IRS Information, Regulations and Commentary on Charitable Legal Issues

Gift Annuities – Malpractice XIV

Billie and George Huntley have had a longstanding and supportive relationship with their church.  Both serve on various boards, and Mrs. Huntley recently joined the church’s new fundraising and endowment committee.  Billie’s background in life insurance has given her a good understanding of the financial importance of long-term retirement planning, and she introduced some of the congregation to the idea of charitable gift annuities (CGA).  The reason Billie knew something about gift annuities is that she had recently attended a program where life insurance producers were encouraged to “sell” these annuities to their clients and reap handsome commissions for their efforts.


Gift Annuities are Excellent Charitable Tools


In an effort to protect charities from registration and oversight by the SEC, the Philanthropy Protection Act of 1995 (PPA/HR 2519) stipulated that a CGA is to be treated as a charitable gift, not as a regulated security.  Further insulating the charity from registering as an investment company, the PPA also prohibited the payment of a commission in the sale of a gift annuity. Recently, the National Association of Securities Dealers (NASD) issued a statement that called on registered representatives to avoid offering any gift annuity by labeling it an unregistered product.*  Additionally, the National Committee on Planned Giving (NCPG) and the American Council on Gift Annuities (ACGA) have both gone on record to denounce the “sale” of gift annuities and the payment of commissions by any charities implementing them.


The gift annuity is generally a creature of state law, essentially acting as a bargain sale agreement between a charity and the donor.  Since gift annuities closely resemble insurance company single premium immediate annuities (SPIA), states generally have insurance departments oversee or regulate the contracts.  The payments from both the CGA and SPIA are both reported to the IRS on a 1096, then the donor reports the income on a 1099-R.  Unlike the SPIA, part of the gift annuity payment may be part capital gain (if funded with a contributed capital gain asset), part ordinary income, and part return of principal.  The CGA also differs from the commissionable SPIA sold by insurance producers because, as a planned gift, it provides a charitable income tax deduction, and it is limited to providing only lifetime payments to just one or two annuitants.  Unlike charitable remainder trusts, there is no need for the donor to pay for annual trust accounting, compliance, or document drafting services, and the gift annuity issuing charity is financially liable for the ongoing stream of payments.


Many seniors “shop” annuity rates, seeking a higher rate of return on their savings, and may be mislead by advertising claims when they overlook the charitable component of a CGA.  Too often, an overenthusiastic marketer will compare a gift annuity to a bank’s certificate of deposit (CD) or to a commercial insurance company’s SPIA.  Unfortunately, it is not an apples and apples comparison.  Medically underwritten commercial annuities offers more options beyond one and two life only guaranteed payments, and often pay a higher annuity payment.  When promoters pitch a CGA as a product in a way that puts it in a comparative situation to regulated commercial products, they confuse donors.  This is especially true when CGA rates are compared to bank CD rates. 

Commercial Annuity vs. the Gift Annuity


Hypothetically, a $100,000 CGA for a 70-year-old would produce $6,700 annually (paid monthly) and a concurrent income tax deduction of $32,204, but a comparable one life SPIA for a 70-year-old man produces $9,060 annually.  Obviously, one cannot make money by giving it away, but donors need to remember that a CGA is primarily a charitable gift, not a purchased money making tool.  Since the premise behind a CGA is that there should be a 50% residual value after the annuity terminates, there’s no way a charitable gift annuity can (or should) compete dollar for dollar as an investment tool; only when the philanthropic goals of the donor are factored in does it make financial sense. 


In light of historically low fixed income interest rates and recent gift annuity defaults by insolvent charities, it makes sense for donors and their advisors to look carefully at the financial strength of any charity offering split-interest gifts before making an irrevocable transfer to a nonprofit organization.  Prior to signing any gift annuity agreement, ensure disclosures required by state law are clear and all the parties to the transaction understand their responsibilities.


*NASD Regulatory & Compliance Alert, Regulatory Short Takes — Charitable Gift Annuities, Summer 2002.