Offsetting a Tax Bracket Bump with Qualified Charitable Distributions
Originally published on December 18, 2018
Updated on August 16th, 2022
The close of the year is an important time to consider liabilities and other tax events that may affect your eventual filings. Among them are your IRA required minimum distributions (RMDs) if you’re over 70½ years old. Unfortunately, taking this income could push you into a higher tax bracket, resulting in a heavier tax burden on your already-limited retirement income. It’s why many financial planners encourage a qualified charitable distribution at the end of the year.
What is a qualified charitable distribution?
A qualified charitable distribution (QCD) is a donation made directly to a charity from your IRA. Instead of taking RMDs, retirees can set up their dispersals to be donated. This distribution is tax and penalty free, which means it offsets the additional income that might otherwise increase your tax burden or bump you into a higher tax bracket.
Another great thing about QCDs is that despite not counting as income, they still directly fulfill RMDs (partially or completely). For example, if your required minimum distribution for the year is $10,000 and you make qualified charitable donations of $6,000, you only have to take $4,000 out of your IRA as income. This allows you to offset only what is necessary to avoid a higher tax bracket.
Additionally, the higher standard deduction brought on by tax reform means you’re less likely to itemize your return. By opting for a qualified charitable distribution, you’ll still receive a tax benefit from your charity contribution when you otherwise might not, because it reduces your income (in turn, reducing your tax liability).
What are the eligibility requirements for charitable donations?
The IRS has very strict rules about what constitutes a qualified charitable organization. Qualified organizations must meet specific tax filing criteria (a 501(c)(3) public charity), as well as use donations in a way that directly impacts their cause. So it’s smart to work with a certified public accountant to make sure the organization you want to donate to meets IRS criteria for a qualified charitable organization.
The Rules for Making a QCD
If you decide to make a QCD to offset some of your tax burden, it’s critical to also make sure your distribution is set up properly and recorded appropriately. Simply writing a check to your favorite charity won’t do it! Here are the rules you’ll need to follow:
- You must be at least 70½ years old to qualify for an IRA QCD.
- Your QCD must be paid directly to a qualified charitable organization from your IRA.
- The distribution must be recorded on IRS Form 1099-R.
- There is a $100,000 limit on your contribution.
- Any QCD in excess of the $100,000 exclusion limit is included in income as any other distribution.
- An individual who makes a deductible IRA contribution after age 70½ will reduce the amount of available QCD by that amount. This reduction is not just for the year of the contribution; it is cumulative and carries forward.
While it looks simple enough, there are very specific rules about the order of operations and process involved in making a QCD. For example, if your distribution isn’t made directly to charity and you cut the charity a personal check, the IRA distribution is counted as income first and a donation second—meaning you can still be taxed for receiving the distribution!
A CPA makes the whole process easier!
Due to the convoluted nature of how your tax burden is tabulated and what taxable events trigger additions to it, the smartest thing you can do at the end of the year is consult your CPA.
James Moore’s tax CPAs will help you determine the best way to utilize qualified charitable distributions to offset the possibility of a higher tax bracket. And while you might end up donating some or all of your RMDs to charity, you’ll avoid the hefty costs associated with a higher tax bracket. Take a look at just a few things a CPA will handle to make the entire process simpler:
- Determining how much of your RMDs should be donated to offset a higher tax bracket.
- Helping you set up the direct-to-charity distribution with your IRA custodian.
- Ensuring there is no tax withholding from the QCD to the charity.
- Assessing and reviewing your finances to find other offsetting tax opportunities.
Reduce your tax burden before the new year.
To see if qualified charitable distributions will help lower your tax burden this year, contact James Moore’s tax CPAs today. We’ll help you examine QCDs as a tool to help keep you out of a costlier tax bracket. And if you need additional help offsetting other tax liabilities, we can assist you in exploring options such as selling depreciated securities or gifting appreciated ones.
All content provided in this article is for informational purposes only. Matters discussed in this article are subject to change. For up-to-date information on this subject please contact a James Moore professional. James Moore will not be held responsible for any claim, loss, damage or inconvenience caused as a result of any information within these pages or any information accessed through this site.
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