DAF > Roth IRA? 12% tax bracket, no taxable

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camillus
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DAF > Roth IRA? 12% tax bracket, no taxable

Post by camillus » Thu Sep 06, 2018 8:19 pm

Edit, Summary: I believe I have discovered a strategy where pairing a Donor Advised Fund and a taxable account is superior to contributing to a Roth IRA, even in the 12% federal tax bracket when one has no appreciated assets in a taxable account. Said another way: this strategy is valuable enough to withdraw from a Roth IRA to get it started, given certain special criteria. All money continues to be invested per your asset allocation. The additional benefit of this DAF feeder strategy, over a Roth IRA, occurs per the following formula:

(Additional average tax deductability per year - $100 DAF fee) * 6% annual compounding, inside of best available investment account.
At low levels, this formula works out to a profit of about $1k per year. It can scale up from there, especially at higher tax brackets.

The principle investment can be returned over a period of a few years, fairly risk free, as long as the giver continues to have a personal commitment to give regular amounts to charity.

Posts at the bottom are most well developed. Some assumptions and strategies change during the thread as different obstacles are addressed.


Hi all, I’ve been doing some thinking about Donor Advised Funds and a charitable clumping strategy in order to itemize every other year, now after the TCJA with the higher standard deduction. I have been critical of this strategy because I viewed the initial “accelerated” lump sum as having too a high opportunity cost for someone with relatively little cash - the cash could be better used to top off tax advantaged investment space.

After examining this strategy, I’ve reached the opposite conclusion - there is incredible value here, even for someone like me, who does not otherwise have a taxable investment account and would be challenged to accelerate a year's worth of giving from regular cash flow. The initial accelerated “lump” that gets the DAF every-other-year strategy going generates regular tax savings while having no real downside compared to simply using that same money to top off retirement accounts that year.

Question: If I had $12k, would I be better contributing to retirement accounts or start a strategy whereby I could itemize every other year?

I’m going to write this up with the hope of getting some feedback. It might be hard to follow because I think I'm breaking through quite a few walls of mental accounting.

Scenario:
MFJ, 12% (standard deduction is $24k)
Normal itemized deductions, right at $23-24k
(SALT $8k, mortgage interest $4k, charity $12k)
Let’s say I normally donate about $1k a month, or $12k a year
No taxable investment account
Not maxing out tax advantaged retirement accounts
My charitable goal is to give a certain % relative to my gross annual income, rather than relative to the growth of any investment

Now in order to get this started, I’d like to double-up my charitable giving in one year, using a DAF - so I need to get my hands on an extra $12k. (This was my original problem with this strategy.)

To make things really provocative, let’s say I withdraw $12k of Roth contributions in order to make my initial investment to the DAF.

2019
Withdraw $12k of Roth contributions, which held total US stock
Fund $12k DAF, buying total US stock
(This is the principle investment)

On the 1st of each month, direct DAF to donate $1k to my favorite charities
Also on each 1st, contribute $1k to DAF from checking - redirecting my normal cash flow from charities
At the end of the year, I’ve made $24k charitable contributions per the IRS, resulting in an itemized deduction of $36k ($12k more than normal), making for $1440 federal income tax savings

2020
On the 1st of each month, direct DAF to donate $1k to charities
Also on each 1st, contribute $1k to a new, fancy taxable investment account, holding total US stock
DAF will be “spent down” this year
Per IRS, $0 charitable donations this year
Take the standard deduction, no tax savings

2021
Jan 1st, transfer entire balance of taxable total US stock to DAF
On each 1st, contribute $1k to DAF from checking*
Also on each 1st, direct DAF to send $1k to charities
Pass GO and collect another approx $1440 in tax savings

2022
Contribute to taxable
Standard deduction

2023
Taxable transferred to DAF
Contribute to DAF
Itemize, collect $1xxx
etc

Conclusions
--The original $12k lump sum, which was a withdrawn Roth contribution, was never divested from total US stock, and continues to grow tax-free, albeit with the slight downside of suffering the administrative fee of the DAF.

--I wanted to pose that the initial DAF investment came as a withdrawn Roth contribution to somehow evaluate the value of this strategy against merely maintaining the status quo, ie, trying to max out retirement space with all available cash. If I were to do this, I would never get my hands on the money to get this started.

--There is additionally no change to my personal outgoing cash flow. One can also guarantee that the charities will get their $1k each month. The DAF will never “bottom out” because you are always matching your contribution with donations each month.

--On the upside, these accounts can grow - meaning if you wanted to continue to donate “only” $1k a month, you could reduce your cash flow or skip contributions to the DAF at some point in the future.

--At minimum, this strategy generates small four-figure tax savings every other year.

--The costs to this strategy are an administrative fee within the DAF on the $12k (say $100/year) and the time involved, though most transactions should be automated.

--I could go without the DAF entirely and simply double up cash charitable contributions every other year, but with that strategy there would be an opportunity cost when compared to using that initial lump sum and investing it. With my strategy as outlined above, the cost of missed investment doesn't occur.

Please let me know what feedback you might have. I am eager for it. I know this is possibly a strange scenario. Thanks!

*(I suppose in years when you itemize, instead of transfering your taxable balance to the DAF and also contributing monthly, you could simply continue monthly contributions to your taxable account and donate the balance of your taxable twice to the DAF in that year.)
Last edited by camillus on Mon Sep 10, 2018 8:23 pm, edited 22 times in total.

28fe6
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Re: DAF strategy? 12% tax bracket, no taxable

Post by 28fe6 » Thu Sep 06, 2018 9:23 pm

Your post was too long for me to read. However, I am only in the 12% bracket, and even so I have decided a DAF is (barely) worth it. The cost is $100 per year in fees, but it should save me $500-$800 per year in taxes, plus I believe it will simplify my taxes and add convenience. I wouldn't call that incredible value, but I'm going to give it a try anyway.

MrBeaver
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Re: DAF strategy? 12% tax bracket, no taxable

Post by MrBeaver » Thu Sep 06, 2018 10:02 pm

Interesting thought experiment. I would amend the plan so that instead of donating directly to the DAF each month, you still save in the taxable account. This way, at the end of the year if the value has gone down, you can tax loss harvest before donating the cash at the end of the year, but if it goes up, you don't pay any capital gains taxes because it's an in-kind donation.

I don't have any experience with DAFs, but it seems like because of the tax loss harvesting and no capital gains when donating in-kind, that it is in general more advantageous to keep money in a taxable account until the end of the year in which you want to donate it to the DAF for the deduction. Does that seem right?
camillus wrote:
Thu Sep 06, 2018 8:19 pm
One can also guarantee that the charities will get their $1k each month. The DAF will never “bottom out” because you are always matching your contribution with donations each month.

--On the upside, these accounts can grow - meaning if you wanted to continue to donate “only” $1k a month, you could reduce your cash flow or skip contributions to the DAF at some point in the future.
Keep in mind that there is no guarantee that your taxable investment would be worth 12k or more at the end of the year, because stocks may go down. In that case, the DAF might bottom out, unless you invest the DAF in a more stable asset class.


Your post has made me think of something else which I had not previously considered though: use in-kind donations to a DAF combined with clumping in order to smooth out additional income from sale of RSU grants or NQSO stock option grants which are taxable income, in order to not allow those grants to bump one into another tax bracket (for instance, from the 12% to the 22%). At the same time as using the DAF clumping to save on taxes from the RSU or NQSO sales, you also save on whatever portion of the donated stock would have been a capital gain.

Mike Scott
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Re: DAF strategy? 12% tax bracket, no taxable

Post by Mike Scott » Thu Sep 06, 2018 10:06 pm

While investing in a taxable account to create the DAF, there may be growth for additional giving or there may be tax loss harvesting opportunities. I am probably looking at more than two years saving up to create a DAF. Some of the tradeoffs then include certain charities waiting for a future donation and certain state tax credits that would remain outside the DAF but which can also be "bunched" to correspond with those years as well as some increased financial complexity for an uncertain amount of tax savings.

It is a question which has both tangible and intangible components. I did giving a year in advance at the end of last year. I am still trying to figure out what to do going forward since I will not be able to "give forward" that much every year. It's all about personal circumstances and choices and I think I am on the bounds of it not making a lot of difference either way to me but it might matter to some of the charities who have very real needs.

hifive
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Re: DAF strategy? 12% tax bracket, no taxable

Post by hifive » Thu Sep 06, 2018 10:20 pm

I opened a DAF myself last year to take advantage of the higher tax brackets, and the standard deduction every other year plan works well mathematically, especially if you're able to donate appreciated stocks.

However, if I'm understanding your proposed strategy, some of the assumptions appear pretty risky.
camillus wrote:
Thu Sep 06, 2018 8:19 pm
--There is additionally no change to my personal outgoing cash flow. One can also guarantee that the charities will get their $1k each month. The DAF will never “bottom out” because you are always matching your contribution with donations each month.
But that's only going to be true true if the market is flat or up through the non-contribution years (2020, 2022, etc.), right? Donating monthly introduces intra-year sequence of returns risk. I don't need I-ORP to guess that a 1/12 = 8.3% monthly withdrawal rate has a very high chance of running out of money!
--The original $12k lump sum, which was a withdrawn Roth contribution, was never divested from total US stock, and continues to grow tax-free, albeit with the slight downside of suffering the administrative fee of the DAF.

...

--On the upside, these accounts can grow - meaning if you wanted to continue to donate “only” $1k a month, you could reduce your cash flow or skip contributions to the DAF at some point in the future.

...

--I could go without the DAF entirely and simply double up cash charitable contributions every other year, but with that strategy there would be an opportunity cost when compared to using that initial lump sum and investing it. With my strategy as outlined above, the cost of missed investment doesn't occur.
Given the previous point, shouldn't the investment be in whatever cash fund the DAF has available to ensure there's enough to make the donations every month? So this actually isn't avoided.

Also, assuming the $12K in the Roth wasn't dedicated to future charitable contributions, there's some risk in transferring the funds to the DAF. Since the gift's irrevocable isn't this essentially increasing spending by $12K that first year? If the Roth contributions are part of a 2nd/3rd tier emergency fund I'd want a pretty healthy buffer before withdrawing them...but then the buffer could be used to fund the DAF!

Fun thought experiment, anyway!

hifive
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Re: DAF strategy? 12% tax bracket, no taxable

Post by hifive » Thu Sep 06, 2018 10:25 pm

MrBeaver wrote:
Thu Sep 06, 2018 10:02 pm
I don't have any experience with DAFs, but it seems like because of the tax loss harvesting and no capital gains when donating in-kind, that it is in general more advantageous to keep money in a taxable account until the end of the year in which you want to donate it to the DAF for the deduction. Does that seem right?
100% agree, and this is how I've been approaching mutual fund gifts. Something to watch out for is if your brokerage and DAF are at different companies though, as it can take time for the donation to go through. For example, Fidelity Charitable recommends initiating transfers by Nov 19: https://www.fidelitycharitable.org/what ... ines.shtml

StealthRabbit
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Re: DAF strategy? 12% tax bracket, no taxable

Post by StealthRabbit » Fri Sep 07, 2018 12:10 am

Also consider 'managing' / timing your distributions from DAF.
1) Many charities run 'matching' grants every year during their 'close of fiscal year', you want to donate during that opportune time :)
2) Capitalize on your GROWTH potential and time your DAF distributions to match. :D (I.e. I usually give 1-2x / yr rather than every month (as I did when I had to 'budget' giving out of my monthly cash flows)) Your charities (and DAF) might appreciate the less frequent and more qty transactions)
3) Use 'auto' gifting. electronic set-up. AND you can use it to 'rebalance' / maintain your AA. (can do $ amount or % and can do from any / all of your funds) That is SWEET! 8-)

I would be HARD pressed to contribute out of my Roth to a DAF.

You REALLY want to plow in your 'appreciated' assets to your DAF!
(double bonus...= deduction + offset gains) less paper work / tax reporting burden :sharebeer !!!

I too have been centric on keeping my gifting stable, thus the purpose of my using a DAF was primarily to have my commitments / desire for perpetual gifting to be set up APART from future NW / income / crisis'. (both my parents and inlaws lost EVERYTHING AFTER retirement.) Self employed / speculative businesses investments / poor timing (financial crisis / high rates / high risks) . Inlaws did it TWICE! (sunk the boat). My folks did it REALLY big, but only ONCE. Lost (7) businesses, ranch, subdivision (commercial and residential), Apartment houses / savings / equities / cars / plane / home / health. & from age 18... I got to care for them for their remaining 32 yrs, (bought them a very small house... and provided financial and medical guidance) thus... I am a tad cautious, but purposed.

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camillus
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Re: DAF strategy? 12% tax bracket, no taxable

Post by camillus » Fri Sep 07, 2018 9:55 am

28fe6 wrote:
Thu Sep 06, 2018 9:23 pm
Your post was too long for me to read. However, I am only in the 12% bracket, and even so I have decided a DAF is (barely) worth it. The cost is $100 per year in fees, but it should save me $500-$800 per year in taxes, plus I believe it will simplify my taxes and add convenience. I wouldn't call that incredible value, but I'm going to give it a try anyway.
Thanks, what I'm trying to illustrate is that the strategy above makes the DAF like a Roth IRA, but with the added perk of allowing you to itemize every other year.
MrBeaver wrote:
Thu Sep 06, 2018 10:02 pm
Interesting thought experiment. I would amend the plan so that instead of donating directly to the DAF each month, you still save in the taxable account. This way, at the end of the year if the value has gone down, you can tax loss harvest before donating the cash at the end of the year, but if it goes up, you don't pay any capital gains taxes because it's an in-kind donation
+1, I realized this somewhere in the middle of my large post and added an asterisk :happy
MrBeaver wrote:
Thu Sep 06, 2018 10:02 pm
Keep in mind that there is no guarantee that your taxable investment would be worth 12k or more at the end of the year, because stocks may go down. In that case, the DAF might bottom out, unless you invest the DAF in a more stable asset class.
I guess you are right. I suppose the DAF can hold bonds (or 50:50), and then you would reallocate elsewhere in your portfolio a stock position to a bond position. I think it would still work.
Mike Scott wrote:
Thu Sep 06, 2018 10:06 pm
It is a question which has both tangible and intangible components. I did giving a year in advance at the end of last year. I am still trying to figure out what to do going forward since I will not be able to "give forward" that much every year. It's all about personal circumstances and choices and I think I am on the bounds of it not making a lot of difference either way to me but it might matter to some of the charities who have very real needs.
I guess my point is that you can "accelerate" (if that's what you mean by "give forward") as much as you would like into a DAF by transferring a lump sum even by withdrawing Roth IRA contributions (or divert would-be Roth IRA contributions in a year) without having ill effects on your portfolio or net-worth over time. You simply transfer from a Roth IRA to a DAF and redirect your regular cash flow donations to the DAF/taxable strategy.
hifive wrote:
Thu Sep 06, 2018 10:20 pm
However, if I'm understanding your proposed strategy, some of the assumptions appear pretty risky.
camillus wrote:
Thu Sep 06, 2018 8:19 pm
--There is additionally no change to my personal outgoing cash flow. One can also guarantee that the charities will get their $1k each month. The DAF will never “bottom out” because you are always matching your contribution with donations each month.
But that's only going to be true true if the market is flat or up through the non-contribution years (2020, 2022, etc.), right? Donating monthly introduces intra-year sequence of returns risk. I don't need I-ORP to guess that a 1/12 = 8.3% monthly withdrawal rate has a very high chance of running out of money!
Hmm, I suppose that's true. To solve this, you could either initially donate 150% to the DAF to "super" fund it, or you could hold a safer investment and rebalance your portfolio elsewhere to assume more risk, or you could let the DAF bottom out and resort to giving the charity cash :?
hifive wrote:
Thu Sep 06, 2018 10:20 pm
--The original $12k lump sum, which was a withdrawn Roth contribution, was never divested from total US stock, and continues to grow tax-free, albeit with the slight downside of suffering the administrative fee of the DAF.
--On the upside, these accounts can grow - meaning if you wanted to continue to donate “only” $1k a month, you could reduce your cash flow or skip contributions to the DAF at some point in the future.
--I could go without the DAF entirely and simply double up cash charitable contributions every other year, but with that strategy there would be an opportunity cost when compared to using that initial lump sum and investing it. With my strategy as outlined above, the cost of missed investment doesn't occur.
Given the previous point, shouldn't the investment be in whatever cash fund the DAF has available to ensure there's enough to make the donations every month? So this actually isn't avoided.
I suppose you could hold a bond allocation (or 50:50) and rebalance your portfolio elsewhere to assume more risk.
hifive wrote:
Thu Sep 06, 2018 10:20 pm
Also, assuming the $12K in the Roth wasn't dedicated to future charitable contributions, there's some risk in transferring the funds to the DAF. Since the gift's irrevocable isn't this essentially increasing spending by $12K that first year? If the Roth contributions are part of a 2nd/3rd tier emergency fund I'd want a pretty healthy buffer before withdrawing them...but then the buffer could be used to fund the DAF!
I suppose there are other assumptions about the underlying scenario:
1) The giver has a comfortable cash emergency fund (also - keep in mind the taxable "feeder" account can be drawn on in an emergency), and
2) Since the giver is determined to give to charity each and every year, the "Roth-like" tax-free growth of the DAF can be considered a shield for the giver's future income & investments. Ultimately, the giver will give a certain % of gross annual income every year. That either has to come from the DAF, earned income, or distributions from retirement accounts. In the end, it doesn't seem to make a difference (until we get to 70 and RMDs and QCDs come into play).

In a way, the DAF is like an HSA in that charitable distribution enjoy tax free status (like health expenses out of an HSA). In this case, charitable donations can be assumed to be almost as inevitable as health expenses. The HSA is said to have "triple tax free status" - so does this DAF!

Additionally, the size of the DAF can be controlled because of the ongoing monthly cash flow. If the DAF gets too big, I can redirect those contributions to a 401k, 529, etc. There is little risk that the DAF gets too big.

Thanks everyone. I really appreciate the feedback. Please keep it coming.
Last edited by camillus on Fri Sep 07, 2018 8:52 pm, edited 1 time in total.

MrBeaver
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by MrBeaver » Fri Sep 07, 2018 10:43 am

OP,

Another thought: If there is a concern that pulling from the Roth to start this strategy is reducing tax-free money in retirement, then one could essentially use the initial 12k added deduction over the standard deduction to do a traditional -> Roth conversion without raising taxable income which might otherwise bump one into a higher tax bracket. Functionally, this would be like 'fast-forwarding' a QCD from tax-deferred accounts without changing one's Roth balance. This strategy may be advantageous for someone in the following situation:
  • has a higher than desired traditional/Roth ratio because of projected SS tax hump / torpedo
  • will not have enough time or bracket space to adjust through conversions during lower income years before RMDs
  • is not currently at a higher marginal tax rate than one expects to be after RMDs kick in
This situation seems likely for moderate earners with high savings rates, and I imagine there are quite a few Bogleheads who fall into that camp.

soccerrules
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by soccerrules » Fri Sep 07, 2018 11:27 am

OP-
I posted a similar thread yesterday as well.

I am moving appreciated assets from my taxable account to avoid the LT cap gain tax and take advantage of the every other year "bunching".

I have not taken the additional steps to look at the DAF costs and mechanics of contributions, yet. Looking at Jan 2019 action for 2019/2020

I will be able to increase my tax-deferred savings with this move in addition to gaining the income tax benefit.

I like other posters think a withdrawal from your Roth is not optimal and perhaps hurting you in the long run with the LOSS of tax free growth and tax free withdrawals. I would rethink this move.
Don't let your outflow exceed your income or your upkeep will be your downfall.

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camillus
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by camillus » Fri Sep 07, 2018 12:07 pm

soccerrules wrote:
Fri Sep 07, 2018 11:27 am
I like other posters think a withdrawal from your Roth is not optimal and perhaps hurting you in the long run with the LOSS of tax free growth and tax free withdrawals. I would rethink this move.
I'm sorry - but I'm not sure I lose tax free growth & withdrawals :happy

My initial $12k transfer from Roth will continue to grow tax free inside of the DAF & taxable feeder account. Eventual withdrawals will also be tax free, when given to charity.

One additional benefit over a Roth is that profits can be taken before age 59, without penalty. This is acheived in the strategy above by stopping the monthly $1k "feeding" contributions for a time. This is the same effect as profit-taking. And this "saved" cash flow can be put toward maxing out other retirement accounts (401k, Roth, 529, etc) - continuing some sort of tax privilege.

Backing up, the advice that is often given here to the question "Where should I put my money?" is usually something like:
1) 401k to match
2) HSA
3) traditional or Roth IRA
4) 401k to max
5) 529 if desired
6) taxable

Each year, a person has a lot of different savings vehicles to choose with saved-dollars. There are 10s of thousands of dollars worth of tax advantaged space to fill. What I am trying to figure out is if starting this DAF strategy as outlined above is worth the opportunity cost of fully investing in most of the vehicles in the list above in the year that the DAF is created.

I posed that the initial investment that funded the DAF came as a withdrawn Roth contribution. It is more likely in my case to be the lost opportunity cost of maxing out Roth contributions for 2019, which really is the same.

Conventional advice wouldn't even have creating a DAF on the list above. If you have any saved money, max out these vehicles from top to bottom.

I am starting to think differently, that starting a DAF should rank at about 2.5 on the list above for the person outlined in "Scenario" in the OP.

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camillus
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by camillus » Fri Sep 07, 2018 12:39 pm

MrBeaver wrote:
Fri Sep 07, 2018 10:43 am
Another thought
Interesting! I suppose you could also do this every other year, as long as you wanted to. Instead of increasing your deductions, your deductions would stay the same but you would be slowly transferring a tIRA balance to Roth without paying additional taxes.

soccerrules
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by soccerrules » Fri Sep 07, 2018 1:41 pm

camillus wrote:
Fri Sep 07, 2018 12:07 pm
soccerrules wrote:
Fri Sep 07, 2018 11:27 am
I like other posters think a withdrawal from your Roth is not optimal and perhaps hurting you in the long run with the LOSS of tax free growth and tax free withdrawals. I would rethink this move.
I'm sorry - but I'm not sure I lose tax free growth & withdrawals :happy

My initial $12k transfer from Roth will continue to grow tax free inside of the DAF & taxable feeder account. Eventual withdrawals will also be tax free, when given to charity.

One additional benefit over a Roth is that profits can be taken before age 59, without penalty. This is acheived in the strategy above by stopping the monthly $1k "feeding" contributions for a time. This is the same effect as profit-taking. And this "saved" cash flow can be put toward maxing out other retirement accounts (401k, Roth, 529, etc) - continuing some sort of tax privilege.

Backing up, the advice that is often given here to the question "Where should I put my money?" is usually something like:
1) 401k to match
2) HSA
3) traditional or Roth IRA
4) 401k to max
5) 529 if desired
6) taxable

Each year, a person has a lot of different savings vehicles to choose with saved-dollars. There are 10s of thousands of dollars worth of tax advantaged space to fill. What I am trying to figure out is if starting this DAF strategy as outlined above is worth the opportunity cost of fully investing in most of the vehicles in the list above in the year that the DAF is created.

I posed that the initial investment that funded the DAF came as a withdrawn Roth contribution. It is more likely in my case to be the lost opportunity cost of maxing out Roth contributions for 2019, which really is the same.

Conventional advice wouldn't even have creating a DAF on the list above. If you have any saved money, max out these vehicles from top to bottom.

I am starting to think differently, that starting a DAF should rank at about 2.5 on the list above for the person outlined in "Scenario" in the OP.
I did not say it was a horrible plan, just not optimal IMO. There are very few FREE rides anymore, and I see a Roth as about as close as it comes, especially if you keep the money in there for years. :D
Don't let your outflow exceed your income or your upkeep will be your downfall.

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camillus
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by camillus » Fri Sep 07, 2018 9:05 pm

soccerrules wrote:
Fri Sep 07, 2018 1:41 pm
I did not say it was a horrible plan, just not optimal IMO. There are very few FREE rides anymore, and I see a Roth as about as close as it comes, especially if you keep the money in there for years. :D
Thanks, soccerrules. I agree that the Roth is very good. I think I am discovering one of those "free rides" with the DAF strategy above, even for someone with limited means but who gives regularly to charity.

This is like a Roth IRA, but with the additional benefit of paying you nearly $2000 in cash every other year - and that's for someone in the 12% federal income tax bracket with 4-5% state income tax. The benefit scales up for someone in the 22% bracket with state income tax to $3000+ cash every other year.

Sorry - I'm trying to be responsive and thorough with this thread so that I think this through for my own implementation (and for fun) and so that anyone in a similar situation to me can find this and see if it makes sense for them.

MrBeaver
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by MrBeaver » Fri Sep 07, 2018 10:58 pm

camillus wrote:
Thu Sep 06, 2018 8:19 pm
Edit, Summary: I believe I have discovered a strategy where a pairing of a DAF and a new, feeder taxable account is superior to contributing to a Roth IRA, even in the 12% federal tax bracket, given certain special criteria.
This conclusion doesn't quite sit well with me intuitively. I think it's creative, and superior to cash-flowing donations because of the bunching income tax gain. But I'd stop short of saying it is 'superior to contributing to a Roth IRA'. It does have some advantages (flexibility for one), but assuming the investment grows on average, contributing to unused Roth space and then pulling out those contributions to send to the DAF in bunching years is superior to using taxable space, because there is zero tax drag on the earnings.

But it's still a very valuable idea. I just contend that it should sit between numbers 4 and 5 in your list instead of between numbers 2 and 3 as you suggested:
camillus wrote:
Fri Sep 07, 2018 12:07 pm
Backing up, the advice that is often given here to the question "Where should I put my money?" is usually something like:
1) 401k to match
2) HSA
3) traditional or Roth IRA
4) 401k to max
5) 529 if desired
6) taxable
...
I am starting to think differently, that starting a DAF should rank at about 2.5 on the list above for the person outlined in "Scenario" in the OP.
One interesting idea is perhaps using the gains (and perhaps the tax savings, if not used for Roth conversion space) to gradually beef up the DAF. Once it grows to 3x yearly donations, then you can bunch 3x donations instead of 2x, which essentially boosts the tax savings by 33% (2x deduction above standard deduction every three years, or 2/3x per year average instead of 1x every two years, or 1/2x per year average). The benefit of stretching it past that decreases geometrically (33%, 12.5%, 6.67%, 4.1%, 2.86%...), so it may not make much sense to stretch it past 3 or maybe 4 years.

I will admit that the high management fees of DAFs has scared me away in the past, but this thought experiment is making me second guess that because of the potential tax savings. Since I'm currently in an inexpensive home that is paid off in a state with no state income tax, it has a higher hurdle to climb for me than you. But if I upgrade to a more expensive home with a mortgage in the future, I will likely pursue some version of this. But since I'm maxing my tax-advantaged (1-4 above only) space, I'll likely just save up in taxable and use some appreciated shares to jump-start this if I do pursue a bunched DAF strategy in the future.

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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by Hoosier CPA » Fri Sep 07, 2018 11:05 pm

This is really interesting. I'm looking into doing the same thing this year for my family. We give a fixed % of our gross income each year. For this year (2018) my income is higher than typical as I lost a job but received severance and landed a better paying job. So, combining my higher income for this year with the change in the standard deduction, I'm thinking about moving my planned giving for both 2019 and 2020 to a DAF from a taxable account where I have unrealized gains built up. Then, over 2019 and 2020, I'll take the cash I was giving and buy mutual funds, and at the same time give the same amount out of the DAF.

The sequence of returns risk is something I still need to think through. I think it could be managed by keeping all the funds involved in this in bond funds but I haven't thought it fully through yet.

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camillus
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by camillus » Sat Sep 08, 2018 12:29 am

Hoosier CPA wrote:
Fri Sep 07, 2018 11:05 pm
This is really interesting. I'm looking into doing the same thing this year for my family. We give a fixed % of our gross income each year. For this year (2018) my income is higher than typical as I lost a job but received severance and landed a better paying job. So, combining my higher income for this year with the change in the standard deduction, I'm thinking about moving my planned giving for both 2019 and 2020 to a DAF from a taxable account where I have unrealized gains built up. Then, over 2019 and 2020, I'll take the cash I was giving and buy mutual funds, and at the same time give the same amount out of the DAF.

The sequence of returns risk is something I still need to think through. I think it could be managed by keeping all the funds involved in this in bond funds but I haven't thought it fully through yet.
You seem like a prime candidate for this strategy, since you have taxable investments ready to seed the DAF. Then you take your same cash flow and redirect it. With the sequence of return risk, I am thinking about holding bonds in the DAF as a part of my overall asset allocation (so I can hold more stocks elsewhere).
MrBeaver wrote:
Fri Sep 07, 2018 10:58 pm
camillus wrote:
Thu Sep 06, 2018 8:19 pm
Edit, Summary: I believe I have discovered a strategy where a pairing of a DAF and a new, feeder taxable account is superior to contributing to a Roth IRA, even in the 12% federal tax bracket, given certain special criteria.
This conclusion doesn't quite sit well with me intuitively. I think it's creative, and superior to cash-flowing donations because of the bunching income tax gain. But I'd stop short of saying it is 'superior to contributing to a Roth IRA'. It does have some advantages (flexibility for one), but assuming the investment grows on average, contributing to unused Roth space and then pulling out those contributions to send to the DAF in bunching years is superior to using taxable space, because there is zero tax drag on the earnings.

But it's still a very valuable idea. I just contend that it should sit between numbers 4 and 5 in your list instead of between numbers 2 and 3 as you suggested...
MrBeaver, thanks for being a good conversation partner on this. I agree, intuitively it doesn't seem right to prioritize this strategy over a Roth IRA. I am at a place where next year I'll have a choice to either start this strategy or fully fund two Roth IRAs. I am already maxing a 403b (special treatment for clergy) and an HSA.

I think I am arriving at a spot in developing this strategy where it seems like I should take 2019 to fund the DAF instead of funding two Roth IRAs, or effectively withdrawing contributions from Roth IRAs to fund the DAF. I'm trying to see if its rational to do so.

I'm going to have to think through what you say about always contributing to Roth space and then making withdrawals in itemizing years. You mentioned this because of tax drag, but it also might have other benefits, like with sequence of return risk.

You seem closer than me because you are already maxing out tax advantaged space and don't have to worry about the opportunity cost of missing making 2019's full tax-advantaged contributions.
MrBeaver wrote:
Fri Sep 07, 2018 10:58 pm
One interesting idea is perhaps using the gains (and perhaps the tax savings, if not used for Roth conversion space) to gradually beef up the DAF. Once it grows to 3x yearly donations, then you can bunch 3x donations instead of 2x, which essentially boosts the tax savings by 33% (2x deduction above standard deduction every three years, or 2/3x per year average instead of 1x every two years, or 1/2x per year average). The benefit of stretching it past that decreases geometrically (33%, 12.5%, 6.67%, 4.1%, 2.86%...), so it may not make much sense to stretch it past 3 or maybe 4 years.
This seems like a good idea, I'm going to look into it.

Thanks again.

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camillus
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by camillus » Sun Sep 09, 2018 12:46 am

On Tax Free Withdrawals & the End Game

I have been comparing this DAF strategy as a benchmark to a Roth IRA contribution from a tax advantage perspective. Roth IRAs have tax free growth and withdrawals. In this strategy, the DAF (and the feeder taxable account) also clearly has tax free growth. It is harder to prove that this strategy also has tax free withdrawals.

First of all, you could simply leave the money in the DAF to grow and grow to eventually be used towards charities, even after your death, so if you don't need the profits that the principle generates - more power to you.

If on the other hand you want or need to take some of the return and use it for living expenses, you can do so - also tax free. BUT, you have to do it at the rate of your cash flow to charitable contributions.

Every month you send $1k to the DAF or taxable feeder account, and every month the DAF give $1k to charity. The DAF is effectively a pass-through account, and the $1k monthly cash flow can be thought of as part of the investment, as if you were giving the $1k directly to charity from checking and the DAF had no contributions or withdrawals. The original DAF investment continues to grow as if it were a Roth IRA contribution.

So, let's say your DAF grew to $48k, and you only need it to be $36k, or you'd simply like to appropriate some of the earnings elsewhere. What you could do is simply stop feeding the strategy with your monthly cash flow of $1k, while the DAF continues, per your values, to make $1k donations to charity.

Since we established before that the DAF is serving simply as a pass through account, not feeding the account with your cash flow has the same effect as making a tax-free withdrawal, as long as you wish to continue to give to charity. In a year where the DAF makes $12k donations, but is not fed $12k, it is as if you took $12k earnings tax & penalty free. In other words, the charity gets $12k and your checking account gets an "extra" $12k since the cash flow to charity is generated by the DAF and not your earned income.

With a Roth IRA, if you contribute $12k and it grows tax free to $48k over 20 years, you can withdraw the $48k without tax or penalty as long as you are older than 59 1/2.

With this DAF strategy, if you contribute $12k and it grows tax free to $48k over 20 years, you can "withdraw" the $48k without tax or penalty at the rate of your charitable cash flow, let's say $12k over 4 years - and you can do this before 59 1/2. At that point the strategy is unwound.

So this strategy has similar characteristics to a Roth IRA, but has one additional benefit. During the 20 years that the DAF was growing, per the assumptions in "scenario" in the OP and in this post, you also earned an additional $14,400 during the 20 years in (tax-free) tax savings - which presumably would also be invested.

In the end, the DAF strategy over the 20 years had a +30% higher return than a Roth IRA contribution.
If the giver bumps up to the next bracket, the returns are even higher.

(Remember, only the principle investment is at stake - just $12k. The giver would continue to fund a Roth IRA after a brief break to make the initial investment to the DAF + feeder strategy.)

Please give me your feedback. :happy

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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by LinusP » Sun Sep 09, 2018 11:20 am

When you contribute assets to the DAF, they aren't yours any more. I understand that you can choose the asset allocation in the DAF and choose both when and how much to donate to charities, and I get your point about redirecting cash flow - but you can't make contributions 'yours' again. Think about these possibilities:
  1. You lose your job, and along with it all cash flow to redirect.
  2. The DAF starts denying donations to certain charities, or otherwise changes policies in a way that affects your intended donations.
It's great that you're planning how to make your charitable giving self-sustaining - but be careful not to be so generous that you put yourself in a position where you can no longer give. Things change, and you still need to have your own assets so you can react to those changes. I'd be careful about accumulating too much in any DAF for the same reason.

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camillus
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by camillus » Sun Sep 09, 2018 6:18 pm

accidental double post, sorry :P
Last edited by camillus on Sun Sep 09, 2018 6:20 pm, edited 1 time in total.

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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by camillus » Sun Sep 09, 2018 6:18 pm

LinusP wrote:
Sun Sep 09, 2018 11:20 am
When you contribute assets to the DAF, they aren't yours any more. I understand that you can choose the asset allocation in the DAF and choose both when and how much to donate to charities, and I get your point about redirecting cash flow - but you can't make contributions 'yours' again. Think about these possibilities:
  1. You lose your job, and along with it all cash flow to redirect.
  2. The DAF starts denying donations to certain charities, or otherwise changes policies in a way that affects your intended donations.
It's great that you're planning how to make your charitable giving self-sustaining - but be careful not to be so generous that you put yourself in a position where you can no longer give. Things change, and you still need to have your own assets so you can react to those changes. I'd be careful about accumulating too much in any DAF for the same reason.
Thanks, LinusP. In my thinking above I'm only trying to illustrate to myself that setting aside a few thousand dollars of would-be Roth contributions, or a Roth contribution withdrawal, is not a heavy opportunity cost. In fact, it's a rational thing to do because I maintain tax-free compounding and gain the ability to itemize every other year.

I written some of the thought experiments above as if the DAF had quadrupled in size, just to illustrate that the strategy maintains Roth-like characteristics. In reality, I don't think I would ever let the DAF (not my asset) grow to more than 150-200% of my annual giving (well, perhaps 300% in case I wanted to start itemizing every third year). I would be "making withdrawals," or intermittently pushing pause on feeding the account, in order to maintain its smaller size. The cash flow would be redirected to maxing out other investment space. So, over time the DAF would become less and less a % of my net worth. Again, all while the strategy allows regular tax saving.

In the event of an emergency or job loss, I would only have $18-24k locked into the DAF, with the feeder taxable account accessible to me, and other assets available (emergency fund, Roth IRA, 403b, home equity, etc).

In the event that the rules of the DAF changed, I could stop contributing to it and give directly to charities that were disallowed, and make best use of the money left in the DAF with preferred charities that remain allowed.

I hear you about being generous. There is a small segment of the population that gives at higher levels, even at lower incomes. The tax savings obviously isn't the objective of this giving, BUT, if the giving is happening anyways it might be worth looking into making it more efficient.

Doing otherwise would have the effect of preferring to pay extra taxes rather than having that extra money go to charity or your kid's college expenses, for example.

Please don't mind me being thorough. I'm trying to convince myself one way or the other, draw feedback, and leave a record for anyone else in my situation.

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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by inbox788 » Mon Sep 10, 2018 1:23 am

Interesting idea, but I’m having trouble after several readings following the different starting points and end points. I’d like to see what happens if you equalize the end points, similar to zero down car leases to eliminate down payment effect. Also, the lease cars are returned as well as the comparisons are also sold are returned to avoid comparing a 4 year old car to new leasing options. I’ll have to retry again to take a closer look, but from my understanding, you’re aborting limited Roth space and never replenishing it, so imo, you’re not ending up with same comparable endpoints. A flat fee or donation at the start or end that makes the two or more comparisons identical at the endpoint would be helpful in comparing scenarios that complete, but the path taken are different resulting in different risk profiles along the way.

Most importantly, if you’re not maximizing tax advantages space, that may be the place where the maximum benefit may be attained for retirement. Investing in taxable for many years and big gains and donating that the last high income year before retirement may be the best strategy to maximize tax benefit and what the charity gets.

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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by soccerrules » Mon Sep 10, 2018 9:44 am

camillus wrote:
Fri Sep 07, 2018 9:05 pm
soccerrules wrote:
Fri Sep 07, 2018 1:41 pm
I did not say it was a horrible plan, just not optimal IMO. There are very few FREE rides anymore, and I see a Roth as about as close as it comes, especially if you keep the money in there for years. :D
Thanks, soccerrules. I agree that the Roth is very good. I think I am discovering one of those "free rides" with the DAF strategy above, even for someone with limited means but who gives regularly to charity.

This is like a Roth IRA, but with the additional benefit of paying you nearly $2000 in cash every other year - and that's for someone in the 12% federal income tax bracket with 4-5% state income tax. The benefit scales up for someone in the 22% bracket with state income tax to $3000+ cash every other year.

Sorry - I'm trying to be responsive and thorough with this thread so that I think this through for my own implementation (and for fun) and so that anyone in a similar situation to me can find this and see if it makes sense for them.
Camillus-
No worries. This is good info for me since i am looking to do the same for 2019.

I see the optimal strategy taking place after retirement and moving funds from tIRA's to avoid taxation at all and reducing RMD's.
Don't let your outflow exceed your income or your upkeep will be your downfall.

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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by camillus » Mon Sep 10, 2018 12:01 pm

Warning - this post is going to be disgusting and will probably have some (hopefully small) math errors
inbox788 wrote:
Mon Sep 10, 2018 1:23 am
Interesting idea, but I’m having trouble after several readings following the different starting points and end points. I’d like to see what happens if you equalize the end points... I’ll have to retry again to take a closer look, but from my understanding, you’re aborting limited Roth space and never replenishing it, so imo, you’re not ending up with same comparable endpoints. A flat fee or donation at the start or end that makes the two or more comparisons identical at the endpoint would be helpful in comparing scenarios that complete, but the path taken are different resulting in different risk profiles along the way.

Most importantly, if you’re not maximizing tax advantages space, that may be the place where the maximum benefit may be attained for retirement. Investing in taxable for many years and big gains and donating that the last high income year before retirement may be the best strategy to maximize tax benefit and what the charity gets.
OK, to satisfy myself and to be the most thorough, I think I have to do a year-by-year of how this strategy would concretely work in a real world situation, implementing many safeguards I’ve learned from replies above in the thread. I’m putting an obscene amount of thought into this thread, kind of embarrassing. At least it’s fun.

Benchmark: $18k in a Roth IRA, earning 6% compounding interest, starting in year 2019.

Now let’s see how the DAF feeder strategy does:

2019
$18k withdrawn from Roth IRA, given to DAF. This is 150% of annual giving to prevent DAF from bottoming out.
Each month $1k is put in DAF and DAF gives $1k to charity
DAF ending balance is $18k
Itemize taxes

2020
DAF grew to $18,980 (6% interest minus $100 annual fee)
$12k ($1k/mo) is put in taxable, and DAF gives $12k to charity
DAF ends at $6,980
Taxable ends at $12k
Received $1,440* in prior year tax savings, put in Best Investment Vehicle Available, “BIVA” (ie, Roth IRA, 529, 403b)
*(edit: actually $2190, a $720 difference. I'll compound $720 by 6% and add to the comparison at the end)

2021
DAF grew to $7298 (w fee)
Taxable grew to $12720, given to DAF
Cash flow: $12k to DAF, $12k of DAF to charity
$1526 in other best investment
Itemize taxes

2022
DAF grew to $21,119 (6% interest minus $100 annual fee)
Only $10k* is put in taxable, and DAF gives $12k to charity *yikes, grew too fast
$2k goes from unused cash flow to BIVA
Received $1,526 in prior year tax savings, put in BIVA
DAF ends at $9,119
Taxable ends at $9k
BIVA ends at $3,143

2023
DAF grew to $9,566 (w fee)
Taxable grew to $9,540, given to DAF
Cash flow: $12k to DAF, $12k of DAF to charity
BIVA ends at $3331
Itemize

2024
DAF grew to $20,152 (w fee)
Only $11k is put in taxable, and DAF gives $12k to charity *going to try to only feed $11k/yr
$1k goes from unused cash flow to BIVA
Received $1,144 in prior year tax savings, put in BIVA
DAF ends at $7,152
Taxable ends at $11k
BIVA ends at $4,675

2025
DAF grew to $7,481 (w fee)
Taxable grew to $11,660, given to DAF
Cash flow: $11k to DAF, $12k of DAF to charity
$1k goes from unused cash flow to BIVA
DAF ends at $18,141
BIVA ends at $5,955
Itemize

2026
DAF grew to $19,129 (w fee)
Only $11k is put in taxable, and DAF gives $12k to charity
$1k goes from unused cash flow to BIVA
Received $1,399 in prior year tax savings, put in BIVA
DAF ends at $7,129
Taxable ends at $11k
BIVA ends at $8,711 -- 7 years in

At this point, the “BIVA” is growing with contributions of $1k per year, plus tax savings every two years, all compounding at 6%.

2027
DAF grew to $7,456 (w fee)
Taxable grew to $11,660, given to DAF
Cash flow: $11k to DAF, $12k of DAF to charity
$1k goes from unused cash flow to BIVA
DAF ends at $18,116
BIVA ends at $10,233
Itemize

2028
DAF grew to $19,102 (w fee)
Only $11k is put in taxable, and DAF gives $12k to charity
$1k goes from unused cash flow to BIVA
Received $1,399 in prior year tax savings, put in BIVA
DAF ends at $7,202
Taxable ends at $11k
BIVA ends at $13,246


2027
DAF grew to $7,534 (w fee)
Taxable grew to $11,660, given to DAF
Cash flow: $11k to DAF, $12k of DAF to charity
$1k goes from unused cash flow to BIVA
DAF ends at $19,194
BIVA ends at $15,040
Itemize

2028
DAF grew to $20,245 (w fee) -- time to harvest some cash flow
Only $10k is put in taxable, and DAF gives $12k to charity
$2k goes from unused cash flow to BIVA
Received $1,399 in prior year tax savings, put in BIVA
DAF ends at $8,245
Taxable ends at $10k
BIVA ends at $18,341

2029
DAF grew to $8,639 (w fee)
Taxable grew to $10,600, given to DAF
Cash flow: $11k to DAF, $12k of DAF to charity
$1k goes from unused cash flow to BIVA
DAF ends at $19,229
BIVA ends at $20,441
Itemize

2030
DAF grew to $20,282 (w fee)
Only $10k is put in taxable, and DAF gives $12k to charity
$2k goes from unused cash flow to BIVA
Received $1,272 in prior year tax savings, put in BIVA
DAF ends at $8,282
Taxable ends at $10k
BIVA ends at $24,939

After 10 years, let’s check in with our benchmark. The Roth IRA has $32,235.
Let’s unwind the DAF strategy over the next few years and see where things come out, maintaining the current giving rate of $12k per year.

2031
Benchmark:
Roth grew to $34,169. A $12k withdrawal was made and given to charity.
Roth ends at $22,169.

Strategy:
DAF grew to $7779 (w fee)
Taxable grew to $10,600, given to DAF
$12k from DAF goes to charity
No new cash flow
DAF ends at $6,379
Taxable ends at $0
BIVA ends at $26,435

2032
Benchmark:
Roth grew to $23,499. A $12k withdrawal was made and given to charity.
Roth ends at $11,499.

Strategy:
DAF grew to $6661 (w fee), goes to charity, account closed.
BIVA withdrawal of $5339 given to charity. Total given to charity $12k.
BIVA ends at $22,682 (+$1,448)

After 12 years, given a great deal of assumptions (including ones that cut against the DAF, like the taxpayer never making into the 22% bracket)...

...the DAF strategy is $12,631 ahead. That’s a payoff of about $1k a year.

There are a few things that could make the DAF strategy more powerful, like
1) contributing more per year, thus increasing deductions
2) itemizing every third year by making x3 annual gifts, this would add 33% to tax savings
3) allowing the DAF to grow unhindered for more charitable gifts in retirement (before RMDs, I gather)

The way I've written out the above is to expose the giver to the least risk by keeping the DAF balance only around 150% of annual giving. If DAF rules change, or if tax law changes, the escape hatch is not too far away.

inbox788
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by inbox788 » Mon Sep 10, 2018 12:56 pm

camillus wrote:
Mon Sep 10, 2018 12:01 pm
Benchmark: $18k in a Roth IRA, earning 6% compounding interest, starting in year 2019.
...
2019
$18k withdrawn from Roth IRA, given to DAF. This is 150% of annual giving to prevent DAF from bottoming out.
Each month $1k is put in DAF and DAF gives $1k to charity
DAF ending balance is $18k
Itemize taxes
...
2032
Benchmark:
Roth grew to $23,499. A $12k withdrawal was made and given to charity.
Roth ends at $11,499.

Strategy:
DAF grew to $6661 (w fee), goes to charity, account closed.
BIVA withdrawal of $5339 given to charity. Total given to charity $12k.
BIVA ends at $22,682

After 12 years, given a great deal of assumptions (including ones that cut against the DAF, like the taxpayer never making into the 22% bracket)...

...the DAF strategy is $11,183 ahead. That’s a payoff of a little less than $1k a year.

There are a few things that could make the DAF strategy more powerful, like
1) contributing more per year, thus increasing deductions
2) itemizing every third year by making x3 annual gifts
3) allowing the DAF to grow for more charitable gifts in retirement (before RMDs, I gather)
Way too much detail for me to follow, but if I understand the strategy, you start with $12k or $18k in Roth and make a DAF contribution (some tax benefit year 1). Additionally (including year 1) you add $12k/year for next 12 years, while at the same time donating/granting it a charity, so no net additions. If you simply left it in the Roth, 1.06^12 = 2, so the Roth account would grow to $24k or $36k. This is space that isn't likely to get refilled if you're maxing out tax advantaged space. In retirement, I don't think future donations would come from Roth accounts if other accounts are available (i.e. taxable vs. 401k/tIRA).

I think most of the difference you're showing from the alternative plan is from every other year tax benefit starting at $1,440 from lumping, so about $9k plus some compound growth. I don't think you're giving the Roth scenario this benefit that accounts and that accounts for the majority of the difference. And there may be more benefit from funds coming from tIRA or taxable instead of Roth.

Anyway, there are benefits to using a DAF, and it can help with tax planning, but don't overcomplicate matters and misattributed the tax itemization benefit to the DAF. If the charity could accept $24k donations every other year, you'd wind up in a similar position, without a DAF and with Roth account intact. (when you retire, would you take $36k in Roth and donate it then? Especially if you had 401k/tIRA, taxable and other sources of income? -- anyway, the value of the tax-free growth of Roth during earning years and maybe 30+ years of retirement shouldn't be ignored)

And if you take it a step further (though more complicated), you could look at the charity investment stream of the funds you donate. You can donate $1 today or hold on to it for 6% growth in 12 years and donate $2. The charity can take the $1 it receives today and invest it the same way to spend $2 in 12 years. No overall difference when you only consider the start or end.

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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by MrBeaver » Mon Sep 10, 2018 1:35 pm

inbox788 wrote:
Mon Sep 10, 2018 12:56 pm
I think most of the difference you're showing from the alternative plan is from every other year tax benefit starting at $1,440 from lumping, so about $9k plus some compound growth. I don't think you're giving the Roth scenario this benefit and that accounts for the majority of the difference.
Precisely. Bunching donations into a DAF provides a tax benefit. If the only way to start that tax benefit is to pull money from a Roth, then it has an opportunity cost. If we assume the taxpayer is in the 12% bracket though, that opportunity cost isn't any different than if the money were in a taxable account since LTCG rate is 0%.

By my calculations which I don't yet fully trust, assuming your same 6% growth, I calculate it takes 6.5 years to break even if in the 22% bracket, and 16 years to break even if in the 12% bracket (due to lower tax benefit).

So I have two takeaways:
  • This has quite a bit of value for anyone in the 22% bracket
  • Jump-starting with taxable money is highly preferable to jump-starting with Roth money, but if the tax rate is high or time horizon is long, it's likely still worth it to jump-start with Roth if that's the only way possible.
Another way of thinking of this is that you are buying an unusually good-termed annuity which pays you the tax benefit every other year, but only until the point where you are eligible for QCDs from qualified accounts. It costs you 1.5 years of donations up front. The size of that tax benefit every other year determines the time it takes for growth of that benefit to grow to a larger sum than the 1.5 years of donations if you had left them invested. So the younger you are, and the higher your income is, the more likely this strategy is to be beneficial.

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camillus
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by camillus » Mon Sep 10, 2018 3:07 pm

inbox788 wrote:
Mon Sep 10, 2018 12:56 pm
If you simply left it in the Roth, 1.06^12 = 2, so the Roth account would grow to $24k or $36k. This is space that isn't likely to get refilled if you're maxing out tax advantaged space. In retirement, I don't think future donations would come from Roth accounts if other accounts are available (i.e. taxable vs. 401k/tIRA).
I suppose my thinking is that your withdrawals are fungable. If you don't have to withdraw $12k from a Roth (or another retirement account), then it's like putting $12k into a retirement account. A penny saved is a penny earned. If you make donations in a year when you withdraw from a tIRA and a Roth IRA, you could have saved $12k in Roth withdrawals.
And there may be more benefit from funds coming from tIRA or taxable instead of Roth.
I suppose you are right, in that there would be potential tax deductability from tIRA donations. The only difference with this strategy might be that you accelerating the deductions. I've got to think through this a bit more. If you contribute (tax free) to a 403(b), at some point roll it to a tIRA, and then withdraw/donate from your tIRA, that money has triple-tax benefit. Free contribution, free growth, free withdrawal -- IF you can guarantee it is tax deductible in the end.

With this DAF strategy, you control deductions and tax savings as you go. There's no reason why you can't combine the strategies and make contributions to the DAF from tIRA as soon as you are eligible.
Anyway, there are benefits to using a DAF, and it can help with tax planning, but don't overcomplicate matters and misattributed the tax itemization benefit to the DAF. If the charity could accept $24k donations every other year, you'd wind up in a similar position, without a DAF and with Roth account intact.
I agree, but my strategy is trying to address three things:
1) The opportunity cost of the money used to accelerate the lumping of deductions every other year, while
2) The charity never goes a month without getting $1k, and
3) Retirement accounts, namely Roth, are not being maxed out

Therefore, the DAF & feeder strategy has to have a compounding element on the principle.
And if you take it a step further (though more complicated), you could look at the charity investment stream of the funds you donate. You can donate $1 today or hold on to it for 6% growth in 12 years and donate $2. The charity can take the $1 it receives today and invest it the same way to spend $2 in 12 years. No overall difference when you only consider the start or end.
I agree, it depends on one's charitable style. The charities I typically support need the regular cash for operations. They can invest if they want. :happy
MrBeaver wrote:
Mon Sep 10, 2018 1:35 pm
Precisely. Bunching donations into a DAF provides a tax benefit. If the only way to start that tax benefit is to pull money from a Roth, then it has an opportunity cost. If we assume the taxpayer is in the 12% bracket though, that opportunity cost isn't any different than if the money were in a taxable account since LTCG rate is 0%.

By my calculations which I don't yet fully trust, assuming your same 6% growth, I calculate it takes 6.5 years to break even if in the 22% bracket, and 16 years to break even if in the 12% bracket (due to lower tax benefit).

So I have two takeaways:
  • This has quite a bit of value for anyone in the 22% bracket
  • Jump-starting with taxable money is highly preferable to jump-starting with Roth money, but if the tax rate is high or time horizon is long, it's likely still worth it to jump-start with Roth if that's the only way possible.
Another way of thinking of this is that you are buying an unusually good-termed annuity which pays you the tax benefit every other year, but only until the point where you are eligible for QCDs from qualified accounts. It costs you 1.5 years of donations up front. The size of that tax benefit every other year determines the time it takes for growth of that benefit to grow to a larger sum than the 1.5 years of donations if you had left them invested. So the younger you are, and the higher your income is, the more likely this strategy is to be beneficial.
I have thought about the idea of "breaking even," but I think the strategy pays off/breaks even immediately, as long as its assumed the giver will continue to give.

Even in year 2, you collect your tax savings, but still have a 1.5 years worth of donations in the DAF. Over the next two years you could "pull the rip cord" and unwind the DAF by giving to charity, and this protects $1k/month of your cash flow, paying you back your principle. You can use this cash flow to max out your best investment vehicle available (HSA, 403b, Roth IRA x2, 529 - there's a lot of "tax free" space).

There isn't a break even point because you are simply moving money between accounts in year 1. It pays off immediately, again, only if the giver is determined to maintain the same cash flow to charity.

I think.

Thank you both very much for humoring me :P

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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by MrBeaver » Mon Sep 10, 2018 3:47 pm

camillus wrote:
Mon Sep 10, 2018 3:07 pm
There isn't a break even point because you are simply moving money between accounts in year 1. It pays off immediately, again, only if the giver is determined to maintain the same cash flow to charity.

I think.
The gain is in the form of reduced taxes (from the deduction). The cost is in the form of lost earnings on the initial 1.5x yearly giving amount. Instead of letting the earnings grow, you are choosing to give them away. I suppose you can argue that the initial 1.5x yearly giving amount will 'stay' in the account and allow for depleting the DAF 1.5 years prior to QCD beginning, but you have still given up the earnings on that money if it had stayed invested prior to that time.

From what I've seen so far, it makes sense if you're in the 22% bracket, or as a strategy to prevent being in the 22% bracket and/or allow additional 0% gain harvesting or Roth conversions every other year without getting into the 22% bracket. I haven't yet seen (or don't understand) the argument and data for it making sense within the 12% bracket when you would still be in the 12% bracket if you didn't use this strategy. At that low reduced tax benefit, the growth from holding onto the initial 1.5x yearly giving amount may be worth more than the tax benefit.

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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by MrBeaver » Mon Sep 10, 2018 4:13 pm

camillus wrote:
Mon Sep 10, 2018 12:01 pm
Received $1,440* in prior year tax savings, put in Best Investment Vehicle Available, “BIVA” (ie, Roth IRA, 529, 403b)
*(edit: actually $2190, a $720 difference. I'll compound $720 by 6% and add to the comparison at the end)
I'm not sure I follow your logic completely, but let's continue this analysis, but compare the tax benefit to the amount earned if one had left the Roth money in the Roth (and not contributed to jump-start the DAF):

Code: Select all

Investment Return:                                    6%
Marginal Tax Rate:                                   12%
Unfilled St. Deduction Space:                         12

Year    Roth Balance    Roth Earnings   DAF Add (Jan)   DAF Balance (Dec)  Donation        Deduction Benefit  Benefit Growth
       0              18             0.0              18                  6              12               0.72             0.7
       1            19.1             1.1              24                 18              12               1.44             2.2
       2            20.2             2.2                                  6              12                  0             2.3
       3            21.4             3.4              24                 18              12               1.44             3.9
       4            22.7             4.7                                  6              12                  0             4.2
       5            24.1             6.1              24                 18              12               1.44             5.8
       6            25.5             7.5                                  6              12                  0             6.2
       7            27.1             9.1              24                 18              12               1.44             8.0
       8            28.7            10.7                                  6              12                  0             8.5
       9            30.4            12.4              24                 18              12               1.44            10.4
      10            32.2            14.2                                  6              12                  0            11.1
      11            34.2            16.2              24                 18              12               1.44            13.2
      12            36.2            18.2                                  6              12                  0            13.9
      13            38.4            20.4              24                 18              12               1.44            16.2
      14            40.7            22.7                                  6              12                  0            17.2
      15            43.1            25.1              24                 18              12               1.44            19.7
      16            45.7            27.7                                  6              12                  0            20.9
      17            48.5            30.5              24                 18              12               1.44            23.5
      18            51.4            33.4                                  6              12                  0            25.0
      19            54.5            36.5              24                 18              12               1.44            27.9
      20            57.7            39.7                                  6              12                  0            29.6
At 12% marginal rate, the Roth earnings minus principal (Roth Earnings) is growing faster than the invested tax benefit (Benefit Growth). However, at 22%, it's a different story:

Code: Select all

Investment Return:                                    6%
Marginal Tax Rate:                                   22%
Unfilled St. Deduction Space:                         12

Year    Roth Balance    Roth Earnings   DAF Add (Jan)   DAF Balance (Dec)  Donation        Deduction Benefit  Benefit Growth
       0              18             0.0              18                  6              12               1.32             1.3
       1            19.1             1.1              24                 18              12               2.64             4.0
       2            20.2             2.2                                  6              12                  0             4.3
       3            21.4             3.4              24                 18              12               2.64             7.2
       4            22.7             4.7                                  6              12                  0             7.6
       5            24.1             6.1              24                 18              12               2.64            10.7
       6            25.5             7.5                                  6              12                  0            11.3
       7            27.1             9.1              24                 18              12               2.64            14.7
       8            28.7            10.7                                  6              12                  0            15.5
       9            30.4            12.4              24                 18              12               2.64            19.1
      10            32.2            14.2                                  6              12                  0            20.3
      11            34.2            16.2              24                 18              12               2.64            24.1
      12            36.2            18.2                                  6              12                  0            25.6
      13            38.4            20.4              24                 18              12               2.64            29.7
      14            40.7            22.7                                  6              12                  0            31.5
      15            43.1            25.1              24                 18              12               2.64            36.1
      16            45.7            27.7                                  6              12                  0            38.2
      17            48.5            30.5              24                 18              12               2.64            43.2
      18            51.4            33.4                                  6              12                  0            45.8
      19            54.5            36.5              24                 18              12               2.64            51.1
      20            57.7            39.7                                  6              12                  0            54.2
So as far as I see it, it's worth it in the 22% bracket and not in the 12% bracket. At 17% marginal rate, it's roughly break-even:

Code: Select all

Investment Return:                                    6%
Marginal Tax Rate:                                   17%
Unfilled St. Deduction Space:                         12

Year    Roth Balance    Roth Earnings   DAF Add (Jan)   DAF Balance (Dec)  Donation        Deduction Benefit  Benefit Growth
       0              18             0.0              18                  6              12               1.02             1.0
       1            19.1             1.1              24                 18              12               2.04             3.1
       2            20.2             2.2                                  6              12                  0             3.3
       3            21.4             3.4              24                 18              12               2.04             5.5
       4            22.7             4.7                                  6              12                  0             5.9
       5            24.1             6.1              24                 18              12               2.04             8.3
       6            25.5             7.5                                  6              12                  0             8.8
       7            27.1             9.1              24                 18              12               2.04            11.3
       8            28.7            10.7                                  6              12                  0            12.0
       9            30.4            12.4              24                 18              12               2.04            14.8
      10            32.2            14.2                                  6              12                  0            15.7
      11            34.2            16.2              24                 18              12               2.04            18.6
      12            36.2            18.2                                  6              12                  0            19.8
      13            38.4            20.4              24                 18              12               2.04            23.0
      14            40.7            22.7                                  6              12                  0            24.4
      15            43.1            25.1              24                 18              12               2.04            27.9
      16            45.7            27.7                                  6              12                  0            29.5
      17            48.5            30.5              24                 18              12               2.04            33.4
      18            51.4            33.4                                  6              12                  0            35.4
      19            54.5            36.5              24                 18              12               2.04            39.5
      20            57.7            39.7                                  6              12                  0            41.9

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camillus
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by camillus » Mon Sep 10, 2018 6:02 pm

MrBeaver wrote:
Mon Sep 10, 2018 3:47 pm
The gain is in the form of reduced taxes (from the deduction). The cost is in the form of lost earnings on the initial 1.5x yearly giving amount. Instead of letting the earnings grow, you are choosing to give them away. I suppose you can argue that the initial 1.5x yearly giving amount will 'stay' in the account and allow for depleting the DAF 1.5 years prior to QCD beginning, but you have still given up the earnings on that money if it had stayed invested prior to that time.
Actually, I think the way I have it construed, the initial $18k in the DAF & taxable feeder account is still fully invested. That’s why it’s funded with 1.5 years worth of donations - so it can keep from bottoming out in a market crash.

As the $18k's earnings accrue, they are reinvested in the next best investment account available, by way of redirected cash flow (instead of feeding the DAF $1k, putting it into a Roth or 529).

So in both the benchmark and the DAF strategy, all money is invested.

The only difference seems to be that with the DAF strategy, it accumulates money with this formula:

(Annual average tax savings - $100 DAF fee) * 6% annual compounding inside of best available investment account.

As you mentioned, the principle $18k is returned to you by way of free charitable contributions once you stop feeding the DAF.

If we are talking past each other, I might not be understanding. :confused :P :happy
Last edited by camillus on Mon Sep 10, 2018 7:59 pm, edited 1 time in total.

MrBeaver
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by MrBeaver » Mon Sep 10, 2018 6:32 pm

camillus wrote:
Mon Sep 10, 2018 6:02 pm
So in both the benchmark and the DAF strategy, all money is invested.

The only difference seems to be that with the DAF strategy, it accumulates money with this formula:

(Annual average tax savings - $100 DAF fee) * 6% annual compounding inside of best available investment account.
Ah, ok. I think I get it now. Thanks for putting up with me!

As a potential benefit to those who wish to make consistent giving part of their practice, it has the effect of creating an ‘emergency giving fund’ where one may be less likely to curtail giving from the DAF in the event of a job loss at least for a year, for instance.

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camillus
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by camillus » Mon Sep 10, 2018 6:49 pm

MrBeaver wrote:
Mon Sep 10, 2018 6:32 pm
Ah, ok. I think I get it now. Thanks for putting up with me!

As a potential benefit to those who wish to make consistent giving part of their practice, it has the effect of creating an ‘emergency giving fund’ where one may be less likely to curtail giving from the DAF in the event of a job loss at least for a year, for instance.
Thank YOU for sticking it out with me on this hair brained thread :beer

+1 to your idea

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camillus
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by camillus » Wed Sep 12, 2018 12:41 pm

MrBeaver wrote:
Fri Sep 07, 2018 10:43 am
Another thought: If there is a concern that pulling from the Roth to start this strategy is reducing tax-free money in retirement, then one could essentially use the initial 12k added deduction over the standard deduction to do a traditional -> Roth conversion without raising taxable income which might otherwise bump one into a higher tax bracket. Functionally, this would be like 'fast-forwarding' a QCD from tax-deferred accounts without changing one's Roth balance. This strategy may be advantageous for someone in the following situation:
  • has a higher than desired traditional/Roth ratio because of projected SS tax hump / torpedo
  • will not have enough time or bracket space to adjust through conversions during lower income years before RMDs
  • is not currently at a higher marginal tax rate than one expects to be after RMDs kick in
This situation seems likely for moderate earners with high savings rates, and I imagine there are quite a few Bogleheads who fall into that camp.
I got a chance to think about this a bit more, and I think this tactic is an answer to the objection to taking a Roth contribution withdrawal to get this started. Or missing the opportunity to fully contribute to a Roth. Roth opportunity cost. "You will never get that Roth space back."

Except you can, and much more. Every year that you itemize, you can make a "free" Roth conversion. (You'd have to decide which you'd rather have, increased Roth space or the tax savings as cash in hand.)

Using the numbers in some of the case studies above, I could do a Roth conversion from a Traditional IRA at the rate of 12k every other year for "free." You just have to have a tIRA lying around, from a job change as example.

This strategy gives you the ability to manipulate your taxes, which lends itself to a lot of creativity, including the possible ability to control your ratio of Deferred to Roth space in your portfolio, without having to pay taxes.

:shock:

I was a bit fuzzy on recharacterization vs. conversion, and recent changes with TCJA. I had to read up on conversions. For reference:
https://investor.vanguard.com/ira/roth-conversion
https://www.nerdwallet.com/blog/investi ... onversion/

inbox788
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by inbox788 » Thu Sep 13, 2018 11:27 am

camillus wrote:
Wed Sep 12, 2018 12:41 pm
Except you can, and much more. Every year that you itemize, you can make a "free" Roth conversion. (You'd have to decide which you'd rather have, increased Roth space or the tax savings as cash in hand.)
I'm not sure I understand this correctly. Years when you're taking the standard deduction doesn't afford this benefit, and at least every other year is part of the strategy, with some benefit only itemizing 1:3 or 1:4). Additionally while you get the immediate tax benefit, I don't think you're getting compounded growth tax benefit.

I understand you're dealing with a situation where tax-advantaged space isn't completely filled. I think the goal should be to maximize tax-advantaged space though ones lifetime, especially Roth early on. There's potentially 30+ years of tax free growth compounded AND much longer during retirement if it's not tapped too early.

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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by camillus » Thu Sep 13, 2018 2:58 pm

inbox788 wrote:
Thu Sep 13, 2018 11:27 am
camillus wrote:
Wed Sep 12, 2018 12:41 pm
Except you can, and much more. Every year that you itemize, you can make a "free" Roth conversion. (You'd have to decide which you'd rather have, increased Roth space or the tax savings as cash in hand.)
I'm not sure I understand this correctly. Years when you're taking the standard deduction doesn't afford this benefit, and at least every other year is part of the strategy, with some benefit only itemizing 1:3 or 1:4). Additionally while you get the immediate tax benefit, I don't think you're getting compounded growth tax benefit.
Hmm, the compounded growth tax benefit could continue if you to feed the DAF with your ongoing cash flow & taxable.

Another option for tax-advantage is using the money saved by increased deductions to contribute to retirement accounts (we are in a situation where this space is not maxed, that's the problem we are addressing).

I think that the benefit of increasing deductions over time is better than any suboptimization in the tax status of where the compounding occurs - Roth vs 401k vs even taxable, since there is a decent chance of free LTCG (with current law).

If by chance you have more income and are bumped into the tax bracket, the increased deductions are even more valuable. And this tax savings can be invested.

What is at risk with this strategy is a mere one or 1 1/2 years' worth of Roth contributions. It is looking to me that it is worthwhile. I have time to contemplate since the time to enact is late 2019 for me.

Thanks for writing - I continue to to need to think things through :-)

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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by StealthRabbit » Thu Sep 13, 2018 3:48 pm

MrBeaver wrote:
Mon Sep 10, 2018 6:32 pm
...

Ah, ok. I think I get it now. Thanks for putting up with me!

As a potential benefit to those who wish to make consistent giving part of their practice, it has the effect of creating an ‘emergency giving fund’ where one may be less likely to curtail giving from the DAF in the event of a job loss at least for a year, for instance.
For me... applicable when I retire (for the 3rd time)

I Have had many times (seasons / sabbaticals // retirement / gap yrs) without income, but I have ongoing desire / commitment to fund charities for the last 40+ yrs.

DAF is an appropriate tool.
There are many investment options in my DAF, so it is able to sustain itself for next generation of giving. Kids get no inheritance, only the subsequent administer of DAF & responsibility to direct and sustain gifting from DAF (which they can also liquidate to whatever charity they choose.)

inbox788
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by inbox788 » Thu Sep 13, 2018 4:38 pm

camillus wrote:
Thu Sep 13, 2018 2:58 pm
Hmm, the compounded growth tax benefit could continue if you to feed the DAF with your ongoing cash flow & taxable.
Still doesn't get back Roth space AFAIK.
This situation seems likely for moderate earners with high savings rates, and I imagine there are quite a few Bogleheads who fall into that camp.
I got a chance to think about this a bit more, and I think this tactic is an answer to the objection to taking a Roth contribution withdrawal to get this started. Or missing the opportunity to fully contribute to a Roth. Roth opportunity cost. "You will never get that Roth space back."

Except you can, and much more. Every year that you itemize, you can make a "free" Roth conversion. (You'd have to decide which you'd rather have, increased Roth space or the tax savings as cash in hand.)
When one chooses between tIRA vs Roth, and hasn't maxed out both, the answer depends on current and future tax rates. If you add DAF as an alternative, it also adds to the depends. And if you have future opportunity to add to any of these tax advantaged programs, then the question is more of a sequence of when to add to which account. There is also 529 and HSA that is somewhere inbetween as far as spending timeframe. Roth is add for 20-40 years and then spend. A 529 is add for 10-20 years and a DAF is spend as you go. HSA can be either or any for now. Which account you're adding to and which you're spending from and the difference in tax rates is going to make up a large factor of the difference, keeping other factors equal. Not sure if compounded growth would make much of a difference, maybe more so in the pre-tax accounts.
camillus wrote:
Thu Sep 13, 2018 2:58 pm
If by chance you have more income and are bumped into the tax bracket, the increased deductions are even more valuable. And this tax savings can be invested.
I think this is likely in your prime earning years, but conventional wisdom says you're going to go down tax brackets in retirement. YMMV.

MrBeaver
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by MrBeaver » Thu Sep 13, 2018 5:40 pm

camillus wrote:
Thu Sep 13, 2018 2:58 pm
I think that the benefit of increasing deductions over time is better than any suboptimization in the tax status of where the compounding occurs - Roth vs 401k vs even taxable, since there is a decent chance of free LTCG (with current law).
This is the crux of the strategy to me.

Cost = increased fees from DAF (min $100/year, max 0.5% of balance)
Benefit = annualized benefit from tax deduction through bunching in a DAF in excess of the benefit from taking the standard deduction or itemizing every year

I computed the following examples, though the actual results may vary based on the amount of 'buffer' one wants in the DAF due to the asset allocation they may choose (these assume one year extra DAF balance than the DAF bunching term). These contour plots show the dollars of tax benefit per year gained over standard donations and itemization if more than the standard deduction as a function of the thousands of dollars of non-donation deductions and and donations one has each year. What's interesting (though not surprising) is that you lose money if your non-donation Schedule A deductions get equal to or greater than the standard deduction. Also interesting is that the benefit stops rising and then gradually begins to reduce as one's average total deductions exceed 24k per year, presumably because above that level, you are spending extra in DAF fees and not getting as much of an extra benefit. Also not captured here are any AGI percentage limits for donations, but that could come into consideration. If you are outside of the zero contour, it's better to not use a DAF. If using a DAF seems like more hassle, pick a contour that makes it worth your while.

Anyway, I hope this helps. If there is more interest I can try to clean up the spreadhseet to post it, but it's a bit ugly right now (and not guaranteed to be without errors).

These show the average yearly dollar amount of tax benefit minus the DAF fees which one would not be paying otherwise to bunching the stated number of years, given the amount of donations and other schedule A deductions each year.

Image
Image
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Last edited by MrBeaver on Fri Sep 14, 2018 2:19 pm, edited 1 time in total.

Silk McCue
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by Silk McCue » Thu Sep 13, 2018 6:11 pm

This is a thought provoking discussion. To contribute, I wanted to share what I have done over the past couple of years to support tax efficient charitable giving and Roth Conversions (The Intro) which shows discusses how I funded that (not complex) and what I have been ruminating on for a few months regarding funding a DAF at age 59.5 (The Meat and Potatoes). I also do not have a lot of Taxable to work with so I will have to be creative.

My wife and I are 57/59. On December 31, 2020 we will be retired. Just so you know - My wife has a COLA’d pension and we have already accounted for the funds needed to get us to Social Security at 70 without having to touch any of our equity portion of our asset allocation to meet our current standard of living and more.


The Intro

In the last few days of 2016 i donated all charitable giving for the year 2017 in advance after already donating 2016 fully along the way. Right around $12k per year. I did this to provide more headroom to Roth convert to the top of the 12% bracket. I did that by paying with cash on hand.

In the the last few days of 2017 I decided to donate all of my Charitable giving to all recipients for 2 years in advance to take advantage my last opportunity to use our two Personal exemptions on top of charitable, sales tax, property tax etc. This once again gave me more headroom to Roth convert to the top of the 12% bracket. I did not have cash I was willing to part with so I took out two 0% credit cards for 15 and 18 months respectively to fund the entire donation. I am paying those cards off from income flow and they will be paid off on time.

Theses two bunchings helped drive conversions sooner than later and at a higher rate. I would not have even thought of doing this if I hadn’t come across Bogleheads at the end of 2015. This site has helped me immensely.

We will perform Roth Conversions to the top of the 12% bracket this year and in 2019.

The Meat and Potatoes

2020 will be the last year for salaried income and I will 59.5 before the end of the year. I plan to fund a DAF at that time to cover our charitable giving for 2020 - 2028 (9 years). In 2029 my wife will turn 70 and we will utilize QCDs for all charitable giving such that no RMDs will ever be taxed from either of our tax deferred accounts if we plan it right. Time will tell.

I don’t expect to have taxable funds to fund the DAF in 2020. I will fine tune how much to fund the DAF and the asset allocation to allow for moderate growth (not guaranteed growth) to support 9 years of giving - I recognize that market loss may prevent this from happening . Let’s just say for this conversation that will be $90k. I will withdraw $90k from my IRA, donate $12k of that for 2020 and then fund the DAF with $78k. I will be careful to withhold additional taxes throughout the year so that I owe no penalties or interest.

For 2020 I will then have $90k additional subject to taxation prior to itemization. By bunching 2 years of Property Taxes, documentable extra physical donations, and a sales tax deduction based upon higher gross income, only about $6500 will be left that is taxable of the $90k. Time will bring more precision to that figure but it is good enough for planning. I will then do a Roth conversion to the top of whatever is left in the 12% bracket.

This is a double benefit to me in that 1) I am setup to be able to spend more in the first 10 years of retirement at a lower tax bracket (still 12%) because I will not be paying taxes on charitable that I will not be able to maximally deduct even with 2 year bunching since I don’t have a lot of taxable sitting around that I don’t already have plans for. And 2) I have stopped the growth of $90k within my tax deferred which over time would have resulted in even more taxes being paid when withdrawn in a less tax favorable method.

Roth conversions will then be planned for the next 8 years prior to my wife turning 70 to the top of the 12% bracket. The goal once again will be to leave enough in the tax deferred accounts so that they will satisfy charitable giving via QCDs while never being taxed once RMDs are required . BTW A good portion of these funds were invested while being earned in the 28% bracket so I’m feeling good about that.


I hope this stimulates some thinking and some feedback that might catch holes in my approach or give me insight to a superior approach or some good tweaks.

Let me know your thoughts.

Cheers

MrBeaver
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by MrBeaver » Thu Sep 13, 2018 6:26 pm

Silk McCue wrote:
Thu Sep 13, 2018 6:11 pm
For 2020 I will then have $90k additional subject to taxation prior to itemization. By bunching 2 years of Property Taxes, documentable extra physical donations, and a sales tax deduction based upon higher gross income, only about $6500 will be left that is taxable of the $90k. Time will bring more precision to that figure but it is good enough for planning. I will then do a Roth conversion to the top of whatever is left in the 12% bracket.
Be careful that you understand the various limits for deductions going to different tax-deductible entities as a percentage of AGI. Most are 50%, some are 30%, but I believe there is carryforward also. I'm nowhere near an expert in this, but I know enough to know that if you're withdrawing 90k from an IRA and trying to deduct 83k, that will probably run afoul of these limits.

It still may work, but you may need to smooth your conversions as the carryforward of the deduction works its way out.

Silk McCue
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by Silk McCue » Thu Sep 13, 2018 6:35 pm

MrBeaver wrote:
Thu Sep 13, 2018 6:26 pm
Be careful that you understand the various limits for deductions going to different tax-deductible entities as a percentage of AGI. Most are 50%, some are 30%, but I believe there is carryforward also. I'm nowhere near an expert in this, but I know enough to know that if you're withdrawing 90k from an IRA and trying to deduct 83k, that will probably run afoul of these limits.

It still may work, but you may need to smooth your conversions as the carryforward of the deduction works its way out.
Great point. This has already been on my mind while contemplating this strategy. I am certainly going to need to be prepared to bring that number down to be in full compliance. I will spend time looking at this. Thanks again.

Cheers

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camillus
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by camillus » Fri Sep 14, 2018 11:36 pm

inbox788 wrote:
Thu Sep 13, 2018 4:38 pm
Still doesn't get back Roth space AFAIK.
No, you don't get that Roth space back, but you get these benefits:
1) The DAF continues to be invested in the asset class of the former Roth money.
2) You get to do "free" Roth conversions at different points, if you wish.
3) The tax savings spun off by increased deductions (that you wouldn't have otherwise) can be put in other tax advantaged accounts, including Roth.
4) In terms of retirement end-game, you can spend down the DAF while protecting other retirement assets, including the DAF. Or, you can engineer further tax-clumping to do Roth conversions or simply withdrawing from deferred accounts.
5) The taxable "feeder" account can contribute taxable gains freely to DAF, while losses can be sold prior to going to the DAF, generating taxable losses - so in a way, this compounding is better than tax free :happy
When one chooses between tIRA vs Roth, and hasn't maxed out both, the answer depends on current and future tax rates. If you add DAF as an alternative, it also adds to the depends. And if you have future opportunity to add to any of these tax advantaged programs, then the question is more of a sequence of when to add to which account. There is also 529 and HSA that is somewhere inbetween as far as spending timeframe. Roth is add for 20-40 years and then spend. A 529 is add for 10-20 years and a DAF is spend as you go. HSA can be either or any for now. Which account you're adding to and which you're spending from and the difference in tax rates is going to make up a large factor of the difference, keeping other factors equal. Not sure if compounded growth would make much of a difference, maybe more so in the pre-tax accounts.
I think of this DAF strategy as something like an HSA or a 529, a special investment dedicated to a stream of future expenses, with special tax perks. I'm trying to evaluate where in the "order of investment" it fits, and if it makes sense to put money (a large chunk is required up front) to get it started. Not only does it receive a one-time tax deferral in the year you begin, but because of it's ongoing pass-through of cash flow, it continues to generate deductions - while continuing to compound and funding other investment vehicles.
MrBeaver wrote:
Thu Sep 13, 2018 5:40 pm
Anyway, I hope this helps. If there is more interest I can try to clean up the spreadhseet to post it, but it's a bit ugly right now (and not guaranteed to be without errors).
Thanks for these spreadsheets! I'm not sure I understand all the factors. After looking at it, I think I understand it a bit more now.

*

Yet another idea I've had is "using a DAF" to pay for college expenses:
1) DAF assets will not show up on a FAFSA, potentially allowing you to qualify for some kind of aid.
2) Additionally, tax clumping during FAFSA years may also increase eligibility for aid.
3) A person committed to charitable giving even while paying for kids' college, can saving up charitable contributions for that time in a DAF.
4) At some point during college expenses, you stop feeding this strategy and use that cash flow to pay for college.

Let's compare tax treatment to a 529:
529 contribution that may be state tax free --> tax free growth & withdrawal
DAF contribution may partly be fed income tax free --> ongoing increased deductions from feeding from taxable --> "withdraws" (deferred cash flow) tax free (?)

I need to get my head back on straight. This is a complicated subject.

MrBeaver
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by MrBeaver » Sat Sep 15, 2018 1:22 am

camillus wrote:
Fri Sep 14, 2018 11:36 pm
I think of this DAF strategy as something like an HSA or a 529, a special investment dedicated to a stream of future expenses, with special tax perks. I'm trying to evaluate where in the "order of investment" it fits, and if it makes sense to put money (a large chunk is required up front) to get it started.
The way I’m starting to think of it is as a vehicle which ‘almost’ adds to one’s tax deferred space by the amount they wish to donate to charity each year. This is because the taxable gains are not taxed if funding the DAF from taxable appreciated securities, so with the exception of tax drag on dividends and increased DAF fees, it’s almost the equivalent of additional Roth space. But those costs are real, and it doesn’t compound forever. On the other hand, the opportunity to tax loss harvest shares if they have a loss prior to feeding the DAF is a unique and large advantage. My big takeaway is to do what is necessary to start a decent sized taxable now so that in the next 4-10 years when it makes sense to use this strategy, I’ll have appreciated shares I can use to jump start it.
camillus wrote:
Fri Sep 14, 2018 11:36 pm
MrBeaver wrote:
Thu Sep 13, 2018 5:40 pm
Anyway, I hope this helps. If there is more interest I can try to clean up the spreadhseet to post it, but it's a bit ugly right now (and not guaranteed to be without errors).
Thanks for these spreadsheets! I'm not sure I understand all the factors. After looking at it, I think I understand it a bit more now.
Feel free to ask if you’re confused. By my calculations, this shows that you (assuming 12k charitable contributions and 12k non-charitable deductions yearly) gain roughly $400/year with two years bunched in a DAF over the standard deduction, and $600/year with three years bunched in a DAF, once additional fees from DAF are accounted for. Additional savings would occur if appreciated taxable securities are used to feed the DAF.
camillus wrote:
Fri Sep 14, 2018 11:36 pm
Yet another idea I've had is "using a DAF" to pay for college expenses:
1) DAF assets will not show up on a FAFSA, potentially allowing you to qualify for some kind of aid.
2) Additionally, tax clumping during FAFSA years may also increase eligibility for aid.
3) A person committed to charitable giving even while paying for kids' college, can saving up charitable contributions for that time in a DAF.
4) At some point during college expenses, you stop feeding this strategy and use that cash flow to pay for college.

Let's compare tax treatment to a 529:
529 contribution that may be state tax free --> tax free growth & withdrawal
DAF contribution may partly be fed income tax free --> ongoing increased deductions from feeding from taxable --> "withdraws" (deferred cash flow) tax free (?)
I really like 1 and 2 for anyone near an eligibility cutoff for a grant, especially when/if using previous HSA qualified expenses to fund living or college expenses without increasing taxable income. But I think saying the contributions to the DAF are partially tax free as well as ‘ongoing increased deductions from feeding from taxable’ is double dipping conceptually unless you’re only talking about capital gains not being realized in the second case.

inbox788
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by inbox788 » Sat Sep 15, 2018 3:02 am

Yet another idea I've had is "using a DAF" to pay for college expenses:
1) DAF assets will not show up on a FAFSA, potentially allowing you to qualify for some kind of aid.
2) Additionally, tax clumping during FAFSA years may also increase eligibility for aid.
3) A person committed to charitable giving even while paying for kids' college, can saving up charitable contributions for that time in a DAF.
4) At some point during college expenses, you stop feeding this strategy and use that cash flow to pay for college.
It's strange for me to consider making charitable donations at the same time as receiving student aid. It seems it would be simpler and more efficient to just use the funds to directly pay tuition (avoid passing through unnecessary hands each one wasting some time, energy and money), but with all the different incentives involved, it invites these type of financial Rube Goldberg solutions.
camillus wrote:
Fri Sep 14, 2018 11:36 pm
5) The taxable "feeder" account can contribute taxable gains freely to DAF, while losses can be sold prior to going to the DAF, generating taxable losses - so in a way, this compounding is better than tax free :happy
FAS and FAZ are 3X market and 3X inverse funds that if you bought both would cancel each other out, but feeding them into DAF has interesting possibilities. In the last 5 years, SPY went up 50% vs FAS 300% and FAZ -90%. If you started with $200 in SPY, you could donate $300. Or you could have bought $100 FAS and $100 FAZ worth $400 and $10 now, respectively, so you'd have $400 donation and $90 TLH. In a bear market, your SPY would be a loss, but FAZ would go up, so you would still have gain to donate and TLH FAS losses. You only lose if SPY is prolonged flat and FAS and FAZ are flat minus (substantial inefficiency) fees. A basket of individual stocks with some scattered gains and losses may achieve similar type of effects.

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camillus
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by camillus » Sat Sep 15, 2018 3:25 am

MrBeaver wrote:
Sat Sep 15, 2018 1:22 am
My big takeaway is to do what is necessary to start a decent sized taxable now so that in the next 4-10 years when it makes sense to use this strategy
I suppose is a reasonable position I should also take.
By my calculations, this shows that you (assuming 12k charitable contributions and 12k non-charitable deductions yearly) gain roughly $400/year with two years bunched in a DAF over the standard deduction, and $600/year with three years bunched in a DAF, once additional fees from DAF are accounted for.
Here is my math for 2 years in the 12%:
12k noncharitable deductions
24k charitable deduction lump
12k over the standard
* 12% = $1440
($1440 - $100 daf fee) / 2 years = $620/yr

In the same way, 3 years in the 12% comes to $860

Not a whole ton of money either way down in the 12% bracket. Still, "free" money.
inbox788 wrote:
Sat Sep 15, 2018 3:02 am
It's strange for me to consider making charitable donations at the same time as receiving student aid. It seems it would be simpler and more efficient to just use the funds to directly pay tuition (avoid passing through unnecessary hands each one wasting some time, energy and money), but with all the different incentives involved, it invites these type of financial Rube Goldberg solutions.
I am starting to agree that there is a little bit of "ick" factor with this strategy - making a machine out of charitable giving. On the other hand, I very much want/need my dollars to go to the things I prioritize. So there's the rub. Not sure how I feel about it.

MrBeaver
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by MrBeaver » Sat Sep 15, 2018 8:16 am

MrBeaver wrote:
Sat Sep 15, 2018 1:22 am
camillus wrote:
Fri Sep 14, 2018 11:36 pm
Yet another idea I've had is "using a DAF" to pay for college expenses:
1) DAF assets will not show up on a FAFSA, potentially allowing you to qualify for some kind of aid.
2) Additionally, tax clumping during FAFSA years may also increase eligibility for aid.
3) A person committed to charitable giving even while paying for kids' college, can saving up charitable contributions for that time in a DAF.
4) At some point during college expenses, you stop feeding this strategy and use that cash flow to pay for college.

Let's compare tax treatment to a 529:
529 contribution that may be state tax free --> tax free growth & withdrawal
DAF contribution may partly be fed income tax free --> ongoing increased deductions from feeding from taxable --> "withdraws" (deferred cash flow) tax free (?)
I really like 1 and 2 for anyone near an eligibility cutoff for a grant, especially when/if using previous HSA qualified expenses to fund living or college expenses without increasing taxable income. But I think saying the contributions to the DAF are partially tax free as well as ‘ongoing increased deductions from feeding from taxable’ is double dipping conceptually unless you’re only talking about capital gains not being realized in the second case.
FYI, after further thought point 2 doesn't have any effect since EFC is based on MAGI rather than taxable income. Strategy 1 does still help, assuming the funds feeding the DAF Are from a taxable account which counts toward EFC at the parent rate of 5.6%. For a family which plans on giving 12k per year, pre-funding a DAF while the child is in college would remove 60k from parent assets, potentially increasing financial aid by 60k x 5.6% = $3360 per year, or $13440 for the four years in college, a 22.4% benefit. This only helps though if your MAGI is low enough to qualify for grant aid, and you are not eligible for the simplified needs test (which ignores assets) because your MAGI is so low. So there is a limited MAGI range where this is helpful, but if you're in that range, it could result in the government chipping in 20% of your donations (or you being able to donate 20% more than you would otherwise).
camillus wrote:
Sat Sep 15, 2018 3:25 am
MrBeaver wrote: By my calculations, this shows that you (assuming 12k charitable contributions and 12k non-charitable deductions yearly) gain roughly $400/year with two years bunched in a DAF over the standard deduction, and $600/year with three years bunched in a DAF, once additional fees from DAF are accounted for.
Here is my math for 2 years in the 12%:
12k noncharitable deductions
24k charitable deduction lump
12k over the standard
* 12% = $1440
($1440 - $100 daf fee) / 2 years = $620/yr

In the same way, 3 years in the 12% comes to $860
Sorry, my data shows the same numbers once I go look at them instead of estimating from the chart ;)

Interestingly, this benefit is the maximum benefit you could get from this strategy in the 12% bracket assuming you have 12k of other schedule A deductions. Sure, you get additional deductions if you start to donate more than 12k per year, but you would also be higher than the 24k standard deduction if you were not using the DAF strategy. The DAF fees also increase as you donate more since at that point they are greater than the $100 minimum (2-3x average donations balance depending on the amount of buffer you want X 0.5% = $120-$180). So while you still get a benefit from using the DAF strategy when your combined yearly schedule A deductions would exceed the standard deduction, your maximum benefit of the DAF strategy over simply itemizing each year occurs when your yearly schedule A deductions equal the standard deduction.
camillus wrote:
Sat Sep 15, 2018 3:25 am
MrBeaver wrote: MrBeaver wrote: ↑Sat Sep 15, 2018 1:22 am
My big takeaway is to do what is necessary to start a decent sized taxable now so that in the next 4-10 years when it makes sense to use this strategy
I suppose is a reasonable position I should also take.
FYI, my main reason for taking this tact is that I currently have a paid off house, so my non-donation schedule A deductions are only around $3500 since I have no mortgage interest to deduct. We plan to purchase a larger home at some point in the next 5 years, which would put me in a similar situation as you. if I could swing donating 20k per year now, this bunched DAF strategy would give me $1100 per year benefit over taking the standard deduction (a 5.5% benefit) or if I were in the 22% bracket it would net me $2100 per year (10.5% benefit) compared to your 5.1% benefit ($620/year on 12k/year donations). But as is, with my ~12k donations and 4k non-donation deductions, I'm right on the line of it being beneficial (~$100 benefit), which I deem to be not worth it at this point.

This probably has a lot of potential for those retired prior to 70.5 years (when RMDs kick in and one is eligible for QCDs), since they are perhaps more likely to have a paid off or mostly paid off house, and simultaneously seeking to donate larger amounts of money.

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camillus
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Re: DAF > Roth IRA? 12% tax bracket, no taxable

Post by camillus » Sat Sep 15, 2018 8:46 pm

Just a tidbit to throw in, under the more general topic of lumping deductions. In my locale, property taxes can be paid late, but with a penalty - which seems acceptable to the government.

My property tax is due in July, but can be paid the next January for a fee of 6%. You could "double up" your property tax in years when you itemize, as long as you stay below the 10k SALT limit. This might or might not have a benefit.

Some other tidbits that make this strategy change in effectiveness over time:
1) One will likely pay less mortgage interest per year.
2) Property taxes will likely go up.
3) Income will go up, meaning charity and state taxes will also likely go up.
4) The standard deduction may or may not go up.

Also, newly learned: stocks held for less than a year will be taxed at short term capital gains rates even if donated to a DAF. This somewhat undermines the current strategy as I have written above of every-other-year lumping.

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