Over a number of years, I had discussed with a particular client the possibility of establishing a Donor Advised Fund (DAF) to ensure certain ongoing donations to various charities which he supported. In his seventies at the time, he liked the idea but like many individuals he deferred any decision as he believed there was lots of time to ‘deal with the matter’. Nonetheless contact was established between the client and Ronit Holtzman at the Jewish Foundation. The seeds had been planted.

Along comes the not-entirely-unexpected sale of one of the client’s corporately-owned rental properties. The property had been owned by the corporation for many years and as a result, the sale gave rise to a substantial capital gain, recaptured depreciation and the inevitable substantial income tax bill. As the client had advised me of the prospective sale in advance of the corporate year-end in which the sale would close, I was able to revisit with him the opportunities and benefits of using a DAF. This time the client, now in his mid-80’s and facing a substantial tax burden, was much more amenable to the idea.

With the client’s permission I contacted Ronit. She immediately contacted the client to start the ball rolling.

The client, originally from another province, ended up establishing two DAFs - one with the Jewish Foundation of Greater Toronto and the other with the Jewish Foundation in his province of birth.

Overview of applicable rules

In general, the Canada Revenue Agency (CRA) imposes restrictions on the tax deductions resulting from charitable donations on an annual basis. A corporation can only deduct donations to a maximum of 75% of its net income for tax purposes (NI). Any donation in excess of that amount can be carried forward for up to five years.

For example, let’s assume that a client owns a rental property with a tax cost (ACB) of $1,500,000 ($500,000 for land and $1,000,000 for building) and an undepreciated capital cost (UCC) of the building of $500,000. Let’s further assume that the property was sold for $5,000,000.

A capital gain of $3,500,000 (sale price $5,000,000 less ACB $1,500,000) would result. 50% of that amount, or $1,750,000 would be included in NI. Further,100% of recaptured depreciation of $500,000 (Building ACB - $1,000,000 less UCC $500,000) would also be included in NI, for a total NI of $2,250,000.

Assuming no other income or expenses, the corporation would be limited to deducting a maximum of $1,687,500 in donations in that tax year. As noted above, any donations above that amount could be carried forward for five years.

Lastly, there is a benefit to donating securities with unrealized gains. Normally 50% of any gain on the sale of marketable securities would be included in income for tax purposes as a capital gain. When securities are donated, they are firstly deemed to be sold at their fair market value at that time (i.e. that would determine the quantum of the donation) and more importantly any capital gain is deemed to be nil.

Results of the plan

There is a long list of benefits that accrued to the client due to the overall plan that determined that his corporation should donate approximately $1,500,000 to his two DAFs:

a) There was an immediate reduction in the corporate income tax that was payable on the sale of the property. (Tax savings – approximately $750,000)

b) Good planning inevitably results from teamwork. We knew the corporate donor had a portfolio of marketable securities. We discussed the donation plan with the client’s investments advisor and with his assistance determined if there were appropriate securities that could be used to fund the donations. As a result, rather than using the available cash from the sale of the real estate to fund 100% of the donations establishing the DAFs, the appropriate marketable securities were transferred to the requisite Foundations thereby avoiding the tax that would eventually have risen on the sale of the securities. (Tax savings - approximately $108,000)

c) The donation of marketable securities resulted in an increase to the corporation’s Capital Dividend Account (CDA) of the full amount of the unrealized gain, rather than 50% which would be the normal inclusion rate on a sale of the securities.

d) The client had frozen his estate a number of years prior. At the time of these events, he still held a number of frozen shares with a redemption value of approximately $2,100,000. Using the corporation’s CDA that arose on the capital gains from both the sale of the property and the donated securities, he was able to redeem the remaining balance of his frozen shares at no tax cost. (Tax savings - approximately $1,002,000 over time on the redemption of the frozen shares, or estimated as approximately $561,000 on his passing)

e) Most importantly, he was able to leave a substantial legacy to support both his community of birth and his community of residence. Through his actions he conveyed to his adult children and his grandchildren the importance to him of using his financial well-being to support those in need.

The benefits to both the Jewish Foundation of Greater Toronto and the Jewish Foundation in his province of birth are obvious. Literally millions of dollars to support the social services, schooling and security needs of those communities.

Not long after these events, the client’s health took a turn and he is currently in an assisted-living facility. His competence to establish DAFs is compromised. Had the steps above not been undertaken when they were, the benefits that accrued, financial, personal and communal, would probably never have been realized.

These situations often arise in our practices and it is incumbent upon us to discuss the opportunities with our clients. Anyone’s health can change in an instant but of course it is a greater risk with elderly clients. Do not delay addressing these matters with your clients.

In this case all parties, including the Jewish community in the client’s province of birth, benefitted from the philanthropic discussions and the appropriate planning.

About the Author

Stephen Altbaum currently acts as consultant and advisor at Lipton LLP and was one of its founders in 1976. His number one priority has hardly changed in his 41 years of professional practice, being a strong commitment to deliver the best quality service to his clients and to do so on a tailor-made basis based on each client’s specific and unique circumstances.