When it comes to the history of certain taxes, my memory stretches back to the 1990s when I first studied tax law at university. In the UK, the top rate of capital gains tax was consistent for many years at 40%, even with changes of government over that decade. With the sense of perspective only time provides, the prospect of any potential return to a 40% tax rate therefore prompts a strong sense of déjà vu.
What also hasn’t changed over the last thirty years is that many people are still fortunate enough to accumulate more investments than they need, and decide to give some away to charity. In other words, they resolve to be charitable, but in practice often struggle to settle on the specific charities to favour. This indecision about which causes or organisations to benefit can be a barrier to philanthropy. There is however a solution.
Setting up your own grant making charity, or alternatively using a donor advised fund (DAF), might give you the best of both worlds.
You can get on with making a gift, and trigger all the tax outcomes which flow from that. You can then develop a plan on how you’d like charitable grants to be made, without all the final decisions needing to be made at the outset. Once your investments have been transferred over into the charitable fund, you can have ongoing involvement in decisions about future grants, either as a trustee (if you’ve set up your own grant making charity) or as an ‘adviser’ (if you’ve taken the simpler and quicker route of setting up a DAF). A DAF is in effect a sub-account of an existing umbrella grant making charity, which means there’s no delay which might otherwise arise when you set-up an entirely new charity which has to be registered for the first time with the charity regulator. With a DAF, you do need to remember that you’re not a trustee. Your grant making remit is to make recommendations on which charities might receive a grant. For many people, this outcome offers light relief from the full burden and responsibilities of charity trusteeship. For others, the greater control which comes from being a trustee points to a preference to set-up a new charity. Each route, whether setting up a new charity or using a DAF, has its merits and limitations and exploring both options will help you find the ‘right fit’ for you.
Let’s consider an example. A higher rate taxpayer in England in their 70s, with no close family, has a significant general investment account (GIA), as well as a generous final salary pension and ISA. Their retirement is well provided for by their pension and ISA and they decide they no longer need £500,000 of their GIA. Let’s say they decide to gift £500,000 worth of investments to a DAF, as they prefer the route which means they don’t have to form their own trustee board, and they can simply be an adviser proposing grants. £500,000 worth of investments from their GIA are transferred over to the DAF, which means the investments are kept intact at the point they land in the DAF account. What has just happened through a tax lens?
First, for inheritance tax, this gift of £500,000 worth of investments is immediately exempt. In the event of that person’s death, their estate would no longer include this value – there is no seven-year clock on this type of gift.
Second, for income tax, there are a couple of points to note. Future dividends arising from the investments in the DAF are no longer taxed on the donor. The investments are owned by a charitable entity (a DAF) and no income tax is therefore due on dividends arising in that portfolio.
A further income tax point relates to the initial gift itself.
Income tax relief could be claimed by the donor, depending on the level of taxable income this individual has for the tax year. Taking tax advice is important, to ensure you don’t overclaim.
Finally, for capital gains tax, by gifting the investments (rather than cash), no capital gains tax arises for the donor on the gift to the DAF due to the DAF’s charitable status. Once the investments are inside the DAF, the portfolio can be rebalanced with investment sales and acquisitions as deemed appropriate, since a DAF does not pay capital gains tax. If you are gifting shares, sometimes a charity might request that you sell the shares on their behalf so that they receive cash. The HMRC website notes that you can still claim tax relief for the donation in this scenario, with a deduction from your total taxable income. As ever, there are points of detail to consider and it will be sensible to take tax advice.
For individuals who have held an investment portfolio for decades, such that the investments are full of capital gains, the UK tax system can make philanthropy rewarding in more ways than one.
The tax treatment depends on the individual circumstances of each client and may be subject to change in the future.
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