Know whether the
stock is publicly traded
or closely held, and
whether the charitable
donee is a public
charity or a private
foundation.
Donating Your Company Stock To Charities And Private Foundations (Part 2)
J
oshua Husbands
Led by the celebrated philanthropy of Warren Buffet, much interest has been expressed about contributing stock to
charitable entities. Many factors are at play here, and you should consider them carefully. Part 1
discusses the
timing and choices of donating company stock to charities, the use of company stock to fund a private foundation,
and the specifics of donations involving stock options and restricted stock. This article discusses the related issues
of taxation and securities law.
The main points impacting the tax and securities regulation that you need to
know when contemplating a contribution of stock to charity are (1) whether
the stock is publicly traded or closely held and (2) whether the charitable
donee is a public charity or a private foundation. Each of these will be
considered separately. The contribution of either marketable securities or
closely held stock, either to a public charity or to a private foundation, will
not be subject to gift tax
. The tax implications discussed here are specific to
your personal income tax.
Tax Issues
Although the tax treatment of stock donations to public charities and the tax treatment of donations to private
foundations both result in a tax deduction, there are some important differences.
Marketable Securities: Public Charity
The contribution of marketable securities to a charity may be very advantageous to you for tax purposes. You are
allowed a deduction of the full fair market value of appreciated marketable securities (held for more than one year)
transferred to a public charity or donor-advised fund, in an amount up to 30% of your adjusted gross income, with
a five-year carry-forward for any excess not deductible in the year of contribution. An additional benefit of donating
stock, rather than donating net proceeds from selling stock, is that you will recognize no taxable gain on the
appreciation in the stock. Thus the most tax-efficient stock donation is one with a low ratio of tax basis to current
stock price.
Example: You donate $100,000 of company stock held at least one year (1,000 shares trading at
$100 per share that you received at $1 per share) to a favorite charity. You have a $100,000 tax
deduction, which results in $40,000 of tax savings (assuming a 40% combined federal and state tax
rate). If instead you sold the 1,000 shares to donate the cash, you would realize approximately
$79,500 in net proceeds (after paying 15% federal capital gains tax and an assumed 5.5% state tax)
and get a tax deduction for only this net amount. Your tax savings here would be around only
$31,800.
If you donate stock you have held for less than one year, you are entitled to deduct from income only your cost
basis or the fair market value of that stock, whichever is lower. The deduction is limited to 50% of your adjusted
gross income, with a five-year carry-forward. For shares from stock option exercises, ESPP purchases, and
restricted stock vesting, the holding period begins on the day after this event. The fair market value of the
contributed marketable securities is determined as the mean between the high and low or the bid and ask price on
the date of the contribution, based either on published figures or on quotes from securities dealers.
Marketable Securities: Private Foundation
The tax benefits of contributing marketable securities to a private foundation are more limited than those of
contributions to a public charity. You are still entitled to deduct the current fair market value of your appreciated
securities that are held for more than a year. However, you have a ceiling of 20% of adjusted gross income for
contributions to private foundations, and the same five-year carry-forward is available, as with contributions to a
public charity. Should you contribute stock valued at over 10% of all your corporation's outstanding shares, the
deduction becomes your cost basis for the additional amount. Also, your cost basis deduction allowable for
contributions of stock held less than one year is limited to 30% of your adjusted gross income, with a five-year
carry-forward.
Closely Held Securities
If you contribute closely held stock to a public charity or a donor-advised fund, you are entitled to a deduction of
the fair market value of the stock, with the same 30% of adjusted gross income limitation and five-year carry-
forward allowance, just as in the case of a contribution of marketable securities. However, you are allowed only a
deduction equal to your cost basis or fair market value, whichever is lower, for transfers of closely held stock to a
private foundation, subject to a cap of 20% of adjusted gross income with the five-year carry-forward. All closely
held securities contributed to any type of entity are limited to cost basis or fair market value, whichever is lower, if
they have been held for less than one year.
The valuation of a contribution of more than $5,000 worth of closely held securities is more demanding and is
established by an independent appraisal applying IRS rules. The following is a summary of the appraisal
Problems can arise
when a foundation
board member
contributes stock but
has a material voting
interest in the stock as
well.
The charity must
follow Rule 144 if it
has a control
relationship with the
issuing company.
requirements:
The appraisal must be prepared by a "qualified appraiser" who has earned a designation from a recognized
professional organization.
The appraisal must include a description of the property transferred, the date of contribution, any terms or
conditions put on the property transferred, information on the qualified appraiser, the basis for making the
valuation, the appraiser's signature, and the date of the appraisal.
The appraisal cannot have been made more than 60 days prior to the date of the contributions.
If the contribution value is over $500,000, the full appraisal must be attached to the return.
An appraisal summary (IRS Form 8283) must be signed by the appraiser and the donee and attached to the
tax return.
Private Foundations: Excess Business Holdings Excise Tax
Another issue to be aware of when contributing stock to a private foundation is the excess business holdings rule. A
private foundation may not own more than 20% of the voting stock of a corporation (35% percent if voting control
is held by completely unrelated parties), reduced by the amount of voting stock of the corporation owned by any
"disqualified persons." An offending private foundation will be subject to an excise tax of initially 10%, and then
200% if it does not correct the excess holdings problem. A disqualified person is defined as a foundation manager
(board member, officer, etc.) or a substantial contributor to the foundation, as well as a byzantine web of related
parties.
The most common excess holdings issue arises when a foundation board
member (often the founder or family member of the founder of the private
foundation) contributes stock but has a material voting interest in the stock
as well. If the foundation board member holds at least 20% of the voting
shares of the corporation, the foundation will always be limited to a de
minimis exception from the rule that allows it to hold up to 2% of the stock.
If the foundation receives the stock by gift or bequest, it will have five years
to correct the issue before the excise tax is imposed.
Securities Issues
The transfer of stock to a charity, though gratuitous in nature, must be closely analyzed under existing securities
regulations. For publicly traded securities, there are rules governing insider trading and restricted securities.
Insider Trading
Rules 10b-5 and 10b5-1 of the federal securities laws, and the Securities Exchange Act of 1934 in particular (the
"Exchange Act"), contain antifraud provisions for anyone buying and selling stock. Anyone who is aware of
"material nonpublic information" about the company and trades stock on the basis of such information will have to
disgorge any profit, may have to pay damages, and can face criminal charges (see this website's section on insider
trading). These rules restrict the transfer of shares to a charity if you, as an insider, are aware of confidential
information about your company that will affect its stock price. It does not matter that the transfer to the charity is
gratuitous. Correspondingly, the charity or foundation is restricted from selling shares you have donated if you have
revealed the material nonpublic information to its directors. Until that information is publicly disclosed, this
restriction applies even if the information was communicated at the time of the original transfer and not when the
shares are sold.
Though the case did not involve a donation of stock, in SEC v. Zomax
(2005) the Securities and Exchange
Commission successfully brought an insider-trading enforcement action against company executives who sold stock
through a charitable remainder annuity trust (CRAT). In this case, the company announced lower-than-expected
earnings only one day after the defendants liquidated their stock holdings through the CRAT. The stock price
eventually sank 61%, and the early sale saved the executives millions, according to the SEC complaint
.
Rule 144
Rule 144
under the Securities Act of 1933 applies to sales of unregistered stock and to sales by a public company's
senior executives, directors, and large shareholders. Shares of stock that are not registered with the SEC through a
public offering are referred to as "restricted securities." Restricted securities must be issued, fully paid for, and held
for at least six months for stock in reporting companies and one year for stock in nonreporting companies before
they can be resold under Rule 144 without any limitation. For restricted securities transferred to a charity, the
charity will be considered to have owned the shares from the time you, as the donor, acquired the shares. The
holding period of the charity will tack on to your holding period prior to the transfer.
Even when the stock you intend to donate to the charity is already registered,
if the charity is deemed to have a control relationship with the company due
to significant ownership of the company's stock, the charity may be still
restricted by, and must be aware of, Rule 144
, even though the holding
period requirement will not apply. Shares of stock acquired by a person or
entity that has a control relationship with the issuing company are known as
"control securities." Rule 144 is concerned with the sale of control securities, not their gratuitous transfer, so the
subsequent sale of the stock by the charity, not your gift of the shares to the charity, would be subject to the
Be especially careful
when you transfer, to a
charity, shares of
closely held stock
subject to a
shareholder buy-sell
agreement.
restrictions of Rule 144, if it is applicable. The charity must follow Rule 144 if it has a control relationship with the
issuing company.
Section 16
Section 16
of the Exchange Act requires senior officers, directors, and shareholders who own more than 10% of the
company's stock to promptly report a change to their company stock holdings by filing Form 4 with the SEC within
two business days of the change. Upon filing, Forms 4 are immediately made public. Furthermore, Section 16(b)
requires that any insider's "short-swing" profit (the difference between purchase and sale prices for any two
transactions within any six-month period) must be forfeited to the company. However, bona fide gifts to a charity
are exempt from Section 16(b) matching. Any charity that owns at least 10% of a publicly traded company's stock
will be subject to Section 16.
If you are required to report under Section 16 and you transfer shares to a charity, including a private foundation
you have created and for which you serve as a director, the transfer of your stock to the charity must be reported in
the annual filing of Form 5, or voluntarily reported earlier on Form 4. Ordinarily, assuming the shares cannot be
used for your benefit, you will no longer have beneficial ownership in the stock once the charity owns the shares.
The charity will be the Section 16 reporting party as long as it owns at least 10% of the shares. You will no longer
have any Section 16 reporting responsibility, with respect to the transferred shares.
Beneficial Ownership Reporting
Section 13(d) of the Exchange Act requires a person (or persons acting together) who beneficially owns more than
5% of a public company to publicly report that person's (or group's) stock holdings in the company, within 10 days
after an acquisition that increased the stock ownership to greater than 5%. This reporting would be required of any
charity that owns at least 5% of the outstanding shares of a publicly traded company. The directors of the charity
are responsible for meeting these filing requirements. Beneficial ownership of the shares is essentially based on the
power to vote or control the disposition of the shares. You and the charity must be aware of these rules to
determine your beneficial ownership after the transfer of stock to the charity. Depending on your ability to control
the voting and disposition of the shares once they are transferred to the charity, you may have an ongoing Section
13 reporting obligation even though you transferred the shares to the charity.
Stock Transfer Restriction Agreements
In addition to federal and state securities law restrictions, stock in closely held companies (and in some instances
public companies) can be further restricted by agreements between shareholders or between a shareholder and the
company. These agreements can include buy-sell agreements, first-purchase option agreements, and variations of
these. Agreements in closely held companies are all specific to the company, founders, and other participating
shareholders, making it hard to generalize about their terms.
However, certain common issues arise in these agreements. First, does the
agreement flat-out prohibit transfers of the stock, or does it grant the
company or other shareholders a right of first refusal to purchase the shares?
If the latter, then shareholders often can agree to allow transfers to
charitable organizations without triggering the right of purchase. Second,
many agreements specifically exempt transfers to charity from the transfer
restrictions in the agreement.
You have to be careful when you transfer, to a charity, shares of closely held
stock subject to a shareholder buy-sell agreement. A right to reacquire the shares can cause you to be treated as
the beneficial owner of the shares for Section 13 and 16 purposes (if the shares were issued by a public company),
and may also run afoul of the prohibited transaction rules, if the donee is a private foundation.
Conclusion
This article series has been intended as a primer to educate you on the basic choices involved in donations of
company stock and on the issues of tax and securities law surrounding the contribution of your company stock and
stock options to a charity or foundation entity. These issues can be very complex, and in all instances you should
seek the advice of competent counsel when considering a charitable contribution of stock. The tax benefits can be
considerable, but your net worth will still be less than it was prior to the charitable donation, and legal hurdles
clutter the landscape. However, keep in mind the intangibles mentioned earlier. You may find that the rewards you
receive by seeing your philanthropy in action provide a return that can't be quantified in dollars.
J
oshua Husbands is a partner in the law firm Holland & Knight at its office in Portland, Oregon. He works in the
areas of business, tax, business succession, and estate planning, including business reorganizations, acquisitions,
and divestitures. This article was published solely for its content and quality. Neither the author nor his firm
compensated us in exchange for its publication.
People who read this article also read:
Donating Your Company Stock To Charities And Private Foundations (Part 1)
Charitable Remainder Trusts (CRTs) And Your Company Stock (Part 1)
Charitable Remainder Trusts (CRTs) And Your Company Stock (Part 2)
Charitable Remainder Trusts (CRTs) And Your Company Stock (Part 3)
