The Franz Group serves investors as part of
MacDougall, MacDougall & MacTier Inc.

(This article discusses financial issues and uses fictitious names of people for illustrative purposes.)

Last week we discussed the theoretical case of Steve and Rhonda Baker (not their real names) with regards to the benefits of using RSPs to save for retirement.

This year, they are heading into tax season with optimism because, thanks to their money manager, they have found a way to turn their charitable donations into contributions that not only effect the well being of others, but will also help them to keep more money in their pockets at tax time. Of course the federal government has always rewarded charitable donations by awarding tax credits, but thanks to recent changes in tax rules, Steve and Rhonda can expect a more substantial refund or at least a lower tax bill than in the past.

The Bakers have always given generously to their preferred charity. “It makes us feel good about ourselves.” Rhonda explained. “We are very fortunate that we’ve done well for ourselves and that we’ve planned well for the future. Giving something back has always been important to us, but now it costs us less than in previous years.” The Bakers used to make their charitable donations in cash, but what they learned from their advisor was that they could instead make these donations prior to year end with stocks, bonds or mutual funds.

“And come tax season,” Steve interjects, “we are rewarded with a lower tax bill. What could be better than that?” What Steve and Rhonda are talking about is a change in the federal government’s rules on donations that allow the direct donation of certain assets to registered charities and allows the donor to avoid paying any capital gains tax on the assets donated . Prior to 2006 donations of this type could be made, but capital gain associated with those assets would still be applied, albeit at a lower rate. “Now we can make a donation comprised of securities, directly to our favourite charity and avoid paying any tax on the capital gains.”

“This means we get a tax credit,” Rhonda continues, “that’s based on the current market value of the securities.”

The previous year, the Bakers convinced their friends Jeff and Lisa Bower, who are in similar tax brackets, to contribute to a charitable cause. “Lisa complained to me that she thought her tax refund associated with the donation of $5,000 in cash would be larger, especially given that they were paying taxes at the highest marginal tax rate in Quebec, 48.22%,” Steve said. “We were surprised by this and asked her to explain her situation. She told us that their refund only amounted to $1,408.04. They had raised the $5,000 by cashing out securities that they had purchased for $1,000 many years earlier. She also explained that Jeff had used the tax program they purchased to investigate the impact of selling the securities and making the donation, but that they still did not really understand it.

“At this point I took out my calculator,” Steve continued, “and explained to Lisa the reason for her disappointment. Their first mistake was selling an appreciated asset to raise the money to make the donation. By doing this, they triggered a capital gain of $4,000, the difference between the fair market value of their securities ($5,000) and the adjusted cost base (i.e. what they originally paid for these assets, $1,000).”

In the Bower’s case the tax reduction related to the donation was $2,372.44 minus the increased capital gains taxes of $964.40, or $1,408.04, the amount Jeff derived with the tax program. “I explained that if they had initially donated the $5,000 security instead of the cash, they would have ended up with a tax benefit of $2,372.44 instead of $1,408.04.” she continued, “Lisa said she felt like kicking herself for not looking into this before making her donation.”

The first $200 of every charitable donation you make yields a tax credit of the lowest combined marginal tax bracket (in Quebec 28.5%), and every amount thereafter is credited at the highest combined marginal tax rate (48.22% in Quebec), Rhonda and Steve combine their charitable donations in order to exceed the $200 limit and achieve the higher tax credit while avoiding the use of the $200 limit more than once. “We also learned that you can carry forward donations for up to 5 years, and since our son Adam usually contributes amounts less than $200 per year to charitable causes, it enables him to use the $200 limit only once in 5 years, giving him a greater return.” Rhonda added.

“Lisa asked me how I had learned all this,” she continued. “I told her that was one of the benefits of having a great money manager; I don’t have to know this stuff, but she does and she cares enough to pass along the information to us.”

Adena Franz is a Vice President and Portfolio Manager at MacDougall MacDougall & MacTier Inc. She can be reached at 514-394-3771. The information contained in this article is for general information purposes only. It does not account for specific investment objectives or the financial situation of any person reading it. Opinions expressed are those of the author and do not necessarily represent the opinions of MacDougall, MacDougall & MacTier Inc. Investors should seek professional advice regarding the appropriateness of investing in any securities discussed or recommended here and should recognize that statements regarding future prospects may not be realized.

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