Did you know that you can make a charitable contribution directly from your IRA, avoid Federal (and possibly State) taxation on the distribution, and have the contribution count toward your required minimum distribution? That’s right. Last year, the PATH Act of 2015, made this special provision, which has been around in temporary form since 2006, permanent.
How might this opportunity benefit you? Without this special rule, if you took money out of an IRA and contributed it to a charity, you were required to report that distribution as taxable income. Of course, you could deduct the contribution as an itemized deduction, but that deduction might not offset the tax liability on the distribution depending on your tax situation. Now under these rules, a qualifying distribution is excluded completely from your federal taxable income. This can mean significant tax savings in the following situations:
- If you do not itemize. Under the old rules, the corresponding income and deduction would offset each other on your federal return only if you itemized deductions. If you did not itemize, you paid tax on the distribution from the IRA to the charity. Now, non-itemizers will obtain the benefit of a deduction for a charitable distribution from an IRA. This is particularly meaningful for taxpayers who live in states with no income tax (such as Florida), because these taxpayers often do not have enough deductions to warrant itemization.
- If you have maxed out your charitable deductions. Charitable contributions can only be deducted up to 50% of adjusted gross income. If you make a lot of charitable contributions and are subject to this limitation, this new rule provides you with the equivalent of a deduction in excess of the limit.
- If you are subject to alternative minimum tax, pay tax on social security earnings, have large medical or miscellaneous deductions, or have itemized deductions and personal exemptions limited because of high income. Many tax results are measured by a taxpayer’s income. For example, medical expenses can be deducted only if they exceed a certain percentage of income. Likewise, itemized deductions are limited for high income taxpayers based on income levels. Because of the new exclusion, qualified charitable distributions from IRAs are not counted as income and can be ignored when analyzing these results.
- If you live in a state that does not allow charitable deductions and/or taxes retirement distributions. Ohio, for example, taxes retirement income and does not allow for charitable deductions. Thus, under the old rules, if took a distribution from an IRA to make a charitable contribution, you paid Ohio tax on the distribution without any corresponding deduction. Now, no Ohio tax will be paid on the distribution since it is never included in federal taxable income.
Of course, the law has some specific requirements. In order for a distribution to be excluded from income, the following requirements must be met:
- The distribution must be made from a traditional or Roth IRA. Distributions from 401(k), 403(b), SEP, Keogh, or defined benefit plans are not eligible for this treatment. However, it may be possible to rollover a distribution from such a plan to an IRA and then make the charitable distribution.
- The owner of the IRA must have reached age 70½ by the date of the contribution.
- The distribution must be made to a qualified charitable organization. Donations to private foundations, donor advised funds, and supporting organizations do not qualify.
- The amount excluded from gross income is limited to $100,000 per year per taxpayer (i.e., a married couple each with their own IRA can exclude up to $200,000 per year).
- The contribution must be made directly by the plan administrator to the charitable organization. This means that the check must be issued by the plan administrator made payable to the charity. If the check is made payable to the taxpayer and then endorsed to the charity, the exclusion does not apply.
A few other comments:
- Generally, distributions from traditional IRAs that hold only deductible contributions or rollover assets will benefit most from these rules, since these distributions are always subject to tax. If you own a traditional IRA that holds both before-tax assets and non-deductible contributions (which are not taxed when distributed), special rules apply that ensure that only the before-tax assets are distributed.
- Most distributions from Roth IRAs do not benefit from the new rules, since these distributions are not normally subject to tax. However, there are some situations where distributions from Roth IRAs are taxed, and in these situations, the new rules will provide the benefits discussed above.
- If you own very low cost basis assets, it may be more advantageous to donate these assets to charity.
The bottom line is this: if you are over age 70½, have assets in an IRA, make charitable contributions, and are in one of the above tax situations, you might consider having the charitable contribution made directly from the IRA, saving your other assets for other uses.
Disclaimer: Neither Ancora Inverness, LLC (and affiliates) nor Howard Essner are engaged in providing legal, accounting or tax advice. This article should be considered general advice only. Please consult your personal tax advisor to see if the concepts discussed in this article are applicable to you.
Howard Essner, JD, is the General Counsel at Ancora Holdings Inc.
The mention of specific securities, types of securities and/or investment strategies in this newsletter should not be considered as an offer to sell or a solicitation to purchase any specific securities or to implement an investment strategy. Please consult with an Ancora Investment Professional on how the purchase or sale of specific securities can be implemented to meet your particular investment objectives, goals, and risk tolerances. Past performance of these types of investments is not indicative of future results and does not guarantee dividends/interest will be paid or paid at the same rate in the future. The data presented has been obtained from sources that are believed to be accurate and credible. Ancora Advisors makes no guarantee to the complete accuracy of this information. The indexes discussed are market performance indices and are not available for purchase. If you were to purchase the securities that make up these indices, your returns would be lower once fees and/or commissions are deducted. Past performance of these indices is not indicative of future results of the securities contained in these indices.
Ancora Advisors LLC is a registered investment adviser with the Securities and Exchange Commission of the United States. A more detailed description of the company, its management, and practices are contained in its “Firm Brochure” Form ADV, Part 2a. A copy of this form may be received by contacting the company at: 2000 Auburn Drive, Suite 300, Cleveland, Ohio 44122, Phone: 216-825-4000, or by visiting our website www.ancora.net/adv