Giving can be great Financial planning

Something that is not discussed in our culture is how giving to charities is woven into society’s fabric. According to Charity Navigator, total charitable giving in the US in 2017 was 410 billion dollars. Charitable giving makes up a significant portion of our economy.

I have written in the past about how giving is just as good for the donor as it is for the beneficiary and why how much you give should not be for the tax benefits. But once you have decided to give, there are some planning options that can significantly reduce your tax bill.

When most retirees exclude the value of their home and pensions, a significant portion of their wealth is held in their old employer’s retirement plan or a rollover over pretax IRA. Since the money represents pretax investments, this can present a planning opportunity where both the charity and the donor can win.

A pretax retirement account means taxes have not been taken on the contributions to the account or the growth on those contributions. Every time you take a distribution, the amount distributed will trigger ordinary income taxes.

Let’s say you have a predetermined amount you want to give to a qualified nonprofit charity, and your goal is to save money on your income taxes. A qualified charitable distribution could be the right move for you.

There are a few stipulations

• You must be 70.5 years old at the time of the QCD gift.
• You can give up to $100,000/per individual in a year from your IRA to a qualified 501c organization.
• Your IRA account cannot be actively receiving any employer contributions.
• Funds must be transferred directly from your IRA custodian to the qualified charity. Do not accept a check with your name on it, as this will count as a taxable distribution to you.
• Make sure to provide clear instructions to your custodian provider.

How it Works

In a typical situation, when you take a distribution, this will incur ordinary income taxes. Then an individual would take those proceeds from that distribution and give them to a charity of their choosing. At the end of the year, you take a tax deduction on the amount given to the charity.

An alternative is to do a qualified charitable distribution. Instead of taking the distribution to your bank account, which would incur ordinary income taxes, you would submit a check directly to the qualified charity per your custodian’s instructions. This will give you a tax deduction but will not cause ordinary income taxes.

The Difference

Unless you are familiar with how tax returns work, you may assume this is a lot of work for the same result. The difference is the fact that giving to your charity did not trigger an ordinary income tax event.

If an individual deploys this strategy, they are giving, more than likely, appreciated assets to a charity without paying taxes on that money. Better yet, they are also benefiting from the given amount reducing their income.

The Hard Math

Scenario – A person wants to give $10,000 to a qualified charity. They will have the option of taking a distribution from their IRA or directly giving to a qualified charity. They also want to take $100,0000 of income for the year to maintain their current lifestyle. We will assume they are in a 40% tax bracket.

Regular Charitable Donations

110,000 Distribution from IRA

– 10,000 Charitable deduction

100,000 Taxable Income

  x   40% Tax rate

$44,000 Taxes Due

Qualified Charitable Distribution

10,000 Transfer to a Qualified Charity

100,000 IRA Distribution

– 10,000 Income Tax Deduction

90,000 Taxable Income

X   40% Tax Rate

$36,000 Taxes Due

In this scenario, the person saves 8,000 dollars in taxes paid. And if a person were to perform this transaction for the next ten years, the savings can add up to 80,000 dollars.

Summary

• The amount you contribute via your qualified charitable distribution (QCD) means less income to report on your tax return. This amount is not included in your gross income.
• You can use the QCD amount to offset your required minimum distribution when you reach age 72. 
• You can also spread your gifts to several charities. 

If you would like more information on ways to save on taxes and if this strategy is a good fit for you, please set up a 15-minute consultation with me below.