Francis Bacon once said, “With charity there is no excess” – a powerful statement that the IRS would amend to add, “but with limitations.” When it comes to charitable donations, you are allowed to deduct 50% of your charitable donations only as an itemized deduction. However, with the recent implementation of the Tax Cuts and Jobs Act, it is estimated that a large number of taxpayers will opt out of their itemized deductions due to the increased standard deduction, effectively eliminating any benefit to charity donations. However, for folks at least 70 ½ years old, there is another method to maximize your charitable donations known as the Qualified Charitable Distribution (QCD).
To put it simply: QCD allows taxpayers who are required to take a Required Minimum Distribution (RMD) from their retirement accounts to directly apply that distribution to a qualified charity of their choice. By doing so, they do not have to pay any income tax on their distribution – a tax maneuver that can potentially save you thousands.
What are RMD’s?
Before we get too deep into this subject, let’s make sure we are on the same page and talk a little bit about what RMD’s are:
- RMD’s are the mandatory amount of your IRA or 401k balance that you must withdraw annually starting in the year you turn 70 ½.
- Your RMD is 100% taxable.
- The penalty for not taking an RMD is 50% of the RMD value.
Overall, you are required to take tax-triggering withdrawals from your retirement account every year once you reach 70 ½. Failing to take your RMD will result in a penalty excise tax of 50%, so it is in your best interest to follow regulations.
How Does This Apply To Charity?
Now that we understand how RMD’s work, we can utilize the Qualified Charitable Distribution to our advantage to help maximize tax savings.
At any time throughout the year it is possible to donate up to $100,000 of your RMD to a qualified charity. This charitable donation counts as your RMD but is not included as taxable income and therefore is not taxed. It is important to note that RMD’s from 401k’s do not qualify for QCD’s, so you will need to rollover your 401k into an IRA.
Let’s look at an example:
Assume you are married filing joint with your spouse, age 70 ½, and you are required to take an RMD of $20,000. Normally, you would be required to pay income tax on the full $20,000 distribution; however, let’s assume that you decide to allocate $15,000 of your RMD towards a Qualified Charitable Distribution. Rather than pay tax on the full $20,000, you are now only required to pay tax on $5,000 of your RMD ($20,000 RMD – $15,000 QCD).
If you are at least 70 ½ years or know someone who meets the age requirement, Qualified Charitable Donations are a great way to maximize your tax savings while continuing to give to charities that you care about. For further tax planning concerning Qualified Charitable Donations, contact Paragon today!