Contributing to our own retirement and contributing to charity – in our younger years our first thought would have been that these were two separate alternatives. We knew either course of action could offer tax reduction benefits; we simply needed to decide where and how much to divert in each of those two directions.
Fast forward to age 70½, and those two choices are slightly repositioned. Whether the funds are needed or not, our Geyer Law clients must take minimum withdrawals out of their IRA accounts. At the same time, many are now in a position to make substantial gifts to their charities of choice. The money they withdraw from their IRA accounts is fully taxable as ordinary income; money donated to charity, by contrast, will generate a tax deduction.
While our attorneys offer no tax advice, instead working in cooperation with clients’ tax advisors to coordinate tax saving and estate planning strategy, we found Journal of Financial Planning’s article “How to Use Qualified Charitable Distributions as a Tax Saving Tool” very interesting and instructive.
By way of background, in 2006, the IRS began to allow retirees to make what they termed QCDs, or Qualified Charitable Distributions. With a QCD, IRA owners who have reached age 70 ½ can move money directly from their IRA account to a charity of their choice. No income is reported, and no charitable deduction is claimed. Originally a temporary benefit which, every two years, needed to receive a new “blessing” by Congress, the QCD was permanently added to the law beginning in 2016.
So why is this direct path from our clients’ IRA account into the charity’s account such a big deal? Wouldn’t the same result be achieved by pulling out money from the IRA, paying the tax on it, and then contributing to the charity and deducting the contribution on the tax return accomplish precisely the same thing?
Not necessarily, authors Gardner and Daff explain, offering four reasons why QCDs beat the RMD-then-contribute route:
1. Financial institutions are not obligated to withhold taxes from a QCD. The entire distribution can thus go directly to the charity (up to $100,000 is allowed.)
2. The full amount of the QCD can be excluded from income (even when that contribution exceeds the percentage limit of adjusted gross income that normally applies to charitable contributions!)
3. QCDs are allowed for each individual. If spouses filing jointly are eligible, up to $200,000 can be excluded from income.
4. When the money travels directly from IRA to charity, that avoids raising income above thresholds that affect marginal tax rates, whether Social Security is taxable, Medicare part B premiums, and limits itemized deductions.
Charities and IRA accounts, we agree, that’s a match made for tax savings!