What are Charitable Gift Annuities
A charitable gift annuity (CGA) is a type of charitable donation known as planned giving. The charitable gift must be made to a verified non-profit 501(c)(3) charity. This type of organization is exempt from both state and federal taxes. In exchange for a one-time lump-sum premium, the donor is guaranteed lifetime payouts. Payouts are usually made monthly and are made a fixed rate each month.
Setting up a charitable gift annuity is a relatively simple process. The cash or securities the donor wants to use for the annuity are transferred to the charity. This is different than purchasing a standard annuity from a life insurance company, where only cash is used to fund the annuity. Some charities allow the donor to name up to two annuitants, the donor and a spouse, who will both receive payouts for life. When the contract ends at the death of the annuitant or annuitants, the remaining principal passes to the charity.
Questions to ask the Charity
What portion of the charitable gift will actually be put to work for the cause? What portion of the gift will be used for administrative expenses, such as management fees and salaries? How will the money be invested? Has the charity ever had difficulty making the required payouts? How well funded is the reserve fund? Has the charity reinsured any of the charitable gift annuities with a life insurance company? Is the state (in which the contract was written) actively involved in monitoring charitable gift annuities? By asking these questions, a donor should feel comfortable that his or her money is not only safe, but that the principal will be used for the purpose intended when it passes to the charity.
What are the Benefits of Charitable Gift Annuities
The donor of a charitable gift annuity receives an immediate tax deduction for a certain amount of the gift. (The amount that is tax deductible depends on the donors overall financial situation.) The annuity payouts are guaranteed by the charity for life. However, it is up to the donor to ensure that the charity is not only reputable, but has the financial stability and strength to take on a financial liability that could last 20, 30, 40 or more years, depending on the age of the donor at the time the donation is made.
Most charitable annuities are established as immediate annuities, which means payouts begin to the donor immediately. Usually this is within 12 months of the beginning of the contract. Payouts are fixed and guaranteed. A donor will know exactly how much the payout will be each month for the rest of his life.
Annuity payouts made by the charity may be considered to be part ordinary income, part capital gains and part tax-free distribution, depending on what type of assets were used to purchase the annuity. Before purchasing a charitable gift annuity, donors are always advised to seek the advice of a financial planner with expertise in this area. Each donor’s financial situation will determine the tax treatment of his or her payouts.
One of the greatest benefits of charitable gift annuities may not be financial. Knowing that his or her donation will make a difference in the lives of those who benefit from the donation may be the greatest gift of all.
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What are the Disadvantages of Charitable Gift Annuities?
Like all annuities, charitable gift annuities are not insured. The Federal Deposit Insurance Corporation (FDIC) does not insure the principal or the payouts. Therefore, it is imperative that donors make sure the charity they choose is financially sound. Unlike an insurance company that may have access to additional financial resources and capital, charities may not. If the charity depends on donations in order to meet some of the financial obligations it has incurred, it may have difficulty meeting the demands of the payouts if it runs into financial trouble. Further, A.M. Best, Standard and Poor’s and Moody’s Investor Services do not normally rate charities like they do insurance companies. Therefore, it may be more difficult for donors to judge the financial stability of the charity.
Fixed annuities may also not keep pace with inflation. While a guaranteed fixed amount of income each month may help make ends meet at the beginning of the contract, it may not be enough 20 or 30 years in the future. For example, if inflation runs at 3% each year, but the monthly payout remains at $700, the payout will have less purchasing power in later years than it does in earlier years. If possible, donors should consider charitable gift annuities that allow for a cost of living adjustment (COLA) rider. While this may be difficult to find, it can protect a donor in later years.
Charitable gift annuities are irrevocable. That means that no matter what happens, a donor cannot cancel the contract. If the charity declares bankruptcy and cannot meet its financial obligations or if it ceases to operate for other reasons, there will more than likely be creditors ahead of annuitants who will be paid first. The American Council on Gift Annuities may be able to provide information about the payout rates and stability of a particular charity offering charitable gift annuities.
Why Purchase Charitable Gift Annuities?
While charitable gift annuities can provide immediate monthly income for life, they are probably not best suited for donors who truly must have the income each month in order to meet their financial obligations. Purchasing a charitable gift annuity comes with higher risks than purchasing a standard annuity from an insurance company. But, if the purpose of the charitable gift annuity is to leave money for a favorite cause or institution, the monthly income may be secondary. The advantage of being able to obtain an immediate tax deduction while providing money for a university, hospital or other organization that serves the needs of the community, along with generating immediate monthly income may be the best gift of all.
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