You can beat the federal income tax system. How? By using qualified charitable distributions (QCDs). Most of us are philanthropic and have no problem making contributions to any 501c3 nonprofit entity, like Major Projects (Purple Pig), ENF or even Scholarships. 

Until lately most of us were able to deduct charitable contributions on schedule A of our federal tax return. With the new tax laws in effect many of us can no longer take a deduction for our contributions to charity. You lose that tax deduction but, not if you use a QCD. Under the rules you make a tax-free transfer from your IRA directly to the charity of your choice. You will never be taxed on the amount you contribute and don’t have to worry about tax law restrictions that apply to itemize charitable write-offs. The general rules are as follows:

1. As the IRA owner or beneficiary, you must have reached age 70½.

2. You must meet the regular tax-law requirements for a 100% deductible charitable donation. If you receive any benefits that would be subtracted from a donation under the regular charitable deduction rules (such as free tickets to an event) the distribution cannot be a QCD. Beware of this rule!

3. It must be a distribution that would otherwise be taxable. A Roth IRA distribution can meet this requirement if it’s not a qualified (meaning tax-free) distribution. However, taking QCDs out of Roth IRAs is generally inadvisable for reasons explained later.

 Important Notes on QCDs:

Important point 1: The Distribution must be made out to the charity! If YOU are writing a check and you donate it to the charity this will not count as a QCD. For it to be a QCD the money must move from your IRA to the Charity directly.

Important point 2: If you inherited an IRA from the deceased original account owner, you too can do the QCD drill with the inherited account if you’ve reached age 70½.

Important point 3: There is a $100,000 limit on total QCDs for any one year. But if both you and your spouse have IRAs set up in your respective names, each of you is entitled to a separate $100,000 annual QCD limit.

Tax-saving advantages

QCDs have Four potential tax-saving advantages:

Advantage No. 1: QCDs are not included in your adjusted gross income (AGI). This lowers the odds that you will be affected by various unfavorable AGI-based rules, such as those that can cause more of your Social Security benefits to be taxed and more of your investment income to be hit with the dreaded 3.8% Medicare surtax (the so-called net investment income tax).

Advantage No. 2: QCDs always deliver a tax benefit while “regular” charitable donations might not. The Tax Cuts and Jobs Act (TCJA) almost doubled the standard deduction amounts for 2018-2025, so higher standard deductions make it that much harder to claim itemized charitable write-offs.

Advantage No. 3: A QCD taken from your traditional IRA counts as a distribution for purposes of the required minimum distribution (RMD) rules. Therefore, you can arrange to donate all or part of your annual RMD (up to the $100,000 limit) that you would otherwise be forced to receive and pay taxes on.

Note: April 1 deadline: If you turned 70½ in 2019 but have not yet taken the RMD for  your 2019 tax year, you must do so by April 1 of 2020 or face a 50% penalty on any shortfall. Then you must take your RMD for the 2020 tax year by Dec. 31, 2020. If you waited until 2020 to take your 2019 RMD you then find yourself in this situation: having to take two taxable RMDs in 2020 with the resulting double tax whammy. Not good! But if you go the QCD route you can replace those taxable RMDs with tax-free QCDs

Advantage No. 4: Say you own one or more traditional IRAs to which you have made nondeductible contributions over the years. Your IRA balances consist partly of a taxable layer (from deductible contributions and account earnings) and partly of a nontaxable layer (from those nondeductible contributions). Any QCDs are treated as coming first from the taxable

Are you a good QCD candidate?

If you can afford to donate IRA money, you can benefit tax-wise if you match one or more of the following profiles:

1. You won’t itemize deductions this year due to the bigger standard deduction. So a “regular” charitable donation won’t deliver any tax savings, but a QCD will. That’s the first way to beat the system with a QCD.

2. You want to avoid being taxed on the RMDs that you must take this year from your IRA(s). Replacing taxable RMDs with tax-free QCDs is the second way to beat the system with a QCD.

3. You are looking for a quick-and-easy estate tax reduction strategy. This is a third way to beat the system with a QCD, but it only makes a difference if you’re quite well off.

The bottom line

If you haven’t taken your RMD for this year, there is still time. If you’ve already taken your RMD for this year, then plan on this opportunity for next year. For further information contact Anna Brockschmidt at 818.991.7794, or your financial advisor.

Any accounting, business or tax advice contained in this communication, including any attachments and enclosures, is not intended as a thorough, in-depth analysis of specific issues, nor a substitute for a formal opinion, nor is it sufficient to avoid tax-related penalties. Contact a tax advisor for specifics.