Giving to Charity in Retirement? Here’s a Tip
If you’ve ever donated to charity, you know it can be a win-win situation – not only does it benefit the organization in need, but the giver often feels good about being able to help others and there may be a tax break involved. However, did you know that donating to charity can become even better in retirement?
This is possible when you make a Qualified Charitable Distribution (QCD) from your IRA.
What is a QCD?
A QCD is a contribution made directly from a qualifying (namely, traditional) IRA account to an eligible charitable organization. Instead of withdrawing the funds from the IRA, and then making a contribution to the organization, a QCD means money is directly transferred from the retirement account to the charity of choice.
What are the Benefits of QCDs?
One of the most attractive benefits of QCDs is that your taxable income is reduced dollar-for-dollar by the amount you donate. What this means is that, unlike with traditional withdrawals from your IRA accounts, which are considered taxable income for the IRA account holder, when you donate to a charity in the form of a QCD, the donated funds are directly excluded from your adjusted gross income, thereby minimizing your tax liability in retirement. Also, because this exclusion of income reduces what the IRS calls "Adjusted Gross Income," you could save additional amounts in tax that would otherwise be paid on Social Security benefits as well as required contributions for Medicare premiums.
Because the QCD reduces your adjusted gross income, it can be a more effective savings tool than taking an itemized charitable giving deduction, which only lowers your taxable income, and may not even lower it dollar-for-dollar.
What are the Eligibility Requirements to Qualify for QCDs?
In order to take advantage of the tax benefits offered by QCDs, there are certain very specific requirements and limits.
For starters, you must have the right kind of IRA. QCDs are ideal for those with traditional IRAs, because while you can still take a QCD with a Roth IRA, those distributions are already tax-free, thereby eliminating the very tax advantages that make QCDs such an appealing IRA withdrawal strategy. QCDs can’t be made from SEP IRA and SIMPLE IRA plans, or qualified retirement plans like a 401(k) or a 403(b). An exception to this exclusion is made if the SEP or SIMPLE IRA plan is inactive – if the plan has been terminated or if the account holder and plan sponsor are no longer contributing to the account in the same tax year as the QCD is made.
Until late last year, QCDs were only available for those reaching an age where IRA withdrawals were needed in order to meet the Required Minimum Distribution (RMD) amounts. Recently, Congress changed the age at which RMDs must begin from age 70-½ to age 72. However, the age change did not affect the ability to make a qualifying QCD. So those can still be made by individuals who have reached age 70-½ (which is now permitted under the new rules). There are some complicated coordination provisions if you also make QCDs. A discussion with your tax preparer and advisor is important.
QCDs might be even more attractive if you need to take your RMDs but don’t need the money or want it when it will only put you into a higher tax bracket. Because you must take RMDs whether you need the money or not, a QCD from your IRA can count toward satisfying your RMD. Ignoring your RMD and not taking it can result in hefty penalties.
Another regulation is your QCD can only be made to a qualifying charity; one that is a registered 501(c)(3) organization and set up to receive tax-deductible contributions. Charities that are not eligible to receive QCDs include private foundations, supporting organizations, charitable gift annuities and donor-advised funds. You can do a Tax Exempt Organization Search on the IRS website to see if the charity you have in mind would be eligible to receive a QCD (and to find an alternative charity, if it’s not).
You are also prohibited from receiving anything in return for your contribution, so you can’t use a QCD to bid on silent auction items from a charity or buy tickets to a charity event.
There are also limits. In 2019, the maximum an IRA account owner could contribute through a QCD was $100,000 per year. There is no limit to the number of QCDs you can make, or the number of different eligible charities you can contribute to, as long as collectively the contributions don’t exceed the annual limit. For a married couple, the limit was $200,000, but the limit cannot be shared indeterminately: Each spouse is separately subject to the $100,000 limit, and each must take their RMD from their own IRA accounts for the contributions to both qualify as QCDs.
What Else Should You Keep in Mind?
Although a QCD is certainly a charitable contribution and not subject to income tax, you cannot claim it as a charitable deduction on your taxes.
You also need to remember that the distribution of your charitable contribution needs to be directly from your retirement account. In other words, your IRA custodian needs to be the one writing the check, naming the qualifying charitable organization as the payee. (The IRS does allow for you to deliver the check yourself, but the check must be written by the IRA custodian, and it must be expressly written out to the charity.)
If you were to withdraw the funds yourself, then write a check out of your personal account to your charity, the transaction would not qualify was a QCD and you would not be eligible for the tax benefits.
Finally, with regard to your RMD, chronology counts. If you take the full amount of your RMD early in the year, you would not be eligible to receive the tax benefits by qualifying as a QCD later in that same year. You can still exclude the income from a qualifying QCD, but the full amount of income from the RMD would nonetheless be reflected on your tax return.
QCDs from an IRA can be a great option for you if taking your RMDs is financially unnecessary for you, or possibly even detrimental to your situation by bumping you up into a higher tax bracket. If you meet the requirements and have the right type of IRA account, giving a QCD to a qualifying charity can be a way to meet your RMD, do something good with your money and reduce your adjusted gross income – and possibly the amount of income taxes you’ll owe.
If you are unsure whether you are eligible to give a QCD, if you have the right type of IRA or if your chosen charity is qualified, contact Linscomb & Williams for guidance and to discuss your options. In addition, tax laws, eligibility requirements and minimum/maximum limits can change, so make sure you consult with a professional to get the most current information and advice. Remember, retirement planning in Houston is different than in different areas, so it can be helpful to discuss your options with Houston area financial advisors if this is where you plan to retire.