U.S. Private Foundation

U.S. Private Foundations

Highlights:

  • Allows you to avoid paying capital gains tax on the sale of any highly appreciated asset
  • Allows you to take a deduction for the value of the asset to be sold
  • Assets held in the Private Foundation may not be reached by your creditors, and are not subject to income tax or estate tax
  • Suitable for property owners who have big built-in gains if they sold their property

How it Works:

  • You transfer highly appreciated property to a Private Foundation and receive a corresponding tax deduction
  • Private Foundation sells the assets, pays no tax, assets are now protected from creditors and estate tax
  • Private Foundation must distribute 5% of its assets to other charities each year or for charitable causes of its own
  • You may serve as President of the Foundation and fully direct its investments and draw a reasonable salary from it
  • You may not take loans from the Foundation or engage in certain types of transactions with the Foundation

Philanthropy?

How to Gain Tax Advantages While Engaging in Charitable Causes Through Your Own Privtate Foundation

Benefits of Having Your Own Private Foundation
The most commonly known benefit is that any contributions made by a US person to a tax exempt foundation, are tax deductible, up to an amount equal to 30% of that person’s gross income. What is less commonly known is that one can structure one=s very own, tax exempt private foundation -to which you can make tax deductible contributions.

As such if your gross income was $100,000 you can transfer up to $30,000 to your foundation and deduct that amount from your income. Result: you saved the taxes you would have owed on those $30,000. Depending on your tax bracket, this could represent a savings of over $10,000 in taxes.

Furthermore, the $30,000 now in the hands of the foundation, will not be subject to the reach of any of your creditors or claimants (unless the transfer of assets qualifies as a fraudulent conveyance), yet, if you appoint yourself as Foundation Manager for the private foundation, such funds will remain under your control. The Foundation, now with $30,000 in capital can pay its Foundation Manager(s) (you) a reasonable salary (to the extent it is not excessive) for his/her services.

Restrictions On Private Foundations
But there are also other restrictions to the use of the private foundation. First, although you can invest them in almost any way you see fit, the assets are not yours individually, and thus you can only extract the benefits of such investments as compensation for your services as Foundation Manager. Such compensation, however, must be reasonable and not “excessive.” This is the single most unattractive feature of the foundation.

A second restriction associated with private foundations is that to preserve their status they must contribute amounts equal to at least 5% of the value of their assets to charitable purposes. In a sense this condition works almost a tax because you are forced to part with some of your money each year. However, this condition is balanced by the fact that it is you who decides where the money goes. Regardless, to keep their status, private foundations also must continue to meet their statutory definition which requires (in general terms), that the entity receive less than 33% of its income from the general public, and more than 33% of its income from its own investments.

To form an effective private foundation is a two step process. First, one must structure and incorporate the entity. This generally requires an identification of the organization’s basic goals and principles. The second (and more difficult) step is applying for tax exempt status with the IRS. This is a time consuming effort which requires a detailed proposal of what the foundation intends to do. It usually requires a proposed budget for the first two years.

Conclusion
Although there are restrictions which make foundations unattractive for many individuals, for some individuals who really enjoy a particular type of charitable work, the Foundation is a powerful and effective tool which can offer a number of tax and asset protection advantages while allowing them to carry on a significant charitable cause. The foundations can be part of a comprehensive estate plan which involves other entities, and can in many cases compliment a large estate which could otherwise be subject to estate taxes.