How to make donations tax efficient for dual US and UK taxpayers

Individuals with exposure to US and UK taxes need to seek advice if they want to ensure their charitable giving is tax efficient.

In brief

• UK Gift Aid can provide generous relief at taxpayers’ marginal rates.
• Donor-advised funds are a flexible solution for many giving overseas.
• Careful planning can maximise relief on bequests, potentially saving over 40%.

Tax relief can help charitable donations go further and reduce tax liabilities, but taxpayers dealing with the dual jurisdictions of the UK and the US face a challenging task to make the most of their giving. There are several issues to consider before making a donation.

First, the choice of jurisdiction is critical. It will determine the level of effective tax relief (taking into consideration foreign tax credits). Although confusing to US taxpayers, the UK Gift Aid system can be effective, delivering tax relief at an individual’s marginal UK tax rate. Its impact will depend on residency, though:

• For UK resident taxpayers, it will generally be more efficient to donate to a UK rather than a US charity, even if they have a residual US liability. That’s because of the higher tax relief which can be claimed. For substantial donations, this will also avoid any risk of an inheritance tax charge on the gift itself.
• Individuals with liability to both UK and US taxes will generally obtain the most effective relief by giving to a dual-qualified UK/US charity. This applies to not just US citizens but anyone with tax liabilities in both locations. In fact, non-Americans (especially those taxed on the remittance basis) can often obtain the greatest benefit.
• UK residents should beware of charitable entities called ‘US friends of….” or similar titles. These entities often provide only US tax relief and although useful for taxpayers living in the US are ill-suited for individuals who are UK tax resident.

Donors will often still be interested in supporting a charity that does not have a dual qualified entity. In such cases, they can consider using a dual-qualified donor-advised fund (DAF). Examples include the Charities Aid Foundation American Donor Fund, The National Philanthropic Trust, The Anglo American Charity Ltd and Chapel & York. All provide dual tax relief and, subject to a process of due diligence, pass the donation to the end charity of choice.

Finally, wealthy taxpayers could consider setting up their own dual-qualified charitable foundation. They should be aware that the legal and administration costs can be prohibitive, however, it is often only worthwhile if very substantial donations will be made. The US also allows only 30% of income to be offset through a donation to a private foundation (compared to 100% for a public charity and 60% for a DAF). There are additional restrictions on tax relief on gifts of appreciated assets to private foundations. Many taxpayers find a DAF account provides equal benefits.

Timing, foreign income and non-cash assets can influence tax efficiencies 

Other factors will influence the tax efficiency of gifts, too.

First, timing is critical. Gifts on or shortly before 31 December deliver both tax efficiency and cash flow benefits. The donor can use carry back provisions to claim tax relief by reference to the previous UK tax year. To be effective, they will need to hold off filing the tax return for the relevant year until the payment is made. Depending on their income, they may also wish to claim some UK tax relief by reference to the current year and some by reference to the prior one. Splitting payments can facilitate planning opportunities here.

US tax reform, meanwhile, has made substantial changes to the ability of taxpayers to claim itemised deductions. To ensure an effective US tax deduction, individuals may wish to group multiple year contributions and make in one year. A DAF or private foundation could be a useful vehicle here since it allows donations to be grouped but money received by the end charity disbursed at more regular intervals.

Second, the use of offshore income and gains can bring added benefits when combined with giving. Current and former remittance basis taxpayers can potentially use foreign income and gains to obtain both UK and US tax relief without creating a taxable remittance. To do so, the donation must be paid directly to the offshore bank account of the charity concerned. If the charity does not have an offshore bank account, again a donor-advised fund could be used.

Third, both UK and US rules provide tax income tax relief for gifts of certain non-cash assets, including listed securities. Where the asset has been held for more than one year it is also possible to avoid having to recognise a taxable gain on an appreciation under both UK and US rules (subject to the donation being to a dual qualified charity). 

Charitable bequests in wills require careful planning

Tax savings from charitable bequests can be substantial. Donations of 10% or greater of the net estate reduce the UK inheritance tax rate on remaining taxable assets by 4% to give an overall effective saving that can exceed 40%.

Charitable bequests in wills must be carefully planned to benefit from the available tax reliefs, however:

• Individuals deemed to be domiciled in the UK must ensure charitable bequests are to UK/EU/EEA charities, which qualify for exemption from UK inheritance tax (the rules here have not yet changed following Brexit).
• For the US-domiciled, relief from US estate tax would still be expected, provided the EU charity is not overtly political.
• Taxpayers can, again, consider making their bequest to a dual qualified DAF to avoid concerns as to whether the charity will qualify for US tax relief.
• Non-US domiciles can also obtain relief by the direct bequest of US-based assets.
• DAFs can also be an option for individuals who have ceased UK residence but are still regarded as UK domiciled. They must be careful if making substantial donations to non-UK charities and should look to use dual-qualified charities (including DAFs) to ensure there is no upfront IHT charge on the donation. Non-resident taxpayers can choose whether to elect for Gift Aid or not, depending on their UK circumstances.

To ensure the most effective outcomes, donors should seek advice, particularly for large charitable gifts.