Owners of concentrated stock positions may gain significant benefits from contributing a portion of their shares to a pooled income fund, which can provide a means to accomplish various results. They include the following.
- Create a lifetime income stream
- Receive an income tax deduction
- Avoid capital gains
- Establish a charitable legacy
Pooled Income Fund
A pooled income fund, or PIF, is a trust created by a public charity to receive contributions of cash and property (e.g., stocks, bonds, real estate) to be “pooled” together and managed as one large investment portfolio. When donors make contributions, they receive a charitable income tax deduction equal to the present value of the donated remainder interest. They also receive participation units in the PIF in proportion to the contributions made.
Throughout a donor’s life, the PIF makes distributions (typically quarterly) of all income earned by the portfolio. When a donor dies, the remaining assets pass to charity in proportion to the number of participation units held.
The tax character of the income received by the donor is determined by how the income was generated within the portfolio. PIF income distributions commonly contain interest and dividends; capital gains are ordinarily not included as distributable income unless provided for under state law.
A PIF may provide the following benefits to the owner of a concentrated stock position.
- A lifetime income stream based on the rate of return of the underlying PIF portfolio (This may replace and exceed dividends received from holding the concentrated position.)
- An immediate income tax deduction equal to the present value of the remainder interest to pass to charity
- The elimination of capital gains taxation associated with shares contributed to the fund
- The professional management of the PIF portfolio
- No upfront costs or continual administration fees for the donor (unlike with a charitable remainder trust)
- The removal of contributed stock from the donor’s taxable estate
Ms. James, age 70, holds a large position in XYZ Corp., which she acquired throughout many years of employment with XYZ. Her tax basis in XYZ is $10 a share, but the stock currently trades at $50. James would like to use some of her XYZ stock to support charity, but she depends upon the 4% dividends that she has received annually from the shares.
At her financial adviser’s recommendation, James contributes stock valued at $500,000 to a PIF.
The lifetime annual income James can receive from the PIF can replace the dividend income on which she had typically depended. In addition, when she contributed the shares to the PIF, James received a charitable income tax deduction of $267,050.
During a five-year span, the income tax deduction may mitigate the tax associated with the income received from the PIF or any additional income sources. At James’s death, the value of her participation units will pass to the sponsoring charity for use in furthering its mission.
In the right situation, a PIF can be an excellent way for an owner of a concentrated stock position to reduce the risk of owning the shares, provide tax efficiency — as well as a potential lifetime income stream — and satisfy charitable planning goals.
Gary Williams is president and founder of Williams Asset Management in Columbia. He can be reached at 410-740-0220 or at [email protected].