Tuesday January 31, 2023
Case of the Week
Exit Strategies for Real Estate Investors, Part 20 Gift and Sale
Case:Karl Hendricks was a man with the golden touch. Throughout his life, it seemed every investment idea that he touched turned to gold. Karl's passion was real estate, and he was very successful in his investments.
Karl owned commercial development land with a purchase price of $400,000 and a current value of $1 million. Several developers have made offers on the land, but he has not signed a sale contract. Karl would like to sell and reinvest in another property, but also has been asked to make a major gift to his favorite charity. Karl has a specific charitable project that he wants to fund with a gift of $300,000.
Question:Can Karl combine a gift to charity with the sale of this land?
Solution:Prior to any sale agreement, Karl has the ability to deed 30% of the property to charity. He makes the gift and his CPA explains the basis must be allocated between the 30% gift to charity and the 70% he retained. If 30% of value is $300,000, the prorated basis will be $120,000 on the gift. The retained value of $700,000 will have a basis of $280,000.
After Karl deeds 30% of the land to charity, he and the charity jointly sell the property. On the sale portion of the land, Karl has a basis of $280,000 and will pay long-term capital gain tax on $420,000. His tax of $99,960 will be offset over four years by tax savings on the $300,000 charitable deduction. Because this is an appreciated charitable deduction, Karl may deduct up to 30% of his adjusted gross income each year. Over the four years, Karl will save $105,000 in taxes. The $105,000 of income tax savings more than offset the tax on the gain. Over a period of several years, this is actually a zero-tax transaction for Karl.
Karl enjoys yet one more benefit. Because he deeded the 30% to charity before the gift, he bypassed the $180,000 capital gain on that portion. This may save an added $42,840. With the $105,000 income tax savings and $42,840 savings on the bypass of capital gain, Karl's total tax savings would be $147,840.
The net result is that Karl was able to make a major gift to charity and, over a period of years, enjoy a zero net tax benefit. Karl was delighted with this plan and used the $700,000 to reinvest in another excellent real estate asset.