Minnesota Real Estate Foundation 2 Opportunities & Pitfalls of Real Estate Gifts Jerome L McCarter, CPA Minnesota Planned Giving Conference November 4, 2009

Minnesota Real Estate Foundation 3 Why Real Estate? Significant asset holding of many individuals. Wealthiest donors frequently own multiple properties. Asset class that has shown significant price appreciation, particularly for donor prospects age 65 and older. Needed by many non profits to carry out their mission. Opportunity for significant tax savings for the donor: Charitable tax deduction at fair market value. Avoid capital gains tax upon sale of the property. Can be used effectively with planned giving vehicles such as Charitable Remainder Trusts, Charitable Lead Trusts, and Charitable Annuities.

Minnesota Real Estate Foundation 4 Real estate provides a viable charitable giving opportunity Real estate comprises over 40% of the net worth of individuals in the U.S. Estimated at $25-$30 trillion of individual’s net worth. Immediate tax deduction at appraised value, donor doesn’t have to wait for property to sell. Real estate gifting allows the donor to reach charitable giving levels they may not have previously considered possible. Real estate gifting can reduce capital gains, income taxes, and estate taxes. Relieves the donor of potential property management headaches.

Minnesota Real Estate Foundation …but it does present challenges. Real estate gifting is not simple. Real estate gifting is not “top of mind”, comprising only 2% of charitable contributions in U.S. Not all real estate can be gifted. Real estate is not easily divisible. Real estate requires special skills to evaluate, time to liquidate, and has a risk associated with holding and liquidating. Debt financed real estate may create UBTI for the donee charity. Reverse mortgage option eliminated for donor. Uncertain hold and carry period. 5

Minnesota Real Estate Foundation Types Of Real Estate Suitable For Gifting Raw Land 6

Minnesota Real Estate Foundation Types Of Real Estate Suitable For Gifting Personal Residence 7

Minnesota Real Estate Foundation Types Of Real Estate Suitable For Gifting Vacation Home/ Recreational Property 8

Minnesota Real Estate Foundation Types Of Real Estate Suitable For Gifting Farm Land 9

Minnesota Real Estate Foundation Types Of Real Estate Suitable For Gifting Residential Rental Property 10

Minnesota Real Estate Foundation Types Of Real Estate Suitable For Gifting Commercial Building 11

Minnesota Real Estate Foundation Types Of Real Estate Interests Gifted Complete Interest Remainder Interest Tenants in Common Interest Time Share Interest Foreign Trust Interest Partnership or LLC Interests (Real Estate Entities) Corporate Interests (Real Estate Entity) Real Estate Investment Trust Interest 12

Minnesota Real Estate Foundation Donor Real Estate Gifting Options Gift Sale Proceeds To One Or More Charities Gift Sale Proceeds To A Donor Advised Fund At A Community Foundation Gift Sale Proceeds To Purchase A Charitable Annuity Gift Sale Proceeds To Fund A Charitable Remainder Trust Gift OF A Personal Residence Or A Second Home And Retain A Life Estate Gifts Passing Through A Will Or Bequest Gifts Of Real Property To A Charitable Lead Trust Conservation Easements 13

Minnesota Real Estate Foundation Outright Gift Example 14

Minnesota Real Estate Foundation Case Study Donor owns a 24 unit apartment complex with an original cost basis of $100,000 for the land and $1,000,000 for the building. The building has been depreciated on a straight line basis to $200,000. The fair market value of the property is $1,350,000. Donor is in a 42% state and Federal tax bracket for ordinary income and 22% for long term capital gains. Unrecaptured section 1250 gain is taxed at a rate of 32% state and Federal. Donor’s Adjusted Gross Income is sufficient to fully utilize a $1,350,000 charitable gift of appreciated real estate. (average $750,000 per year). 15

Minnesota Real Estate Foundation Case Study Outright Gift of Property-Net Cost To The Donor Fair market value of the gift$1,350,000 Less: Income taxes on the long term capital 22% ( 55,000) Less: Income taxes on the unrecaptured % ( 256,000) Net cash available after tax on gain on sale $ 1,039,000 Less: Income tax savings on charitable gift ( 567,000) Net Cost To Donor $ 472,000 Percentage of gift subsidized by tax savings65% 16

Minnesota Real Estate Foundation Charitable Remainder Trust Example 17

Minnesota Real Estate Foundation 18 Case Study Charity Gift of Property $1,000,000 Property $100,000 Basis Benefit to Donor $371,750 income tax deduction Avoid capital gains on $900,000 ($198,000 savings) $50,000 in estimated first-year income Remainder to Charity $1,973,587 Unitrust 5%

Minnesota Real Estate Foundation Case Study A local professional advisor has a 65 year old client with undeveloped real estate worth $1,000,000 and a cost basis of $100,000. The donor transfers the real estate to a Charitable Remainder Unitrust (5%). Assume the property sells during the year of the gift. The donor receives an income tax deduction of $371,750, pays no capital gains taxes when the property is sold (a savings of $198,000), and receives an annual income stream in excess of $50,000 over the remainder of their life (assumed to be another 23 years). Based on donor’s life expectancy and assuming the trust corpus is invested at 8% over the term of the trust, the remainder trust corpus of $1,973,587 will be transferred to charity upon the donor’s death. 19

Minnesota Real Estate Foundation 20 Keys Areas of Concern with Gifts of Real Estate Liability to the charitable organization (environmental) Holding/carrying costs Zoning restrictions, easements, and other limitations Debt on property Marketing/selling property Future considerations (rezoning, assessments) Donor relations nightmare

Minnesota Real Estate Foundation 21 Procedures for Accepting Gifts of Real Estate Authority (Two officers generally required to accept a gift) Evaluation (required pre-acceptance procedures) Responsibilities of Donor Marketing and Sale of Real Estate Gifts by Bequests What the Donee Charity Should Not do

Minnesota Real Estate Foundation 22 Evaluation of Gifts Property inquiry form Liens, mortgages and encumbrances Field evaluation Preliminary market evaluation Expense budgets (best case, likely case, worst case)

Minnesota Real Estate Foundation 23 Responsibilities of the Donor Complete property inquiry form Provide an environmental audit if deemed necessary Obtain a qualified appraisal Provide evidence of title, title insurance Prepare a warrantee deed Reach agreement on responsibility for carrying costs Sign indemnification agreement Sign a contribution agreement

Minnesota Real Estate Foundation 24 Marketing and Sale of Real Estate Marketing and sales plan developed with donor. Generally, arrangements made through a qualified real estate agent. Initial sale price of the property will be the appraised price. Sale reported on the IRS Form Charity must control the process. Always use legal counsel.

Minnesota Real Estate Foundation 25 Gifts by Bequests Charities will attempt to follow the same due diligence as they use with an outright gift during the donor’s lifetime. Real estate bequests may be refused. Donors are encouraged to talk with the charity prior to naming them in their will or estate plan. Not all charities accept real estate gifts.

Minnesota Real Estate Foundation 26 What the Charity Should Not Do Pay for legal or other services, especially the appraisal. Establish or corroborate the value of a property for income tax purposes. Never accept a gift with an appraised value far in excess of fair market value. No charity should ever be associated with a transaction it knows or suspects is fraudulent. Except in extraordinary circumstances, remove or assume debt of a donated piece of real estate. Accept a gift without a complete and through understanding of the risks associated with the property.

Minnesota Real Estate Foundation 27 Questions and Answers For further information please contact: Steve Joul, Mike Burton or Jerry McCarter Minnesota Real Estate Foundation 101 S. Seventh Ave., Suite 100 St. Cloud MN