February 9, 2016
BERNIE KENT CONTRIBUTES TO FORBES.COM
Should You Make A Charitable Contribution From Your IRA?
Bernie Kent, JD, CPA, PFS, Chairman of Schechter Investment Advisors
Good news for taxpayers over the age of 70 1/2. Congress has voted to make permanent the exclusion from income of up to $100,000 per person, per year, for Individual Retirement Account (IRA) distributions which are given directly to charities. This law will end the uncertainty which has existed for the past several years when taxpayers were trying to decide whether to direct their IRA distributions to charity. Congress generally did not get around to extending the expired tax legislation known as “extenders” until very late in the year. One year the extenders were not passed until the January of the subsequent year and were applied retroactively. Now that you are able to plan for charitable contributions from IRAs, is this something you should be doing?
One of the key benefits of the direct charitable contribution from your IRA is that the distribution counts towards your Required Minimum Distribution (RMD). You can contribute more than your RMD to charity as long as you do not exceed $100,000 in a calendar year. The gift can satisfy a pledge that you have made. However you may not receive anything (other than an intangible religious benefit) from the charity as a quid pro quo for your contribution. The charity must provide you an acknowledgement stating the amount of the charitable distribution and that no goods, services, or benefits of any kind were or will be provided to you in consideration for the distribution from the IRA. Also, the contribution cannot go to a donor-advised fund, supporting organization or private foundation. Finally, you cannot make the charitable IRA distribution from Simplified Employee Plans (SEPs) and Savings Incentive Match Plans for Employees (SIMPLE plans) if an employer contribution is made for that year.
Gifts of Appreciated Long-term Capital Gain Property
There is only one reason NOT to take advantage of the exclusion for IRA charitable contribution if you otherwise qualify and want to make a direct gift to charity. That would be where you could save even more tax on your charitable contribution by making a gift of appreciated long-term capital gains property. If you are in the highest federal income tax bracket and you have zero basis stock that you would otherwise sell, you can save the 25% federal income tax on the long-term capital gain. This is in addition to the benefit of the income tax deduction for full fair market value of the charitable contribution. Very few people own zero basis stock. If the stock had merely doubled, the 25% capital gains tax would be on only half of the property, so a charitable contribution of that property would save the capital gains tax of 12.5% of the total value of the gift. In this case as well, you would generally be better off giving the appreciated stock to satisfy your charitable desire rather than giving directly from your IRA.
Benefits of IRA Charitable Contribution
There are numerous Federal income tax benefits to the IRA charitable contribution compared to other charitable gifts. These Federal income tax benefits are generally much smaller than the tax benefits gained by using significantly appreciated long-term capital gains property that would otherwise be sold during your lifetime.
Charitable contributions are limited to 50% of Adjusted Gross Income (AGI) each year. The excess can be carried forward five years. For taxpayers who contribute at this level, the IRA charitable contribution offers an opportunity to make a contribution that is not limited by AGI.
Since both the IRA distribution and the charitable contribution are excluded from income and deduction, AGI is lower than it would be if the contribution were not made. Lowering AGI is more valuable than taking a charitable deduction. Literally dozens of tax calculations are based on AGI. Some of these include:
Medical expenses for seniors are limited to the excess over 10% of AGI
Miscellaneous itemized deductions are limited to the excess over 2% of AGI
Itemized deductions are generally reduced by 3% of AGI above a threshold
Personal exemptions begin to phase out as AGI exceeds a threshold
Up to 85% of Social Security income becomes taxable as AGI increases
Eligibility for Roth IRA contribution goes away after AGI exceeds a threshold
The 3.8% tax on net investment income only applies to AGI above a threshold.
There is a significant non-tax calculation that is based on AGI: the cost of Medicare premiums. Medicare Part B premiums, as well as prescription drug premiums, rise significantly in four steps as AGI rises.
Taxpayers who take the standard deduction will benefit from the IRA charitable contribution since charitable contributions are deductible only to taxpayers who itemize their deductions.
State income tax rules regarding charitable deductions vary significantly. A number of states start with Federal AGI and do not allow itemized deductions for charitable contributions. If you live in one of these states, you would have the additional benefit of avoiding state income tax on the IRA charitable contribution.
The IRA charitable contribution provides a tax benefit for many taxpayers over age 70 1/2. It should be used by most charitably-minded seniors unless they could receive a greater tax benefit from a gift of substantially appreciated long-term capital gains property. Each taxpayer must look at their personal tax situation and compare the benefit of the two approaches to charitable giving.