Many Individual Retirement Account (IRA) owners who are 70 ½ or older like to donate their annual Required Minimum Distributions (RMDs) directly to the charity of their choice using a strategy called Qualified Charitable Distributions (QCD).
There are several advantages to using the QCD:
It helps to keep your income below the next higher tax bracket.
It also helps to keep your income below the threshold for the Medicare high-income surcharge. Otherwise, your Part B and Part D premiums could be increased if your Adjusted Gross Income (AGI) is above $85,000 for single persons, or $170,000 for joint filers.
It helps to reduce the amount of your Social Security benefits that are subject to taxes.
Those who use the Standard Deduction on their taxes can now get a tax break for a contribution to charity. Previously, you had to itemize to reduce your taxes with charitable contributions.
The problem, until recently, was that the ability to do a direct distribution from an IRA to a charitable organization was temporary under the “Tax Extenders” series of tax provisions. This was subject to an annual approval from the IRS, which usually came at the very end of each year. The timing made it difficult to do tax planning
Thankfully, the ability to do a QCD is now permanent under the Consolidated Appropriations Act of 2016. This lets people over age 70 ½ transfer up to $100,000 from their IRA to charity and have it count as their Required Minimum Distribution (RMD) without increasing their AGI.
For example, if you need to take a $20,000 RMD for this year, you could do a $20,000 QCD and satisfy your RMD. You can even contribute more than your RMD, up to an annual limit of $100,000. The amount transferred from your IRA to the charity is not included in your AGI for the year.
For those who are unfamiliar with how Requirement Minimum Distributions (RMDs) work, here are the basics. If you are age 70 ½ or older, you generally must withdraw a minimum amount (about 4% to 7%, depending your age) from your Traditional IRAs and employer-sponsored retirement plans, like 401(k)s and 403(b)s. Roth IRAs are excluded. The money you’re required to withdraw gets added to your taxable income, unless you’re doing a QCD. If you fail to take your RMD, the IRS could penalize you 50% on what you should have taken out.
There are some important exemptions that apply to the Qualified Charitable Distribution:
QCDs may be made from any IRA or individual retirement annuity, but not from an ongoing Simplified Employee Pension (SEP) or SIMPLE retirement account, or an Inherited IRA.
The QCD can only be made on or after the date the IRA owner actually reaches age 70 ½, not simply in the year when the owner turns 70 ½. Supposing you are going to turn 70 ½ on August 1st, 2016. You can’t make a QCD until on or after August 1st.
Contributions to a Donor Advised Fund do not qualify for the QCD.
Here are some of the steps for completing a Qualified Charitable Distribution properly:
The charity you have in mind must meet the IRS definition of a qualified charity under IRS Section 509(a)(3).
Contact the charity to determine the exact payee name for the check.
Using that name, instruct your IRA trustee or custodian to make a transfer from the IRA directly to that charity. It won’t qualify if the check is made out to you.
Many IRA owners prefer to have the check for the charity sent to themselves. They then make a copy for their own records, and forward the check to the charity with a cover letter.
The charity must provide a contribution acknowledgment in order for you to claim the charitable income tax deduction.
We recommend that you consult with your CPA or Certified Financial Planner™ to make sure that your Qualified Charitable Distribution strategy makes sense for you, not only from an income tax perspective, but also from estate planning and other aspects of your financial life.