Maximizing Charitable Deductions Using Your IRA

Kurt K. Ohliger, Jr., CPA (Oct, 2018)

Many provisions of the Tax Cuts and Jobs Act of 2017 (TCJA) have received controversial reporting, perhaps none more so than the changes and limitations applicable to various itemized deductions.  New limitations related to the deductibility of state and local income and property taxes, as well as the related increase in the standard deduction amount, will convert many historical "itemizers" to users of the increased standard deduction.  These taxpayers will no longer deduct their charitable contributions.  This conversion has also led to many taxpayers considering scaling back their charitable giving since using the standard deduction eliminates any tax benefit of making contributions.  While the merits and logic of that type of thinking can be argued "for and against," it is beyond the scope of this article.

The Pension Protection Act of 2006 (PPA) established the "qualified charitable distribution" (QCD) allowing qualifying individuals to satisfy both their required minimum distributions (RMD) from their IRAs, as well as their charitable goals. Under the rules, taxpayers who were at least 70-1/2 years old could designate a portion of their RMD to be transferred to a charitable organization.  The amount of the transfer counted as part of their RMD, but was excluded from gross income. Qualifying taxpayers utilizing a QCD can still make those contributions with pre-tax dollars, resulting in significant tax savings.

Example: Bob and Betty plan to file a joint tax return for 2018.  They are both over 70-1/2 years old and their total adjusted gross income (AGI) will be $150,000, consisting of pension income of $80,000 and RMDs from IRAs of $70,000. Due to the higher standard deduction, Bob and Betty do not plan to itemize, but they do expect to make charitable contributions of $10,000.  They will report federal taxable income of $123,400 ($150,000 AGI less the standard deduction of $26,600 (the $24,000 married filing joint amount plus and additional standard deduction of $1,300 each for being over age 65)).  The result is federal taxes of $19,027.

Alternatively, if Bob and Betty make their charitable contributions using QCDs, they will include the $10,000 as part of their RMDs, but exclude it from their gross income.  As a result, their taxable income will be $113,400 and their federal tax will be $16,827.  They will save $2,200 in federal taxes by using QCDs.

So what are the requirements necessary for a distribution to qualify as a QCD?  As with most tax-related "good things," there are several:

  • Aggregate QCDs excluded from gross income cannot exceed $100,000 in a tax year. The limit applies to each IRA owner, so both spouses can each make $100,000 in QCDs if they come from their respective IRAs.
  • Taxpayers may not take a charitable contribution deduction for any amount of a QCD.
  • Distributions must be made on or after the date the IRA beneficiary attains age 70-1/2.
  • The QCD must be made by December 31st of each year in order to be excluded from that year's gross income.
  • A QCD can be made from any type of IRA other than a simplified employee pension or a SIMPLE retirement account in which the taxpayer is still active and receiving employer contributions.  A QCD can be made from a Roth IRA (although these distributions are generally already tax free and not subject to RMDs), an inherited IRA (as long as the beneficiary of the inherited IRA has attained age 70-1/2), and a rollover IRA.
  • The distribution must be made directly by the IRA trustee to a qualifying charitable organization (donor advised funds are excluded from this definition for this purpose). However, a check from the IRA payable to the charitable organization and delivered by the IRA owner will be considered a "direct" payment.
  • No goods, services, or other benefit can be received in exchange for the QCD.  Therefore, you cannot use a QCD to pay the $5,000 cost of a table for 10 people at a charity event, as a portion of the ticket cost would be for goods and services (cost of dinner, etc.).
  • Taxpayers will be required to obtain and retain adequate substantiation from the donee organizations, similar to the requirements for deductible charitable contributions.

In addition to the benefits described above, making QCDs results in lower AGI.  Since several phase-outs and limitations are tied to the level of AGI, lowering AGI can result in increased medical expense deductions, lower net investment income tax, and lower taxable Social Security benefits just to name a few.

As with all tax planning initiatives, we encourage you to contact your Dermody, Burke & Brown tax advisor to discuss your options before taking any action in order to maximize the associated tax benefits.

 

The information reflected in this article was current at the time of publication.  This information will not be modified or updated for any subsequent tax law changes, if any.

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