The end of the year is in sight, and donating to charities often becomes a priority this time of year. There’s much to be said about making donations in a manner that gives rise to maximum tax relief. Today I want to talk about one specific type of donation: Donating shares. There are plenty of ways to give to charity, but the donation of shares, whether publicly traded or private company shares, can give rise to great tax relief.
Publicly traded shares
It’s no secret that when you donate publicly traded shares (or other securities that are publicly traded) you’ll be entitled to enhanced tax relief. You will, of course, be entitled to a donation tax credit for the fair market value of any shares you donate to charity. Depending on your province of residence, the actual tax savings will vary, but receiving tax relief approximately equal to 40 to 45 per cent of the value of your gift is common after factoring in both the federal and provincial tax savings.
But there’s more. It was the 2006 federal budget that fundamentally changed the tax relief when publicly traded shares are donated to charity. Since that time, any donations of publicly traded securities to a registered charity will cause any capital gain on the shares to be eliminated. When you’re considering a gift to charity this year, scour your portfolio for any individual securities that might have appreciated in value. The greater the capital gain on the shares the better those shares are as a candidate for donating to charity. If you still like the shares, you can always buy more with the cash you might have otherwise donated to the charity. The point is, our tax law makes it much more attractive to donate shares to charity than cash.
Here’s an example: Suppose you have shares worth $10,000 with an adjusted cost base (ACB) of $5,000. If you sell the shares and donate the cash to charity, you’ll face tax of $1,125 on the sale (assuming a marginal tax rate of 45 per cent). You’ll then receive a $4,500 donation tax credit in this example. The net tax savings will be $3,375 ($4,500 less $1,125). If you donate the shares directly to charity instead, the $1,125 tax bill is eliminated, saving you that much more in tax.
Although flow-through shares are publicly traded, they have some unique characteristics that can give rise to a tax deduction when you invest in them. Donating these shares to charity had been particularly attractive, but the rules have changed recently around the donation of flow-through shares. How do the rules work today? Suppose, for example, that you invest $10,000 in flow-through shares. You’ll generally be entitled to a tax deduction for $10,000 in this case, with the deduction coming largely in the first year, and the small balance generally in year two. This will save you $4,500 in tax assuming a marginal tax rate of 45 per cent. Under our tax law, your ACB in the shares will be deemed nil in this case (so you will have a capital gain later when you sell).
Now, if you were to donate those flow-through shares to charity for the same $10,000 value after receiving the full value of the tax deductions, you would trigger a capital gain of $10,000 (since the ACB will be nil). Our tax law used to eliminate this capital gain because of the donation to charity, but the 2011 federal budget changed this so that only a capital gain above the original cost of $10,000 will be eliminated.
You’ll also be entitled to a donation tax credit for the $10,000 value donated to charity in this example. This will save you $4,500 in taxes at a marginal tax rate of 45 per cent thanks to the donation tax credit. Your total out-of-pocket cost? Just $3,250 ($10,000 plus the $2,250 in tax on the capital gain at the time of the donation in this example, less $4,500 from the flow-through deduction and another $4,500 from the donation tax credit) but the charity receives $10,000.
Prior to the change in the 2011 federal budget your out-of-pocket cost for donating flow-through shares would have been $1,000 in this example, not $3,250. Still, if you like flow-through shares as an investment (and that’s a big caveat; my intention here today is not to evaluate the investment merits of these shares) then you might consider donating them to charity as with other securities.
Next week I’ll talk about donating private company shares.