the taxable portion of the resulting $500 capital gain 6. It is this $1,000 deemed cost and fair market value that has led many to use personal use property in the various tax avoidance schemes. On December 5, 2003, Finance effectively shut those schemes down. There will be more on this and other legislative action in Part 3 of this article. Listed personal property Listed personal use property (LPP) is a sub-class of personal use property. The only difference is that LPP is expected to gain (appreciate) in value. Examples include works of 3 4 5 6 ITA 248(30) defines eligible amount as the amount the fair market value of the property exceeds any advantage received by the donor. Advantage will be discussed in more detail under Gifts using insurance products. If the gift is valued over $1,000, an independent, qualified written assessment is required. Defined in ITA 248 (31) as any consideration or monetary benefit the donor or any person related to the donor receives, or may receive at a future date. Securities traded on prescribed stock exchanges in Canada and around the world. $1,500 deemed cost of $1,000 = $500 gain. Planned Giving, Part 2 4
art, etchings, collectibles, manuscripts, jewelry, stamps, coins, and so on 7. The fair value and cost are still deemed to be $1,000. However, if the actual values exceed $1,000, then the disposition of this type of property will generate an LPP gain or loss. Such LPP gains can be carried back three years and forward for seven years but only to offset LPP losses. If the property was acquired through a gifting arrangement as defined in ITA 237.1(1), proposed legislation will dictate both the fair value and cost of the property as well as whether or not a tax receipt can be issued for the gift. More detail will be provided in Part 3 of this article. Capital property This is a broad topic and the Canada Revenue Agency publication Capital Gains 8 does an excellent job of describing this type of property in plain language. For the purposes of this article, capital property is property including depreciable property that if disposed (including charitable gifting) would result in a capital gain or loss. Examples include cottages, securities, land, machines, buildings, and so on. With the exception of publicly traded securities, 9 if a donor gifts capital property, he or she will have to include 50% of the resulting capital gain or loss on their tax return. For gifts of publicly traded securities, the inclusion rate of 50% is reduced to 25%. However, the inclusion rate for capital losses remains at 50%. Real property This category is defined simply as property that cannot be moved. Examples include cottages, land, and buildings. If a donor gifts appreciated capital property, then the tax from the resulting capital gain will erode the tax savings. For example, in Manitoba, the combined tax credit for a donation of a $100,000 cottage from an individual is $46,000 10. If the cost of the cottage were $50,000, the resulting $50,000 capital gain would generate $25,000 in taxable income. For ease of calculation, if the taxpayer pays tax at a rate of 50%, then the net tax saving from the gift is $33,500 ($46,000 $12,500 in tax on the gain). If the gift were made with cash, the net tax savings would have been $46,000. What happens if the gift results in a capital loss? In this situation, the charity always issues a fair value tax receipt that is less than the cost of the property. The donor would use the tax receipt on his or her tax return and also claim the capital loss as per normal. An illustration will be provided later in the example section. Cultural property Cultural property is a special class of property governed under the Cultural Property Export and Import Act. In order to be considered cultural property, the Canadian Cultural Property Export Review Board (CCPERB) must designate the property to be of outstanding significance and national importance to Canada. The Board also determines the fair market value of the property and issues a certificate for verification. 7 A complete listing can be found in the Canada Revenue Agency publication Gifts and Income Tax on the CRA website at http://www.cra-arc.gc.ca/e/pub/tg/p113/readme.html. 8 http://www.cra-arc.gc.ca/tax/individuals/topics/income-tax/return/completing/reportingincome/lines101-170/127/gains/menu-e.html 9 Includes shares, warrants, rights, and debt obligations that trade on a prescribed Canadian or international stock exchange, plus mutual funds and segregated funds. 10 Combined federal and provincial credit is 46%. Planned Giving, Part 2 5
Only institutions such as art galleries and museums that are designated by the CCPERB may receive cultural property. The significant tax implication of donating cultural property is that the donor receives a tax receipt equal to the amount indicated on the CCPERB certificate with no income inclusion whatsoever. However, there are significant regulatory issues with this type of gift that will be discussed in the next section. Regulatory and other issues for the charity A key issue with non-cash gifts is whether or not the charity will accept the property. These are examples of some of the more significant non-regulatory factors for the charity to consider: Capital property such as land or buildings will have ongoing property tax implications and potential environmental concerns. Buildings and works of art such as paintings may have significant maintenance and insurance costs. Rental properties may have tenants. Other than publicly traded securities, non-cash property may not be readily convertible to cash. Securing a qualified independent fair market appraisal of the property can be expensive and time consuming. The charity may not want the property, but accepts it anyway as a means of securing larger or more desirable gifts from the same donor at a later time. Regulatory issues for the charity to consider are few but significant. Here are some examples: Liquidity issues inherent in non-cash property can cause problems for the charity in meeting its disbursement quota. Unless the property was received via a donor s will, or with a donor direction to hold the property for a period of not less than 10 years (an enduring gift), the charity must spend on charitable activities an amount equal to 80% of the value for which it issued tax receipts in the previous year. If the charity cannot sell or use the property in its charitable activities, it may face financial sanctions, or lose its charitable registration, or both. Except under very specific circumstances as described in the Cultural Property Export and Import Act (CPEIA), cultural property cannot be sold, traded, or in any way disposed except to another designated institution 11. Violation of the CPEIA is a federal offense that carries severe penalties including fines and imprisonment. To be discussed in more detail in Part 3 of this article, proposed legislation will force charities to take additional protective steps to ensure the accuracy of the tax receipts they issue. Issues for the advisor Anytime a client is involved, the advisor will have issues to consider. At a minimum, here are some of the issues to consider: Advisors must ensure that their illustrations of the tax consequences of the gift are accurate. Failure to do so may result in financial penalties for them, their client, the charity, or all of three. More detail will be provided in Part 3. Increasingly, advisors are called upon to initiate the gift with a charity so as to protect the anonymity of the donor. Examples include calling to get the full legal name of the charity, meeting with the charity to discuss the client s intent to ascertain interest, and so on. 11 The CCERPB designates institutions to receive cultural property. Planned Giving, Part 2 6
Related to (2), advisors must ensure that their strategy will be accepted by the charity. Remember that a gift has not been made unless the charity accepts the gift, and charities have been known to refuse complicated or heavily conditioned gifts. Increasingly, planned gift strategies form part of the overall estate plans of clients. Advisors need to ensure that measures such as proper power of attorney and others have been implemented to protect the strategy from failure in the future due to some unforeseen event. Advisors play a key role in helping the family understand and accept the strategy, thus avoiding costly legal issues. The advisor must at all times act in the best interests of the client. Although not a big issue for advisors that are fee based, this is particularly true with advisors that are compensated from assets under their management because gifting reduces those assets. Examples of outright gifts Capital loss and gift of publicly traded securities Numerous examples have been presented throughout this section. However, an illustration is needed for when a gift produces a loss. Suppose Rick lives in Manitoba and he donates $50,000 worth of publicly traded securities to his church in 2003. He purchased the securities for $80,000 in 2000 and he has a $50,000 capital gain carry forward. The church issues a tax receipt for $50,000, which Rick uses on his 2003 tax return. His tax savings from the tax receipt is $23,000 12. He also can claim the $15,000 taxable portion of the capital loss against his past gains, thus reducing his 2003 taxable income by $15,000. Cultural property Carly is an avid collector of paintings. She is not an artist nor is she in the business of collecting art. During a visit to the local gallery, she learns that the institution is designated to receive gifts of cultural property. After discussing with her financial advisors, she decides to donate a painting that the gallery has told her would qualify as cultural property. Her cost of the painting some time ago was $5,000. After appraisals are conducted and the gallery s application is approved by the CCPERB, the fair value of the painting is set at $15,000. Carly uses the $15,000 tax receipt to save her $6,900, 13 and she does not have to report the $10,000 capital gain. Gifts using insurance products including annuities How the strategy works After bequests, gifts using life insurance products are very common forms of planned giving. In this section, two broad insurance products will be presented: life insurance polices and annuities. Life insurance polices can be used in planned giving in four ways: 1. The donor can take out a new policy with the charity as the owner. In this way, every premium paid is eligible for a tax receipt 14. 2. Alternatively, ITA 118.1 (5.1) permits a donor to name the charity as the beneficiary of an existing life insurance policy and the death benefit will qualify for a tax receipt. 12 Tax credit is calculated using a 46% rate. 13 See note 10. 14 The donor can pay the insurance company directly, or the charity. Planned Giving, Part 2 7
3. A donor can assign or transfer ownership of an existing policy to a charity. The donor is eligible for a tax receipt for the cash value of the policy plus any additional premiums paid or policy loans repaid after the charity is assigned ownership of the contract. 4. Lastly, in the right donor situation, life insurance policies can be used in combination with other gift strategies. For example, make an outright gift today and use the tax savings to purchase a life insurance policy to refund the estate for the property gifted. A more detailed example will be provided in the Examples section. While gifts involving life insurance policies are well established, recent legislation has changed the way annuities are done. These legislative changes will be discussed in the Regulatory and other issues for the charity section below. Annuities The following points about annuities are well understood: A donor makes an irrevocable contribution of cash to a charitable organization 15 in exchange for an annuity. An annuity is a series of consistent cash payments to the donor for the rest of his or her life. Each cash payment is a blend of tax-free return of capital and taxable interest. Therefore, the tax on an annuity payment is far less than the interest-only cash flows from other investments such as a Guaranteed Investment Certificate (GIC). (In some cases there may be no taxable interest.) The funds used to purchase the annuity cannot come from registered sources such as registered retirement savings accounts. Typically the funds come from GIC-type investments due to their low after-tax cash flow. Unlike life insurance policies, annuities are more attractive for older donors. The older the donor when the annuity is purchased, the higher the payments to the donor. Generally speaking, the donor should be at least 70 years of age. For donors less than 91 years of age, the taxable portion of the payment can be fixed (prescribed), and the payments can be guaranteed to continue for a minimum period of time 16. For example, donors aged 87 can purchase an annuity that will pay them for their lifetime or three years, whichever is longer. If the donor dies at age 88, then two more years of payments will be made to his or her beneficiary. If the donor lives to age 100, the annuity payments will continue until his or her death. From the Canada Revenue Agency perspective, registered charities can issue prescribed annuity contracts 17. However, provincial insurance counsels regulate the insurance industry including determining who can issue annuities. At the present time, these councils permit registered charities to issue annuities provided a significant portion is retained by the charity as a gift. The standard amount retained is 20% to 25% of the donor s total contribution to the charity 18. Tax implications for the donor For tax purposes, a gift of insurance is treated simply as a cash donation. However, the taxation of annuities is more complicated. 15 ITA 149.1 prohibits foundations from incurring debts associated with annuities. 16 ITA Regulation 304(1)(c)(iv)(B) 17 A prescribed annuity contract is one that meets all of the specifications of ITA Regulation 304 (c). 18 The donor can give publicly traded securities for the retained portion, and cash for the part used to purchase the annuity. Planned Giving, Part 2 8
The two ways to conduct a gift annuity program are detailed in the next section. It is important to note that no matter which kind of program the charity conducts, the taxable consequences to the donor are exactly the same. For annuities issued prior to December 21, 2002, IT 111 R2 dictated how to calculate the portion of the donor s total contribution that was eligible for a tax receipt (if any) and the taxable amount of each payment to the donor. Annuities issued after December 20, 2002, are subject to different legislative provisions (see next section). Amount of tax receipt For annuities issued after December 20, 2002, the tax receipt is the difference between the donor s contribution and the advantage he or she has received. The value of the advantage can be obtained by securing an independent quote for an equivalent commercial annuity contract. The only proviso is that the advantage received cannot exceed 80% of the amount contributed 19. For example, if Bill contributes $10,000 to his church for an annuity, then in order for any portion of the $10,000 to be eligible for a tax receipt, the maximum cost of an equivalent commercial annuity policy that will make the required payments is $8,000. In this example, provided the advantage received is less than $8,001, the tax receipt will equal $10,000 less the cost of the advantage. Otherwise, special permission must be obtained in writing from the Minister of National Revenue in order to issue a tax receipt. Taxable portion of the annuity payment The tax-free portion of the payment (the capital) is determined by dividing the cost of the annuity by the product of multiplying the amount of the payments times the life expectancy of the donor 20. The resulting fraction is multiplied by the annual payment to derive the tax-free return of capital. Consider this simple example: Mary gives $20,000 to her church for an annuity. The church agrees to pay her $2,000 for the rest of her life, and the cost of the annuity that will pay her the $2,000 is $16,000. According to the 1971 IAM table, her life expectancy from the date she receives her first payment is 13 years. The tax-free portion of her payments is: $16,000 / ($2,000 13) = $16,000/$26,000 or 61.5%. Therefore, every year, Mary will have to report $770 on her tax return ($2,000 (1.615)). Regulatory and other issues for the charity Life insurance policies With a gift of life insurance, there are few regulatory issues because where the charity owns the policy, cash donations are receipted accordingly. However, the one regulatory issue worth noting is that the charity needs to keep accurate track of the policies it owns because the death benefit is not eligible for a tax receipt from these policies. Therefore, when cheques arrive from multiple insurance companies, tax receipts need to be issued correctly or the charity can face stiff financial penalties or lose its registration. In terms of other issues, here is a short list to consider: The donor might stop making the premium payments. In order to get the death benefit, the charity will need to find another donor to continue the payments or pay them out of the charity s account. If the policy has a cash value, in addition to the two alternatives above, 19 ITA 248 (32)(a) 20 The life expectancy is derived from the 1971 Individual Annuity Mortality Table as published in Volume XXIII of the Transactions of the Society of Actuaries. Commonly referred to as the 1971 IAM table. Planned Giving, Part 2 9
the death benefit may be reduced in order to keep the policy from lapsing 21, or the charity can withdraw the cash value and effectively cancel the policy. It is very easy to change a beneficiary on a life insurance policy. Therefore, the final gift may always be in doubt until received. The charity needs accurate books and records to properly track the series of donations required to make the premium payments for an extended period of time. Before accepting the policy, the charity should have an independent insurance expert evaluate the policy to ensure it is properly structured and worthy of the charity foregoing the donations to make the necessary premium payments. It is important to maintain a willingness to look at all the alternatives and not prematurely retreat to insurance because it is what the advisor understands best. A related point to the above is to always do what is in the best interest of the client. Insurance gifts can have the appearance of being recommended over other planned gift strategies because they protect the advisor s compensation by preserving assets under administration. Annuities The overriding issue for foundations is the fact that they are forbidden from issuing annuities. Another operational issue for the charity to address is how it will actually conduct the gift annuity program. There are two ways to conduct an annuity: self-insured and re-insured. Self-insured gift annuities Simply stated, a self-insured annuity is where the charity funds the cash payments to the donor directly from its own bank accounts. The ultimate gift is whatever is left over when the donor (annuitant) dies. For this type of program to be successful, the charity needs thousands of donors and millions of dollars in capital. Typically, large faith-based organizations such as the United Church and the Salvation Army self-insure their annuities. Re-insured annuity The charity takes the donor s contribution and uses a portion of it to purchase a commercial annuity contract from an insurance company to make the payments to the donor on its behalf. The actual gift to the charity is the difference between the amount contributed by the donor and the cost of the commercial annuity contract. For example, Mary gives $50,000 to her church for an annuity that pays her $3,000 annually for the rest of her life. The cost of the commercial annuity contract required to make her annual payments is $35,000. Therefore, her gift to the church is $15,000. This way provides a defined, upfront gift, while the other may produce a gift at some time in the future 22. The final concern for the charity is to conduct its annuity program in such a way as to ensure that the provincial insurance councils mentioned earlier continue to permit them to issue annuities. Examples of gifts using insurance products New policy with charity as owner Jack and Jill live in Manitoba and are both age 60, non-smokers and in good health. They want to help their community foundation with a gift of insurance. They decide to purchase a policy with a $500,000 death benefit with the foundation as the owner. The death benefit will 21 The cash value can fund the premiums. Therefore, the death benefit can be adjusted downward to fit the existing cash value. 22 If the donor lives a very long time, it is doubtful that a self-insured annuity will actually leave anything to the charity when the donor dies. Planned Giving, Part 2 10
Conclusion be paid when both Jack and Jill are gone (a last-to-die policy). The policy requires 10 annual premiums of $13,000, each of which is eligible for a tax receipt. Therefore, the after-tax cost of the insurance premium is $7,020 23 per year or $70,200 over the 10-year period. When both Jack and Jill are gone, $500,000 will be paid to the foundation in their name. Assign an existing policy with cash value Consider the previous example, except that Jack and Jill had purchased the same policy 12 years ago. Today, they decide to assign the policy to the foundation. Given that it was a 10-pay policy (10 premiums required), it is fully funded and has a cash value today of $140,400 with no policy loans outstanding. When Jack and Jill complete the assignment form from their insurance broker, the foundation will become the owner and will issue a tax receipt to them for $140,400, which will save them $64,584 in taxes. Change the beneficiary to the foundation Using the same example, if Jack and Jill change the beneficiary of the policy from each other to the foundation, then when both are gone, the $500,000 death benefit will be eligible for a tax receipt that can be used on the last-to-die final tax return 24. Life insurance policy used in combination with an annuity Bob and Sue both aged 70 have an existing prescribed annuity that pays them $19,000 per year. The taxable portion of that payment is fixed at $2,300 per year for the rest of their lives. Bob and Sue are both insurable and decide to purchase a term-to-100 life insurance policy 25 with the foundation as the owner of the contract that will pay the foundation $200,000 when both Bob and Sue are gone. The required annual premium is $2,300. In order to fund the policy, Bob and Sue re-direct $2,300 of their existing annuity payments to the foundation and receive a tax receipt for each payment. The tax receipt wipes out the taxable portion of the annuity and the foundation gets $200,000 when both Bob and Sue are gone. Wealth replacement insurance Steve and Shelly Smith both are 70 years of age and in good health. They have a cottage that has a cost base of $120,000. Today, the cottage has a fair value of $165,000. Now that their two kids have both moved away and are no longer interested in the cottage, the Smiths were ready to sell it. However, after speaking to their accountant and financial planner, they decided to gift the cottage to the hospital that helped their niece. The hospital issued a tax receipt for $165,000 that saved the Smiths $64,650 in taxes 26. The Smiths use the $64,650 in tax savings to purchase a $200,000 joint last-to-die policy and name their two children as beneficiaries. Now the kids each receive $100,000 in tax-free cash, the hospital receives a generous gift, and the Smiths have no more issues with their cottage. Part 2 picked up on the broad perspective of planned giving that was presented in Part 1, and focused on some of the common planned gift strategies being used in Canada today gifts by will, outright gifts by individuals, and gifts using insurance products. Gifts using trusts will be discussed in Part 3. 23 $13,000 (1.46 credit) 24 While not specifically mentioned in this article, the same beneficiary change can be made for RRSP and RRIF plans that will result in identical tax treatment. 25 Term-to-100 policy requires an annual premium to age 100 or life, whichever comes first. 26 Manitoba Tax credit of 46%. Assume 50% tax rate for ease of calculation. $165,000 120,000 = $45,000 capital gain of which $22,500 is taxable. Tax on the capital gain = $11,250. Net tax savings = ($165,000 46%) $11,250. Planned Giving, Part 2 11
Each planned gift strategy was broken down into the following sections: how the gift works, tax implications for the donor, regulatory and other issues for the charity, issues for the advisor, and examples. Part 3 will provide a detailed discussion on how trusts can be used in planned giving in Canada. Furthermore, a comprehensive review of a plethora of new and proposed rules and sanctions will be provided, as well as a discussion of some potentially disturbing trends in terms of proposed legislation that will affect both charities and advisors. DeWayne Osborn is the General Manager, Compliance Officer, and in-house expert on charitable and planned giving at Lawton Partners. He joined the firm in 2000. With more than a decade of experience serving in senior positions of not-for-profit organizations, Mr. Osborn has become one of Canada s leading authorities on planned giving. He is a much-sought-after speaker, consultant, and advisor on the complexities and tremendous financial and philanthropic benefits that can be achieved by applying taxeffective strategies for gifting real property, cash, securities, life insurance products, wills, and bequests. His expertise covers all aspects of charitable operations including endowment fund polices, accounting system audits, and policies and procedures for gifts and endowments. Mr. Osborn received the 2003 Certified General Accountants Association of Manitoba Sharing Expertise Award in recognition of his ongoing dedication to numerous charities and his leadership in furthering greater awareness and acceptance of planned giving. He is the official planned giving media contact for CGA-Canada. The Chair of the Canadian Association of Gift Planners Board of Directors, Mr. Osborn has made numerous planned giving presentations to the public, as well as to accountants, lawyers, financial planners, and their respective associations. He has also created a subscriber-based planned giving website designed to help charities and advisors of all skills and experiences. All CGAs have access to this resource through the PD Network at: http://www.cga-network.net/pdnet/nav.do?section=50 This is the second of three articles by Mr. Osborn on Planned Giving to be carried on PD Net. Planned Giving, Part 2 12