Since the 1970s, the baby boomer generation (those born between 1946-1964) has been fanatically studied. Are there patterns that can help us understand how this generation of 80 million thinks about charitable giving?
Boomers are philanthropic; however, they choose to support charity in different ways than other generations. To understand this, one doesn’t have to look any further than the meteoric growth of donor-advised funds (DAFs) over the past two decades. Many charities believe advisors are the catalyst for the expansion of new assets into DAFs; however, it has much more to do with boomers’ psychographics about philanthropy that makes DAFs appealing to them. The majority of boomers want to control the process and be more involved before making a significant gift. In a 2016 study, 65% of boomers said they would be more likely to give if they felt solicitations from institutions demonstrated that the institution “really knew them.” In a 2018 study, boomers agreed that the ability to see the impact of their donations would have a significant bearing on their decisions to give and that understanding the impact of their most recent gift’s return on investment would motivate them to make more significant gifts to charity. Finally, in the recent two decades, the unrestricted annual gifts to colleges and universities have plummeted as boomers tightly restricted donations to their alma maters to control a purpose centered on the boomers’ interests rather than the charities’ priorities.
Let’s examine the fundamental concepts and techniques for managing planned giving strategies with the boomer demographic. I’ve identified 10 key issues of concern to boomers and presented solutions based on those concerns. I encourage advisors to further research these suggested charitable solutions for their boomer client base.
1. Fewer Boomers Itemize
Since the Tax Cuts and Jobs Act of 2017 (TCJA), approximately 21 million households moved from regularly itemizing to using the higher standard deduction. Many charities worry that losing the deduction benefit could put a damper on some boomers’ charitable intent. While donors assert that income tax incentives aren’t the primary reasons why they support charity, their actions suggest income tax incentives are essential. As previously mentioned, boomers are currently the most charitable generation, and if they reduce their support of charities because of losing their income tax incentives, this could be harmful to charitable giving.
Solution: Early boomers under age 70½: Charitable bunching of a DAF. A strategy that allows individuals to continue to donate and receive income tax benefits is to bunch donations, either directly to a charity or a DAF, in specific years while limiting contributions in other years. When individual taxpayers contribute by bunching donations, they combine multiple years of “regular” annual charitable contributions into a single year. In the bunching years, the relatively significant contributions, in combination with other itemized deductions that can’t be timed this way (that is, mortgage interest and state and local tax deductions), increase the likelihood of exceeding the standard deduction and thus provides the taxpayers with additional tax savings. By using a DAF, donors can make grants to charities at their regular pace without worrying about the income tax incentives.
For clients to take an interest in charitable bunching, it has to make economic sense to them. An additional strategy that might support the concept of bunching is to promote a simultaneous Roth individual retirement account conversion in the same tax year as bunching to generate more taxable income that can be deducted intentionally.
2. Family Dynamics
Boomers came of age during a period of U.S. history when the complexity of family life increased dramatically. Marriages were delayed or forgone, divorce rates climbed to all-time highs, rates of cohabitation soared, and out-of-wedlock childbearing became more commonplace.
Compared with other generations, boomers are much more likely to be divorced. In fact, in 2009, over 58% of unmarried boomers were single through divorce. These divorces don’t always occur when individuals are young. In 2010, roughly 25% of all divorces occurred among individuals ages 50 and older, now known as “Gray Divorce.” A blended family involves a second (or more) marriage of spouses who have children from previous marriages. A spouse may wish to provide for his current surviving spouse but also wants assurance that at the survivor’s death, his remaining assets will transfer to his children from a previous marriage. He may also want to include a charitable bequest to several organizations.
Most older boomers were raised in a very structured and well-disciplined household. Their mothers stayed home to raise the children. Because many boomers’ family dynamics are divergent from how they grew up, boomers are seeking solutions for their complex family structures to leave their estate to their loved ones and charitable organizations.
Solution: Qualified terminable interest property (QTIP) trust with charitable bequest. For many boomers who are concerned with their beneficiary structure if they predecease their current spouse, a QTIP trust increases the odds that the charity (and other loved ones) will receive the bequest, which is irrevocable at the death of the grantor. On the surviving spouse’s death, the remaining assets in the trust will be included in her estate for purposes of determining the estate tax obligation, unless a formula waiver is involved. The trust remainder typically will pass to beneficiaries from the first-to-die spouse, whose assets initially funded the QTIP. This may be very important in a situation in which the surviving spouse might not be inclined to make provisions for the same beneficiaries as the first--to-die spouse. The QTIP, however, can’t be terminated until the surviving spouse dies.
3. ERISA Changes to Planning
The Employee Retirement Income Security Act of 1974 (ERISA) is considered one of the primary explanations for why defined-benefit (DB) plans peaked by 1985 and today are nearly extinct. Most boomers have participated in a defined-contribution (DC) plan throughout their careers. They’re the first generation to have accumulated a significant part of their wealth in retirement plans, and most clients (and sometimes advisors) underestimate the complexity these assets add to the estate-planning process. To understand this monumental change to estate planning, consider that in 1974, only 18% of all retirement assets were held in DC plans and IRAs (62% were in DB plans), and in 2019, more than 60% are in DC plans.
Today, a stretch IRA can be a useful estate-planning tool because the longer the IRA lasts, the more investment growth can be shielded from taxes. Whether it’s the threat of a beneficiary losing the lifetime stretch because of the SECURE Act currently being discussed by legislators in Washington, D.C. or the fact that a majority of beneficiaries aren’t financially responsible for managing stretching the payment, boomers might consider funding a testamentary CRT using their retirement assets to create an automatic stretch IRA.
Solution: Qualified testamentary CRT as beneficiary of boomers’ IRA. From an income tax perspective, using assets in a retirement account (or any asset considered income in respect of a decedent (IRD)) that have never been taxed can result in tax savings to the donor’s heirs. When a qualified CRT receives IRD assets to fund the life income interest for the donor’s heirs, neither the CRT nor the beneficiary will be subject to immediate income taxes on these assets. Separately, donors can leave non-IRD assets in their wills or trusts to other heirs, which assets qualify for basis step-up.
The donor’s estate document establishing the funding source for the CRT should reference an active CRT and ideally should be in existence before the donor’s death. However, it’s also allowable for the terms of the CRT to be in a will or revocable living trust and become activated when the CRT is funded. The CRT will have an income rate established by the donor, who also selects the income beneficiaries and charities that are to receive the remaining trust assets. Although the annuitants for a charitable gift annuity (CGA) are limited to two, there may be multiple income beneficiaries with a CRT. The trust document should include the name of the trustee, which should be an institution that has experience in administering qualified CRTs.
4. Wealth Transfer Window
Boomers control the majority of ultra-high-net-worth (UHNW) households. Although only .2% of households have exposure to federal transfer taxes, the consequences of failing to plan over the next five years could be a missed opportunity for this group with a net worth typically higher than $20 million. UHNW boomers place a greater priority on inheritance than an average cohort of boomers, but they still have different views because many of the wealthy boomers don’t believe their children are prepared to receive a large inheritance. More wealthy boomers are interested in giving assets to children during their lifetimes with a phenomenon U.S. Trust refers to as “investing in their children as they are growing.” Before advisors assume that wealthy boomers will resist irrevocably giving away assets before 2025 to capitalize on the higher exemptions, they may be surprised how receptive their clients are to the notion of giving away more assets during the boomers’ lifetimes.
Solution: Super grantor charitable lead annuity trust (CLAT) for wealth transfer to children. To lock in the higher federal transfer exemptions, advise clients to use more CLATs with the primary objective of transferring wealth to their children. Most advisors are familiar with the use of a CLAT as an “estate freeze” technique for UHNW households. A CLAT is sometimes best described as a “CRT in reverse” because the roles of charitable and non-charitable beneficiaries are reversed. In a CLAT, a charity leads by receiving an income interest for a certain period, after which noncharitable beneficiaries (typically the grantor’s children) receive the remaining trust principal.
A super CLAT, or grantor defective CLAT, blends elements of both the grantor and non-grantor CLAT format. Boomers who are selling highly appreciated assets, such as real estate, stocks and closely held businesses, and are exposed to long-term gains, depreciation recapture and ordinary income, could surely benefit from timing those gains with a sizable charitable income tax deduction. As with a grantor CLAT, the super CLAT’s items are included in the donor’s gross income, and therefore, the donor is allowed a charitable income tax deduction for the present value of the charitable interest. Should the donor fail to survive the trust term, then a portion of the income tax deduction claimed in the year of funding is recaptured on the donor’s final income tax return. As with a non-grantor CLAT, the super CLAT’s remainder beneficiary is typically the donor’s children; therefore, the donor may also claim a transfer tax deduction for the charitable interest.
5. The Healthiest Generation
Dr. Kenneth H. Cooper, author of the 1968 best-selling book, Aerobics, says, “baby boomers led an unprecedented fitness revolution, into a kind of golden era of health.” In 1968, less than 24% of American adults exercised regularly; by 1984, that figure rose to 59%. And, in large part due to boomers’ exercise obsession, the average life expectancy has increased. With DB plans becoming nearly extinct, studies suggest most pre-retirees want to plan for guaranteed lifetime retirement income. A survey by TIAA-CREF reports that 84% of adults polled want a guaranteed income stream in retirement, and 46% are concerned they’ll run out of money. However, only 14% have purchased some guaranteed annuity to secure a steady stream of lifetime income. The combination of higher life expectancy and shortage of annuity income can represent a risk that boomers will deplete their savings and investments.
Solution: Immediate charitable gift annuity (CGA) to protect against longevity risk. Although it functions in much the same method as other split-interest gifts, a CGA isn’t technically a deferred gift. A CGA is a bargain sale transaction in which the taxpayer transfers cash or other assets to a charity in return for the charity’s promise to make annuity payments to one or two individuals for their lifetimes. CGA payments are backed by the general assets of the charity, as opposed to other life income arrangements (for example, CRTs), in which distributions are backed only from the trust principal. CGAs can provide a surrogate for fixed income during retirement in an environment of low interest rates that may linger for decades. (See “Immediate Charitable Gift Annuity Rate,” p. 54.)
6. Business Succession Planning
According to a comprehensive survey completed recently by UBS, 41% percent of business owners expect to exit their business over the next five years. Most of these business owners are at or approaching traditional retirement age and part of the boomer cohort. Among business owners who plan to exit, about half intend to sell, while 20% want to leave the business to family.
Boomers are considered workaholics, and their careers are a strong anchor in their lives. For a boomer business owner, succession can be a very emotionally charged conversation because most likely, his self-identity is wrapped up in his business. Any reluctance to discuss succession planning on the part of the business owner is a significant risk, considering the owner should either have his children involved in the business or have a team of advisors and potential buyers in place in many cases years before the sale.
Solution: Charitable stock bailout. When a family business owner is philanthropically motivated, is planning to transfer his business to his children and would like to reduce the taxable earnings from the company, a charitable bailout can be an effective strategy. This technique can help the donor achieve his charitable objectives, avoid capital gains tax and distribute excess cash that’s currently accumulated in the corporation tax free.
A traditional charitable bailout includes the following steps:
- To work most optimally, the business should be a C corporation and not an S corporation (S corp).
- Because the value of the shares donated to charity would likely be over $10,000, an appraisal will be required to substantiate the gift.
- The corporation’s owner transfers stock in the corporation to a charity.
- The corporation subsequently redeems the stock from the charity using the corporation’s cash.
- Both the gift of the stock and its redemption are income tax free.
7. Future Income for Old Age
According to the Transamerica Center for Retirement Studies, roughly three out of five boomers plan on continuing employment past the traditional retirement age of 65. The U.S. Bureau of Labor Statistics reports also confirm that the average retirement age is significantly increasing. Many boomers need to work, but many also want to work. Many affluent boomers who can afford to retire don’t have any intention of doing so, in part because they associate retirement with old age and reject the term “senior citizen.” The typical boomer believes “old age” begins at 72 and typically feels nine years younger than his chronological age.
Most retirement studies reinforce a conundrum observed that explores boomers’ receptivity to annuities. Studies confirm the importance boomers place on retirement income and, in particular, that income is guaranteed. However, studies consistently show most boomers are skeptical about annuitizing assets to create a guaranteed income.
Solution: Deferred CGA to age 75. With boomers both working longer and rejecting the idea of old age, a deferred CGA can resonate with an individual between ages 55 and 65 who plans to work past 65 and benefit from a current income tax deduction. If the average boomer envisions old age to begin at 72, he won’t likely consider an annuity unless it’s an existing tool that can help him plan for his financial future in old age.
A deferred CGA is a contract between the charitable organization and a donor that provides payment of a fixed income to one or two annuitants, and payments begin at a future date chosen by the donor. A longer delay between the creation of the deferred CGA and the commencement of payments results in a higher annuity rate. Boomer donors view a deferred CGA as an attractive supplement to their retirement plan. Additionally, a contract can be created specifying a range of future annuity start dates (referred to as a “flexible deferred CGA”), one of which may trigger the income to the donor. If the donor decides he wants the income before age 75, it can be established at any time, and the rate is based on the age the income begins.
8. Overweighted Equities
In its 2017 Global Investment Survey, Legg Mason revealed that boomers were the most likely to identify with a “somewhat aggressive” overall risk tolerance for long-term investing. Boomers were underweight in fixed income relative to the appropriate U.S. target-date funds, while millennials were more conservative, overweighting to fixed income by the same means of comparison. Boomers have historically not invested as much in fixed income because it’s possible during their adult lives they’ve witnessed gradually lower interest rates beginning from the 1970s to 2019.
Solution: A young (that is, in existence for less than three years) pooled income fund (PIF). There’s an opportunity for charities to start a new young PIF for donors in this historically low interest rate environment. The current Section 170(c) charitable deduction that a young PIF will generate for a donor is staggering for this type of life income arrangement compared to either a CRT or CGA. In many cases, the deduction is twice as significant as a CRT.
9. No Downsizing
The downsizing among households in their early retirement years is less common today than in decades’ past. There are significant cultural and attitudinal differences that exist between boomers and older residents in senior living communities. Boomers generally would rather have home health care in old age than move from their homes.
Solution 1: Charitable retained life estate (RLE). An RLE is an ideal planning vehicle for donors who wish to live in their homes the rest of their lives and make a testamentary gift of their property to charity, yet enjoy a current and potentially substantial charitable income tax deduction. The partial interest rules that often prevent these types of gifts have an exception that makes gifts of personal residences attractive. Under this exception, a donor can give a personal residence, ranch or a farm to charity and retain the use of it for the rest of her lifetime. The donor can use an income tax deduction for the present value of the remainder interest.
The property must be used by the donor as a residence but doesn’t have to be the donor’s principal residence; a vacation home may be a personal residence. A personal residence includes all the land used in connection with the residence.
10. Rise of the LLC
Limited liability companies (LLCs) have grown sharply as boomers have amassed their wealth. In the last 25 to 30 years, the rise in the number of business organizations filing to operate as LLCs mirrored the rapid pace of the state statutes. By the end of the 20th century and throughout the early years of the 21st century, it became apparent that the LLC had taken its place in the mainstream, typically in the business areas of finance, real estate and the professional and business service sectors. In 2019, 65% of all sales across New York City are commercial properties owned by LLCs, and in the high-end residential market in Manhattan, 72% of condo sales over $10 million involved an LLC.
A multi-owner LLC is automatically taxed as a partnership by default, while LLCs with one owner are “disregarded entities” taxed like sole proprietorships. However, some LLCs may choose to be taxed as an S corp by completing an election. More new LLCs might use S corp election to take advantage of the new pass-through tax deduction created by the TCJA.
Solution 1: Outright gift of LLC interests to a public charity. Because the majority of LLCs are historically taxed as partnerships, both the donor and the charity need to be aware that these gifts can result in unfavorable tax consequences. A gift could result in the realization of ordinary income by the donor when the partnership has unrealized receivables or appreciated inventory or any investment tax credit subject to recapture known as “hot assets.” The charities don’t necessarily pay UBIT by merely holding a partnership interest so long as the income only is derived from passive income such as dividends, interest, most rents from real property and gains from the sale of assets. Under those conditions, an outright gift to a public charity could be feasible; however, contributions of partnerships to either a PF or CRT would generally be prohibited under self-dealing and other related rules.
This is an adapted version of the author's original article in the October 2019 issue of Trusts & Estates.