With new rules in place for how people can share wealth, will affluent Minnesotans change their patterns of charitable giving?
People who work with donors—estate planning attorneys, wealth managers and foundation managers—say they see signs of change, and some appear tied to revisions in federal and state tax laws last year. But not every trend they see is about seeking shelter from taxes.
Bill Sternberg believes there’s actually a disconnect between high net worth individuals and their legal and financial advisers over the importance of tax benefits in personal giving.
Sternberg is vice president of philanthropic services at the Minneapolis Foundation, a community foundation that manages 1,200 charitable funds and $600 million in assets. He cites a study released in October by the U.S. Trust private wealth management arm of Bank of America. It found, among other things, that far more advisers believe their clients are motivated to give for tax reasons (46 percent) than clients themselves say they are (10 percent).
“Philanthropy was an outlier” in the context of wealth management a decade ago, Sternberg says. Today, they’re more interwoven, which means attorneys and accountants are more involved in philanthropic discussions. But those professionals still tend to be “much more involved from the tactical, the tax side of things,” Sternberg says. While the tax advice is helpful, “what [donors] are more interested in today is on the values side of things.”
Minnesota’s more aggressive estate and gift taxes, which became law July 1, 2013, have estate planners and nonprofits worried about a chilling effect on charitable giving. The topic generates strong opinions and lots of conversation, but no one who spoke for this story has a measure yet of whether or how the new laws will actually change donor behavior. In fact, an accurate measure may be impossible to make.
“It’s so hard to know [what influences donors], because people donate for so many different reasons, and a lot of people donate just because it’s the right thing to do,” says Jane Godfrey; she is director of estates and trusts for the University of Minnesota Foundation, which provided $169 million in private philanthropic gifts to fund the university’s campuses in 2012.
Add diverse motivations to the interplay of several federal and state tax changes, and the effect of any one change is hard to pinpoint. In aggregate, last year’s tax changes could even encourage more charitable gifts, Godfrey says:
“I think to the extent that tax planning enters into people’s thinking, I do think that the change in tax law helps to promote [giving].”
“It used to be people would do their giving in the context of ‘What’s in my bank account?’ ” says Sternberg. “Now it’s much more evolved to ‘How does philanthropy fit into my overall vision, my goals, my legacy, both today, tomorrow and in generations to come?’ ”
One result is that giving is increasingly a family enterprise.
“I think a trend is charitable giving as a way to have families truly understand and respect the family’s financial legacy, as opposed to [kids] just getting gifts or Mom and Dad making distributions to charity directly,” says Jerry Anderson, senior vice president and wealth management adviser for U.S. Bank’s Private Client Reserve in Minneapolis. His clients want to have family conversations about giving and having a “positive impact that will last beyond their lives.”
In a related shift, clients seem less concerned about leaving wealth to their children, says Mike Sampson, an estate and tax planning attorney and special counsel at the Minneapolis law firm of Maslon Edelman Borman and Brand.
“Clients are becoming much more thoughtful about ‘How much is the right amount to leave to my kids?’ ” Sampson says. “Many like the idea of leaving around $5 million to each child and saying, ‘You know what? That’s enough,’ with the rest going to charity.”
That greatly simplifies estate planning, Sampson says. But he believes people also choose that path because they like the example set by Warren Buffett, who said some years back that the right amount to leave to your children is enough that they feel they can do anything, but not so much that they can do nothing.
Marya Robben, partner and practice group chair for trusts and estates at the Minneapolis law firm of Lindquist and Vennum, says she fields lots of questions about a different generational issue.
“The 50-year-old sandwich generation, they’re like, ‘OK, enough about my tax story. Can you help me figure out what I need to do to take care of my aging parents?’ ”
“One of the biggest changes is donors who are becoming increasingly sophisticated about seeking results and outcomes through their philanthropy,” says Carleen Rhodes. Rhodes is president and CEO of Minnesota Philanthropy Partners, a St. Paul-based network of four major foundations, including the St. Paul Foundation, and 1,700 other funds.
A consequence, she adds, is that more donors now tend to narrow and deepen their focus, giving to a few organizations that they can understand well and support with larger gifts.
“One thing I’ve seen change from, say, our parents’ generation is that people are very hands-on. They want that gratification. They want to know how their dollars are being spent,” says Sally Godfrey, vice president of the Twin Cities Charitable Services Group for U.S. Bank Wealth Management in St. Paul. She attributes it in part to “the availability of the Internet for understanding nonprofits and exactly where their dollars are going.”
In line with that desire to see what’s happening, more donors find charitable lead trusts a compelling way to give, says Anderson at U.S. Bank, as do others. While a charitable remainder trust typically gives a stream of income to family members during their lifetimes, then gives the remainder to charity, a charitable lead trust does the opposite. It gives a stream of funding to a nonprofit for a period of perhaps 15 or 20 years, then might give the remainder to a next generation of the family. The popularity of charitable leads also goes hand-in-glove with downsizing the estate left for children.
“You see families naming as the charity that it goes to their private foundation, and the two working in conjunction; together, they’re able to accomplish quite a bit, both taxwise but also as far as helping people achieve their philanthropic goals,” Godfrey says.
While people are still alive, they get the enjoyment of seeing their dollars at work “and working with their children and grandchildren and helping to teach what they think is important about philanthropy,” she adds.
“I think an awful lot of us [who are estate planners] would say we are seeing more charities pop up that have a focus on social equality issues,” says Robben at Lindquist and Vennum.
Arts received less attention from their clients during the recession, several sources say, though they’ve seen giving to the arts rebound. “It’s important for us to think about how [arts and culture] are also some of those essential elements that make a strong and vibrant community,” Rhodes says.
But “more than ever, I find people are interested and willing to work cross-sector to solve pretty tough issues,” Rhodes says. Donors are looking for ways that their private foundations can work together with nonprofits, businesses and the public sector to solve entrenched problems in the community, such as achievement gaps in education and the economy.
Sandra Vargas, president and CEO of the Minneapolis Foundation, gives an example. In its Education Transformation Initiative, the foundation is bringing together business leaders and 23 foundations and individuals around a table “saying, ‘What is it that we have to do to move the needle on education?’ ”
Program-related investments are a tool that has come to the fore as donors’ interest in social issues has deepened.
Sally Godfrey at U.S. Bank says that through program-related investments, her clients and their foundations are making low-interest loans to organizations that may not have been able to qualify for a bank loan. In those cases, donors’ private foundations are not only distributing the income that they’re required to give away under IRS regulations, but “the principal that they’re not giving away is being put to good use,” as well, she says.
Vargas says the Minneapolis Foundation recently set up a program-related investment fund in partnership with the Metropolitan Economic Development Association (MEDA), a Minneapolis-based nonprofit that supports minority-owned businesses with training and other resources.
“It’s a working capital fund that will allow minority businesses to go to our partner MEDA and apply for working capital in order to bid on the Vikings stadium” [project work], Vargas explains. Donors quickly oversubscribed it, she says, more than matching the $500,00 that the Minneapolis Foundation had put in.
“In 2013, we finally had stability from Congress about federal estate taxes,” says Lindquist and Vennum’s Marya Robben. The upshot is that more people feel positioned to take money they had earmarked for paying estate taxes and use it for charitable donations instead.
After a decade of fluctuation, the federal estate tax exemption has been made permanent, Robben explains, meaning it has no preset expiration date. The new exemption more than doubles the dollar amount that people can transfer tax free. “It means that a married couple can now transfer $10.6 million on their deaths, free of estate tax,” Robben says.
Because the new law effectively nullified the estate tax for many people, “more families are leaving a charitable legacy on their death, which is joyous,” she adds.
Less joyous for taxpayers but potentially good for nonprofits are changes in federal income taxes.
Jane Godfrey at the University of Minnesota Foundation explains that this tax season, certain high-income taxpayers are for the first time encountering a provision of the Affordable Care Act that adds a 3.8 percent surcharge to unearned income, such as investment income and capital gains.
“Certainly, income taxes continue to be at least one of the reasons why people make charitable gifts, and that’s, for some of our donors, even more important now with the higher tax rate,” Godfrey says.
Income taxes are becoming a bigger part of his practice, says Mike Sampson, an estate and tax planning attorney and special counsel at Mason Edelman Borman and Brand. Estate planning attorneys have “always had to focus on income taxes a little bit, because income taxes are just a part of owning assets,” he says. “But they’re really becoming a bigger part of the wealth transfer planning conversation now,” in part because for many clients “the estate tax is simply irrelevant.”
To the extent that tax changes in general have caused clients to reexamine their financial and estate plans, that’s a good thing, too, says Sally Godfrey at U.S. Bank.
“We ended up with an influx of new [private] foundations,” she says, though not directly because of tax changes. “It was more that ‘As long as I’m in here and as long as I’m redoing my estate plan,’ families would say, ‘This is something that we’ve wanted to do.’ ”
In laws that took effect on July 1, 2013, Minnesota did two things that have stirred up high net worth taxpayers and the philanthropic community.
“The short version is on the estate side, it expanded the reach of the Minnesota estate tax,” Lindquist and Vennum’s Marya Robben says. “And on the gift tax, it created a new gift tax for the first time in Minnesota history.”
The gift tax is a marginal rate of about 10 percent on dollars over and above a lifetime exemption of $1 million. Minnesota is one of only two states (Connecticut is the other) to have such a tax.
For some Minnesotans, those changes were the “final tax straw that’s breaking their back,” Robben says. “There are unfortunately a lot of people in our community who are looking at leaving Minnesota.”
If they do, the worry for nonprofits is at least twofold: One, that former Minnesotans will spend their charitable dollars in their new home states, as a matter of course or to demonstrate their new resident status there; two, that they’ll stop making gifts in Minnesota, even if they continue to spend time here, because it may hurt their claims that they are no longer Minnesota residents.
Jane Godfrey at the University of Minnesota Foundation says the second concern especially is what her development officers are hearing as they talk with donors and donors’ advisers.
But “I think that issue has been resolved,” she adds and refers to a recent statement issued by the Minnesota Department of Revenue, which her development team has shared with worried donors. It says explicitly: “Your donations to charities are not considered in determining your residency. The department will not ask for this information and you do not have to provide it.”
Sampson at Maslon Edelman says he doesn’t find reassurance in the revenue department’s words. That’s because in two recent Minnesota Supreme Court cases charitable giving in Minnesota was considered an element in determining residency. (Please see Sampson's updated remarks in the comment section below).
“In two Supreme Court cases, the court said, ‘That is a factor that we think is significant,’ ” Sampson says. If new legislation can bring clarity to what the state and court are saying, it will be a good thing for Minnesota charities, he adds.
Minnesota’s new laws and the court precedents make it harder to walk the line of switching residency to another state while maintaining ties to Minnesota, Sampson says. The requirements for proving residency elsewhere are more cumbersome now. And mechanisms that made it possible to steer clear of Minnesota’s estate tax have been dismantled.
In the past, a cabin on a Minnesota lake or a painting on loan to a Minnesota museum could be “converted as if by magic from a real property asset on your balance sheet to an intangible asset; it’s now not real estate [in Minnesota], it’s an LLC, and as a result it lives in Florida just like you do,” he explains. But under the new estate tax law, Minnesota will “look through” the LLC and count the Minnesota-based asset as taxable.
While his own feelings for the state might guide him to say something different, his obligation is to give clients the best information and advice he can, Sampson says. Right now, if they want to avoid Minnesota’s estate tax, his advice is, “Get out of here and don’t come back.”
Denise Logeland is a freelance reporter who frequently writes for Twin Cities Business.