If your client base includes business owners, you probably weren’t surprised by this observation in a recent Wall Street Journal article about the “stealthy wealthy:” “Behind a paycheck, the largest source of income for the 1% highest earners in the U.S. isn’t being a partner at an investment bank or launching a one-in-a-million tech startup. It is owning a medium-size regional business.”

What’s more, the chances are very good that most of your business-owner clients are charitably-inclined. More than 90% of small business owners have supported charities and community activities in the last year.

This means that you and other tax and estate planning advisors should have at least a basic level of knowledge about the benefits and mechanics of giving closely-held business interests to charity. When properly executed, this technique can be extremely effective to achieve the client’s financial and philanthropic goals.

Here are three very important components of this strategy:

Consider the Community Foundation for Cost & Tax Effectiveness

Some of your business owner clients probably have established a private foundation. But the private foundation is not the ideal recipient of private business interests. Donating closely-held stock to a fund at the Community Foundation is generally more tax effective than giving it to a private foundation due to several key differences in how the IRS treats these gifts. When your client donates closely-held stock to the Community Foundation, they can typically deduct the full fair market value of the stock, up to 30% of adjusted gross income and also avoid paying capital gains tax on any appreciation. By contrast, if your client donates the same stock to a private foundation, the deduction is limited to cost basis up to only 20% of AGI, which is a significantly less favorable tax outcome. It is also often more cost effective to open a Corporate Advised Fund at CFAAC (currently only a $250 start-up fee) versus a Private Foundation.

Mind the timing

Encourage a business owner client to start planning for a gift of closely-held stock before putting out feelers to potential acquirers and absolutely before any part of a deal is inked. This is crucial because a gift to charity will avoid substantial unrealized capital gains that have accrued in the business over the years only if the gift and the sale are genuinely separate events, avoiding the step transaction doctrine. Careful planning will help ensure that the client’s fund at the Community Foundation will receive 100 cents on the dollar for the portion of the stock it owns and the deduction won’t be thrown out.

Respect the rules for valuation

Counsel your clients about securing a proper valuation for charitable deduction purposes at the time the business interest is contributed to the fund at the Community Foundation. Valuation has always been a critical factor in any type of tax or estate planning strategy. Recently, the additional wrinkle presented by the Supreme Court’s decision in Connelly v. United States makes things even more interesting. The Connelly decision impacts the way business interests are valued for estate tax purposes. In Connelly, the Supreme Court held that life insurance proceeds should be included in the value of a company without offsetting the redemption obligation. This could translate to higher taxable estates for your business owner clients, creating further incentive to leave a portion of closely-held stock to charity. The decision is also a reminder that careful planning can potentially avoid pitfalls.

As always, please reach out to the Community Foundation anytime the topic of charitable giving arises in client conversations. We are honored to be your first call on all matters of philanthropy. Contact us at info@cfaac.org or 410.280.1102.