How Wealthy Americans Use DAFs Before Moving to Canada

Video Script

What if I told you there was a way to reduce your tax bill BEFORE you move to Canada, while also creating a legacy of philanthropy?

In this video, I’m going to explain how donor-advised funds work. And, how Americans and Green Card Holders moving to Canada can use this strategy wisely.

I’ll also show you an example where one decision can create a difference of over $700,000. Stay to the end, and I’ll show you what to do if this isn’t the right strategy for your family.

I’m Tiffany Woodfield, a TEP, Cross-Border Financial Advisor, and the co-founder of SWAN Wealth Management.

I work with US and Canadian clients every day. And over the years, I’ve seen how much stress tax planning and pre-move capital gains hits can cause families with cross-border wealth.

So let’s get into it!

What Is a Donor-Advised Fund & How Does It Work?

A donor-advised fund, or DAF, is a charitable account set up with a sponsoring organization. You contribute cash or investments, and you’ll often get a tax deduction right away.

You can recommend grants to charities over time. And the investments inside the DAF can also grow over time.

When you contribute to a DAF, the donation is irrevocable. This means that you can’t change your mind once you’ve funded a DAF.

When to Create a DAF

The last year before leaving the US may be a high-income year.

You may have a bonus, RSU vesting, or business income that comes through before the move.

If your income is high, the deduction is more valuable.

In the US, you can only use 30% of your adjusted gross income when donating gifts of appreciated property. So, if you donate $1M in mutual funds and your income for the year is $1.5M, the maximum deduction you could take that year would be $450,000.

You could carry forward the rest of the deduction for up to 5 years. But after you move to Canada, you’re in a different tax regime. You may not be able to use those deductions in the same way for US tax purposes. Your US tax bill will be much lower because of lower Canadian tax rates and Canadian foreign tax credits. You may not have to file a US tax return if you’re not a US citizen or green card holder.

So if you’re going to create a donor-advised fund in the US, it’s often best to set it up a few years before you move. That way, you can use all the tax deductions while you’re still in the US.

Why Investors Moving to Canada May Choose to Use Appreciated Mutual Funds to Fund a DAF

As a Canadian resident, holding US mutual funds is generally restricted because of securities regulations and tax implications.

These funds are only LICENSED for US residents, so selling them before you become a Canadian tax resident makes sense.

Let’s say you don’t tell your advisor that you’ve moved, and you keep your US mutual funds. You’ll still end up with taxation issues.

For example, if you live in BC and you’re in the highest income bracket, your US mutual fund dividends may be taxed at over 50%.

Capital gains may be taxed at over 25% if you’re in the highest tax bracket.

And on top of that, you’re forced to realize the gains each year.

A Simple Example of Using a DAF Before You Move

Let’s use a simple example to go over the benefits of using a DAF.

Julia is a tech executive who works in Silicon Valley. She’s planning on moving back to Canada in 2 years.

Julia's Situation

• She earns $500k per year and has $12M in investments.

• $1M of her portfolio is in US mutual funds.

• She has an unrealized capital gain of $700,000 on those mutual funds.

• She’ll also be vesting $3M in RSUs the year she moves. That will bump her income up to $3.5M.

• If Julia were to sell her mutual funds while living in the US, she'd realize the $700,000 in gains. She could pay over $230,000 in capital gains tax.

• And she could be liable to pay about $1.6M in federal and state income tax.

Julia gives to charity each year and plans to increase her giving over time. So instead of selling her US mutual funds, she contributes $1M in mutual funds to a US donor-advised fund.

She avoids paying $230,000 in tax on the gains. And she gets a tax deduction for the $1M donation.

Remember, you can typically deduct up to 30% of your Adjusted Gross Income when the 30% limit applies. Anything above that can be carried forward for up to 5 years.

Because Julia’s income is high, she can deduct the full $1M from her income.

Example Tax Savings

At a combined federal and California rate of roughly 48% to 50%, the $1 million deduction could reduce her taxes by around $480,000.

Add the $230,000 in capital gains she avoids, and the total benefit is over $700,000.

And she’s set up a $1M DAF that aligns with her philanthropic goals.

Julia can spread out her donations over the next 10 or 20 years.

She’s not donating more. Instead, she’s redirecting money that would have gone to taxes.

How to Handle US Mutual Funds in a Taxable Account If You Don’t Want to Create a DAF

If you don’t want to create a DAF, that’s OK.

But you should still have a wealth preservation strategy for your US mutual funds.

One common strategy to deal with US mutual funds is to sell them and buy ETFs.

In some cases, you can do a rollover, which will allow you to defer your capital gains. But that’s not always possible.

If you’re in a state with a high tax regime, like California, it may be best to sell them after you have clearly ended your California residency.

Then you can potentially avoid paying state taxes on the capital gains.

Finally, if you’re planning to move across the border and have assets you want to protect, I recommend scheduling a call with a cross-border advisor.

The biggest and most costly mistakes happen when people don’t plan well in advance.

Schedule a call with a SWAN Wealth cross-border expert at swanwealthcoaching.com.

Thank’s so much for watching, and I’ll see you in the next video!