Advisors, Follow Your Own Guidance: Charitable Planning Before You Sell Your Practice

By Matt Sonnen, Founder & CEO, PFI Advisors

No matter how you view it, M&A activity in the wealth management space is at record levels.  The latest Deal Book, published by Devoe & Company, concludes that “M&A activity is on pace to finish 2021 well above last year’s record volume of 159 transactions.”  Not surprisingly, InvestmentNews recently reported that “valuations have skyrocketed at registered investment adviser firms, recently hitting never-before-seen levels.”  The continued consolidation trend, along with upcoming changes to capital gains tax rates, are expected to further increase deal volumes.  With so many life-changing liquidity events on the horizon, charitably-minded advisors would be well served to follow the same tax guidance they provide their clients and consider setting up a donor advised fund (DAF) prior to the sale of their firm. 

Should an advisor have charitable ambitions following the sale of their business, it would make sense to donate privately held shares of the wealth management firm into a DAF prior to a sale, and thus avoid the capital gains tax on that portion of the sales proceeds. 

For example, if the advisor were to sell their business for $10 million and they desire that $2 million go to charity, they could donate 20% of their shares to a DAF ahead of the sale, rather than making the donation with after-tax dollars once the transaction closes which would leave less money available for philanthropy.  The advisor would receive an immediate tax deduction when making the contribution and would have the ability to grant the money to their favorite charities over time. 

An added benefit to a DAF as opposed to a family foundation, for example, is the advisor can receive the fair market value as the deduction with a DAF, whereas they can only get a deduction for the cost basis of the shares with a donation to a family foundation.

Some advisors may not be preparing for a large, one-time liquidity event with a sale to an outside buyer but may be selling a portion of the firm every year through a strategic internal transfer to the firm’s next generation leadership.  These annual sales will obviously increase the selling advisor’s tax burden and may even trigger the Alternative Minimum Tax (AMT) for the advisor in a given year, or years.  Advisors can establish a DAF today and continue to contribute to it over a number of years, with each contribution providing a tax benefit.  A contribution to a DAF will be beneficial in those high-income years and may also reduce the AMT impact.

Setting up a DAF may also make sense for advisors who do not have an ownership stake in the firm and who are nearing retirement.  According to JD Power, “The average age of financial advisors is about 55, and approximately one-fifth of advisors are 65 or older.”  As stated above, a donation to a DAF allows the advisor to receive a tax deduction today (while income is relatively high) but not necessarily have to make grants to specific charities until sometime in the future.  Should the advisor wait until retirement to make his or her charitable donations, when their income drops and they are potentially in a lower tax bracket, the need for the tax deduction will not be as great as it is today.  By making the contribution today, the value of the DAF can grow tax free into the future.  Finally, most DAF sponsors allow donors to appoint successor donor-advisors so the donor’s family can continue the tradition of giving after the death of the original donors.

We often get so caught up in serving our clients, we tend to forget about our own investment, tax, and charitable planning.  Advisors are familiar with all of these tax advantages available through the use of DAFs, as they have guided clients through this process many times when the clients have sold businesses and turned to their advisor for advice.  The question is, will they follow their own advice and approach the sale of their own business with the same tax strategies they have offered to clients throughout their career?

At American Endowment Foundation, we look forward to helping donors and advisors determine the best strategies for their charitable giving. Please contact us or call at 1-888-966-8170 with any questions.

_{Matt Sonnen is Founder and CEO of PFI Advisors, as well as the creator of the digital consulting platform, The COO Society, which educates RIA owners and operations professionals how to build more impactful and profitable enterprises. He is also the host of the popular COO Roundtable podcast.  Follow him on Twitter at @mattsonnen_pfi}