Leaving a philanthropic gift to a charitable organization can be a rewarding experience, both for the donor and the designated organization.

A popular, but less understood gift is a charitable gift annuity. A charitable gift annuity is a contract (not a “trust”), under which a charity, in return for a transfer of cash, marketable securities, or other assets, agrees to pay a fixed amount of money to one or more donors for their lifetime.

In a perfect scenario, the donor benefits by:

• Supporting their favorite charity through a financial gift
• Receiving tax benefits on the initial gift and, up to a certain level, for the return annuity payments (depending on the donor’s tax bracket)
• Earning (potentially) higher rates of return than the donor could obtain by investing on their own
• Receiving a stream of income for the remainder of their lives through the annuity payout

The charitable organization benefits by:

• Creating a long-term donor relationship, possibly expanding the donor-prospect network
• Obtaining funding to create an underlying investment (often called the supporting charitable annuity fund) and retaining investment income and appreciation
• Retaining the remaining supporting charitable annuity fund at the time of donor‘s death

We know that the world is not perfect; while the generous donor has good intentions, what they may not realize is that the circumstances present at the initial donation may change over time, resulting in a relationship that may actually hurt the charitable organization. As a result, the organization could find itself in an unintentional and undesirable position of discovering the initial gift is exhausted due to payments or market deprecation, or a combination of both. 

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How does this happen?

The annuity payments the donor receives are calculated based on the donor’s age and life expectancy at the time of the gift, in addition to other market and tax factors. As life expectancies continue to increase and market conditions fluctuate, the benefit of this relationship may turn into a burden for the charity.  The contributed property (the gift), given irrevocably, becomes a part of the charity’s assets, and the payments are a general obligation of the charity. The annuity is intended to be backed by the charitable annuity fund created with the initial gift, plus investment income and appreciation, but it is further backed by the charity’s entire book of assets. In other words, if the underlying or initial investments are exhausted, the charity may be obligated to pay the donor from its own operating cash. Annuity payments continue for the lives of the annuitants, no matter what the investment value of the supporting gift annuity fund is.

Let us look at a real world example:

A donor wishes to give their favorite charity a gift of $10,000.  The donor is expecting certain tax benefits as well as the comfort of knowing that they will receive a stream of income for the rest of their lives in the form of an annuity payment.  In this example, the donor is promised an 8.30% return or $830 in annual payments.  If the charity does not invest the $10,000 gift, the funds would be fully exhausted in the 13th year of payments.  If markets are doing well in the year of initial investment, but start to decline afterward, the funds could be exhausted even faster! 

As you can see, while intentions are pure, the result could be problematic. What can you do to ensure your generous gift is benefiting your charity of choice?

• Call the charity and have a discussion. Whether you are already in a charitable gift relationship or are considering a gift, discuss your intentions and, together, determine if an undue hardship will be created now or in the future.
• Meet with your accountant. A well-timed gift, both on your behalf and the organization, can make a significant difference when it comes to tax planning. Tax-related timing of gifts is critical, especially when factoring in personal income and expense variables of the donor, or other obligations of the organization.
• Rethink the gift. You can evaluate a charity’s financial strength by assessing its financial statements or tax returns (Form 990), or by checking public sites such as GuideStar (www.guidestar.org), the American Institute of Philanthropy (www.charitywatch.org), Charity Navigator (www.charitynavigator.org) or the Better Business Bureau’s Wise Giving Alliance (www.give.org).

A Charitable Gift Annuity can be a wonderful idea but requires the understanding of the “behind-the-scenes” impact it could have on an organization.

Related read: Leading a Nonprofit Organization: What you might not know about charitable donations

We have advised many clients, both donors, and entities, about charitable gift annuities and other charitable options.

If you have questions about this article or your financial position, please feel free to contact me directly at cvalponi@zinnerco.com or any of the Zinner and Co. professionals at 216.831.0733. We’re happy to help and ready to start the conversation.