You have saved your working years for your pension. But you also made sure you regularly donated to charity. Once you retire, your income may be limited. But you don’t want to give up on your philanthropic goals. So how can you keep donating to your favorite charity(s) in retirement?
Money from an individual retirement account (IRA) can be donated to charity. What’s more, if you’ve reached the age where you need to take the required minimum distributions (RMDs) from your traditional IRAs, you can avoid paying taxes on them by donating that money to charity. And there’s good news if you’re happy to do this, because this tax break was made permanent in 2015. You just have to make sure you follow the rules carefully. Here’s what you need to know.
Key learning points
- Funds from an IRA can be used for charitable donations if done correctly.
- Charitable donations from an IRA are called qualified charitable distributions.
- Tax benefits on charitable donations cannot be combined with tax benefits on pension savings.
- Donations from an IRA can meet all or part of the IRA’s required minimum distributions for the tax year.
- QCDs must be reported by the IRA administrator on Form 1099-R of the account holder’s annual tax return.
How a Qualified Charity Distribution (QCD) works
A distribution from a traditional IRA normally involves taxes, since the account holder paid no taxes on the money when they made the contribution. But account holders age 70½ or older who contribute directly from a traditional IRA to a qualified charity can donate up to $100,000 without it being considered a taxable distribution. The deduction actually reduces the donor’s adjusted gross income (AGI).
Donors must follow the IRS rules for qualified charitable distributions (QCDs) to avoid paying taxes on the donation. These are called charitable IRA rollovers. Most churches, nonprofit charities, educational organizations, nonprofit hospitals, and medical research organizations are qualified 501(c)3 organizations. The charity also pays no tax on the donation.
This tax break means that the donor cannot claim the gift as a deduction on Schedule A on their tax return. But most taxpayers probably won’t itemize their deductions on the form, especially since the Tax Cuts and Jobs Act (TCJA) increased the default standard deduction. The standard deduction for tax years 2022 and 2023 can be found in the table below:
|Standard deduction for 2022 and 2023|
|Married filing separately||$12,950||$13,850|
|Head of the household||$19,400||$20,800|
|Married filing jointly||$25,900||$27,700|
sources: Tax Office Rev. Proc. 2021-45 and Tax Office Rev. Proc. Internal Revenue Bulletin: 2022-45
Taxpayers whose annual income affects their Medicare premiums may also find that this provision helps control premium costs.
Itemizing your deductions allows you to claim donations made with funds from non-IRA sources.
Qualified Charity Distributions (QCDs) and IRA Distributions
An RMD is the amount of money an investor must withdraw from certain retirement accounts, including IRAs. The minimum age to start taking RMDs was 70½ until the Setting Every Community Up For Retirement Enhancement (SECURE) Act raised it to 72. As such, traditional IRA owners must start taking RMDs at age 72 or face tax penalties.
Any donations made directly from an IRA can meet all or a portion of the IRA’s RMDs for the tax year. The charity must receive the donation by December 31st in order to use the amount for that year’s tax return.
QCDs are a good choice for individuals who would otherwise not be able to deduct all or part of their charitable donations due to the IRS rule prohibiting a deduction for donation amounts exceeding 60% of a taxpayer’s AGI. This rule only seems to affect high net worth taxpayers who give generously, but it also affects retirees with little to no income who still want to make a tax-deductible donation.
Roth IRAs don’t require distributions while the account holder is alive, so this provision won’t work for them.
Donating an IRA after death
Another way to donate IRA assets is through a probate after the donor’s death by naming the charity as a designated beneficiary of the IRA. Once this is done, the charity will receive the percentage of the account’s assets that the owner declares on the beneficiary form when the estate is settled.
There are some added benefits to naming a charity (or charities) as a beneficiary and donating money from your IRA after your death instead of doing so while you’re alive. Not only can you choose to allocate certain percentages to your heirs and charities, but you can also use the funds to financially support the charities that are close to your heart. If you choose to donate the entire balance of your account to a charity, that charity will receive the full benefit.
There are also tax benefits associated with donating your IRA after your death. Your heirs no longer have to pay income tax after the division of the assets. In addition, any estate taxes may be offset by a charitable tax deduction, as long as the value of the assets donated is included in the gross estate.
Distributions from SIMPLE IRAs do not qualify as QCDs.
If you choose to make a donation to a registered charity through your IRA, you must report the transfer. An IRA trustee must use IRS Form 1099-R to report the QCD on an account owner’s annual tax return. Owners must also keep track of the donation date, the account the donation came from, the amount given, and the charity that received the donation.
Validating the deduction also requires a receipt from the charity stating that the donor did not receive any goods or services in exchange for the contribution. The amount of the donation is reduced by the value of any goods or services received in exchange, and that portion of the donation is taxable.
Is an IRA Distribution to Charities Tax Free?
Traditional IRA distributions are treated as taxable income, meaning you owe taxes on the amount you withdraw from your account. However, the same rule does not apply to charitable donations. The IRS allows you to use the required minimum distributions from your IRA tax-free as qualified charitable distributions. But keep in mind that you cannot claim a tax deduction for the donated amount.
Which is a better tax break: charitable contributions from stocks or an IRA?
Donating your IRA as a qualified charitable distribution means you don’t pay taxes on the donated amount in the same way you would if you took a required minimum distribution as income. But you can’t deduct the amount on your annual tax return. But making a contribution from stock can pay you more in the long run, especially if you’ve owned the stock for more than a year and its value increases by the time it’s donated. This allows you to deduct the full fair market value of the stock without having to realize the capital gain.
At what age can I make a qualified charitable distribution from my IRA?
You can start making qualified charitable distributions from your IRA once you turn 70½. Keep in mind that any QCDs generated from your IRA should be limited to amounts that would be taxed as ordinary income by the IRS.
Which charities are eligible for qualifying charitable benefits?
You can make qualified charitable distributions to any 501(c)(3) organization. These are the only groups that can receive tax-deductible donations. Those not eligible are private foundations and donor-advised groups.
It comes down to
Using an IRA to make a charitable donation can help lower a tax bill and help a good cause. Distributions must be made directly to the charity, not to the owner or beneficiary. All distribution checks must be made payable to the charity or they will be counted as taxable distributions. Talk to your IRA custodian about how to make this happen and make sure you leave enough time for the money to reach the charity.