An IRA is an account set up at a financial institution that allows an individual to invest for their retirement with tax-deferred growth. There are 3 main types of IRA’s, a traditional IRA, a Roth IRA, and a Rollover IRA. Many people wonder how they can wisely use their IRA to support both their lifestyle and their favorite charitable organizations. Most retired donors are receiving income from their IRA accounts and are unaware of the potential tax benefits to them by supporting their annual giving through their IRA.
When your potential donor reaches age 72, they’re required to withdraw a certain amount of money from their traditional IRA and Rollover IRA each year, this is called a required minimum distribution, or RMD. Their RMD amount is calculated by dividing their tax-deferred retirement account balance as of December 31 of last year by their life expectancy factor.
Once your donor reaches age 70 1/2 or older, the IRS allows and even encourages them to support their favorite charitable organizations from their IRA account through something called a qualified charitable distribution. A qualified charitable distribution is a direct transfer of funds from their IRA to a charity. The maximum annual amount that can be transferred directly from their IRA to a charity is $100,000. This qualified charitable distribution counts toward their yearly required minimum distribution (RMD).
Potential Benefits to Donor
- A gift from the IRA directly to a charity is a non-taxable event for the donor, instead of the donor contributing cash and then having to seek an income tax deduction.
- Qualified Charitable Distributions don't require that a donor itemize.
- Ability to lower adjusted gross income which can allow the donor to stay in a lower tax bracket, reduce or eliminate the taxation of Social Security or other income, and remain eligible for deductions and credits that might be lost if the donor had to declare the RMD amount as income.
Potential Benefits to Nonprofit
- Donors can donate more because it's a nontaxable event, versus trying to claim itemized charitable tax deductions.
- Since individuals are required to take out their RMD at age 72, more wealthy donors are required to take out more than they need as income and this provides a perfect charitable giving opportunity.
Let's explore an example of Bob and Linda, a lovely married couple who are both 73 years old (this is a hypothetical example for illustrative purposes only). They are financially secure, and they make yearly contributions to their favorite nonprofit organizations. They would like to contribute more to their favorite charitable organization, but they also would like to receive more tax benefits. A qualified charitable distribution from their IRA may be a perfect opportunity for Bob and Linda to meet these goals.
Currently the couple has been withdrawing $50,000 a year as a required minimum distribution from their IRA. However, they only need $40,000 as income upon which to live. This means that they've had to take out an extra $10,000 from their IRA and pay an additional 25% in income taxes which is $2,500 of that $10,000. This leaves them with only $7,500 to make charitable contributions each year.
Now that Bob and Linda understand how the qualified charitable distribution works, they know they are required to take out $50,000 a year. However, since they only need $40,000 to support their lifestyle, if they use the qualified charitable distribution it means they can give $10,000 directly from their IRA to their favorite charity, without losing the $2,500 to taxes. The result is that they increase their annual giving from $7,500 to $10,000, a 33% increase in their charitable giving. In essence, they have redirected the taxes they would be paying to the government on their IRA to their favorite charitable organization instead. This is a win for the charity and for Bob and Linda.
SPECIAL NOTE ON IRAS: HOW TO AVOID THE IRA TAX LIABILITY AT DEATH
Under current law, when a non-spouse, such as a child or sibling, inherits an IRA at death from a parent or sibling there are tax consequences. When the beneficiary takes a withdrawal from the inherited IRA, it is taxed at ordinary income rates at the beneficiary's highest tax brackets. When the beneficiary inherits the IRA, they have discretion within the first 10 years on when they would like to take withdrawals, but by the end of the 10th year the entire amount of the IRA is forced out and becomes a taxable event for the beneficiary.
What most beneficiaries, i.e. potential donors, don't know is that if they leave the IRA to their favorite charitable organizations it is not taxed, and the charity receives the entire amount without any loss due to taxes. Today, for planning purposes, we see many people who are starting to choose to leave some or all their IRA assets to charity and all their other non-IRA assets to their family members, which is currently nontaxable.
If you have a donor who is interested in using their IRA to make a gift to your charity, please contact Bill at (913) 322-9177 to help answer any questions you or they may have.
Financial Professionals do not provide specific tax/legal advice and this information should not be considered as such. You should always consult your tax/legal advisor regarding your own specific tax/legal situation.
Bill Eckert, CAP® is a registered representative and investment advisor representative of Securian Financial Services, Inc. Securities and Investment Advisory Services offered through Securian Financial Services, Inc. member FINRA/SIPC. Renaissance Financial Corporation is independently owned and operated. Address: 7500 College Boulevard, Overland Park, KS 66210. (913) 322-9177. 5040537 11/2022