How Pooled Income Funds Work

Many investors want to increase their charitable giving but hold off because they need the income their portfolios generate. One way to get the best of both worlds is to give to a pooled income fund. These funds provide an immediate tax deduction and annual income for the life of the donor. In this article, we’ll define how pooled income funds work, their benefits and how they compare to two other popular giving strategies. A financial advisor can offer valuable guidance as you look for the best way to make charitable donations that also provide an income.

What Is a Pooled Income Fund?

A pooled income fund is a form of a charitable trust, which is established and maintained by a qualified nonprofit organization. Donors may qualify for an immediate partial tax deduction for their donation. However, the deduction may vary depending on their age and anticipated income stream.

In exchange for the donation, donors are provided a stream of income for the rest of their lives. The pooled income fund can pay income for life, joint lives or for the life of up to two income beneficiaries.

Due to the complexity of tax laws, it is best to speak with a financial advisor and qualified tax professional to discuss how this strategy may work in your situation.

When a donor contributes money to a pooled income fund, the assets are combined with those of other donors. The fund invests the contributions to provide dividends to the donors and to grow the fund’s assets.

Distributions from the fund are based on a number of factors. These factors include the donor’s contribution, the number and ages of income beneficiaries, IRS life expectancy tables and the fund’s performance.

Income payments are made until the last income beneficiary passes away. At that time, the remaining balance of their contribution is donated to the designated charity named ahead of time.

Pooled Income Fund Contributions

While many people make charitable contributions with cash or a check from their bank account, donations to a pooled income fund may take many forms. These are some of the most commonly donated assets:

Cash or check
Stocks
Mutual funds or ETFs
Certain restricted or privately held stocks
Noncash assets like life insurance
Real estate
Automobiles
Collectibles or fine art
Tax-exempt securities
Cryptocurrencies or other alternative assets

Each pooled income fund is different. Speak with the fund’s trustee to determine what types of assets they allow. Alternatively, you can discuss the situation with your financial advisor and they can offer suggestions based on the assets you want to donate.

Pooled Income Fund Distributions

Distributions are typically made quarterly or annually, but some funds allow donors to choose their payment frequency. However, the fund must distribute income within 65 days after the close of the taxable year in which the income was earned. All distributions to donors from a pooled income fund received are considered “ordinary income” for tax purposes.

Although some assets may have qualified for long-term capital gains treatment before donation, all distributions from the pooled income fund are classified as ordinary income. Donors receive a Schedule K-1 each year, which documents how much income they earned for the year.

Benefits of a Pooled Income Fund

There are numerous benefits for investors when they donate money to a pooled income fund. These are the most common benefits:

Immediate tax deduction of the amount contributed. The assets that you donate are recognized as a donation as a lump sum in the year that the donation is made.
Avoid capital gains taxes. If you sell appreciated assets, you may have a large capital gains tax bill. However, when you donate those appreciated assets, you can avoid paying any taxes on those gains.
Donation is based on fair market value. The amount that you can deduct is based on the fair market value at the time of the donation, even if the assets have appreciated greatly from what you paid for them.
Lowers the value of your estate. By donating to a pooled income fund, you are able to reduce the size of your estate, which could help your heirs avoid estate taxes or other limits on gifts.
Assets avoid probate. The assets that you donate to the pooled income fund are not counted in your estate and are not subject to probate proceedings.
Provides regular income for the life of the donor. You’ll receive taxable income from the fund for the rest of your life. Once the last income beneficiary passes away, the remaining assets are given to the named charity.

Pooled-Income Fund vs. Giving Circle

A giving circle is when a group of investors pools resources to make a larger impact than each person individually. The giving circle members decide together on which charities to support with their collective assets. With a pooled income fund, each individual donor decides individually which charities that their contributions will support, even though their assets are pooled with others.

Additionally, giving circles do not provide regular income to donors, whereas pooled income funds provide income for the life of the donors. Pooled income funds do not distribute money to charities until the donor passes away.

Pooled Income Fund vs. Donor-Advised Fund

A donor-advised fund allows donors to contribute money now and take an immediate tax deduction. This is true even if the money is not distributed to charity right away. Donor-advised funds do not provide income to the donor. However, they do control which charities to donate to and when.

Technically, the money you donate belongs to the fund, not to you. Your contribution is irrevocable. If you find yourself in need of cash to fund your retirement, you’ll be out of luck. However, donor-advised funds do not come with payout rules, unlike private foundations. If you set up a private foundation, you’ll be required to distribute at least 5% of the foundation’s assets per year. Donor-advised funds don’t have any minimum distributions.

The Bottom Line

Investors who are looking to receive tax deductions today in exchange for a lifetime of income should consider a pooled income fund. This strategy can help investors avoid paying capital gains taxes on appreciated assets rather than making a cash donation to charity. Donations continue to grow while the donor is alive, then are distributed to their designated charities upon their death. If this approach sounds appealing, contact a financial advisor to discuss which assets to contribute to a pooled income fund.

Tips for Creating Retirement Income

Saving regularly in your nest egg is what enables you to create enough income in retirement. Our investment calculator allows you to forecast how big your portfolio will grow over time by changing different variables. Starting with your current balance, you can adjust annual contributions, rates of return and timeframe to evaluate different scenarios that meet your goals.
Investors often try to create multiple streams of income to meet their goals in retirement. There are numerous taxable and tax-advantaged income strategies that you can use to generate the income you need. It’s best to work with a financial advisor when developing an income strategy. Finding a qualified financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three financial advisors in your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.