Qualified Charitable Distributions
Nobody likes paying taxes. At least I haven’t met anyone who does.
There is a rule that the IRS has in place for people who have money saved into a 401(k), traditional IRA, or any other pre-tax retirement savings vehicle. This rule requires anyone over a certain age (70.5 if you turned 70 before July 1, 2019 or 72 if you turned 70 after that date) to pull money out of their account even if they don’t need it. This is called a required minimum distribution (RMD for short).
The RMD is determined using a formula the IRS has come up with. You can determine that using this IRS worksheet or using this RMD calculator. If you’ve rolled your 401(k) into an IRA, most firms will be able to give you your projected RMD for the year as well.
The money pulled out of these accounts is then taxed as ordinary income. This means each dollar you pull out will be taxed at your marginal tax rate. If you’re in a high tax bracket this can mean potentially tens of thousands of additional dollars you have to pay every year.
What Can I Do About This?
First, I’ll acknowledge, this is a good problem to have. Having an RMD issue means that you’ve done well in preparing for this stage of your life and you’re able to create income from other sources to provide for you and your family.
If you have found yourself in this position though, and you’re charitable, a Qualified Charitable Distributions (QCDs for short) is a good option for you to consider.
What is a QCD?
A QCD is a donation made directly from a traditional IRA to a charity on behalf of the account owner. Each person can directly transfer up to $100,000 per year to a charity (or multiple charities) of their choice.
While each person can make up to a $100,000 distribution, QCDs are often used primarily to offset RMDs (see above).
As an example, let’s assume there is a married couple who will both be 75 at the end of the year. They both had $1,000,000 in their IRAs at the end of last year (when the RMD calculation was made).
In this scenario, each spouse would have a required minimum distribution (RMD) of $43,668.12 for the year.
These clients could choose to take their RMD and pay the tax on the additional $87,336.24 (2 x their RMD of $43,668.12) of income and then take the money and reinvest it or spend it.
Another option would be to have some or all of that be used as a QCD. Each dollar used in this way will reduce the amount of taxable income for them dollar for dollar.
How is This Different From Other Giving?
The biggest advantage to a QCD is that this is an above the line deduction (the best kind). Most charitable giving is a below the line deduction and only counted if you choose to itemize your deductions.
Itemizing deductions is not as popular as it once was due the changes in the tax law in 2017. The biggest reason is the significant increase in the standard deduction.
Even still, a QCD removes every dollar donated from your adjusted gross income (AGI).
Should I Do This?
This is a great question and not one I can answer definitively in a format like this.
Regardless of your situation, I think it’s worth considering this as an option if you’re charitable. Even if you’re reliant on your IRA for income, there could still be reasons to consider QCDs if you’re charitable.
I would suggest you schedule a meeting with your financial planner and/or CPA to discuss as there are specific rules you have to follow to be able to do this. Ideally your planner and CPA will work together to help you with decisions like these.
If you’re a do-it-yourselfer (both taxes and investing), do some research to see if it would be worth doing. You might want to consider hiring a CPA or CFP professional to help you. You can find many that will charge you a one time fee or an hourly rate.
Did You Know?
Once you’ve distributed your required minimum distribution, you can’t decide at a later date that you want to do a QCD with that money. The QCD has to be transferred directly from your IRA to the (qualified) charity of your choice.
Quotable:
“People who complain about taxes can be divided into two classes: men and women.”
-Author Unknown
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