If you’re making good money and you’re already investing a large portion of it, it’s also likely that you’re looking for ways to reduce your tax bill and save more of your hard-earned dollars for yourself.
Reducing your taxes isn’t always something that’s easy to learn how to do on your own. However, with an excellent financial planner, you can get advice and guidance on how to donate, invest, and organize your assets to ensure you put as much money into savings and investments as possible.
With that said, determining which tax-cutting practices are good (and legal) and which aren’t is still essential. That is why this article is all about qualified charitable distributions and how they can contribute to the overall strategy for cutting your tax bill. Let’s get started!
Qualified Charitable Distributions Explained
There are a few things you should know beforehand in order to be able to understand qualified charitable distributions (QCDs). One of those things is that people who have IRAs (Individual Retirement Accounts) have to take required minimum distributions (RMDs) each year after they have turned 72 years of age, regardless of whether they need or want the money. This leads to an increase in the total taxable income of the holder of the IRA.
For some individuals, this increase can lead to them getting into a higher tax income bracket. Along with that, it can trigger the so-called phaseouts, which can limit or eliminate other tax deductions they’re already getting.
Now, where do QCDs come into play?
QCDs are also referred to as charitable IRA distributions or charitable rollovers; they allow individuals to fulfill the required minimum distribution by directly giving up to $100,000 per year to a charity cause. The money can also be used to support multiple charitable causes, as long as the limit of $100,000 is kept. The benefit of QCDs is that your taxable income won’t increase, which means that phaseouts and higher tax rates can be avoided.
Along with that, QCDs reduce the IRA’s balance and can lead to a lowering of the required minimum distributions in the following years.
What Counts as a Qualified Charitable Distribution?
You now know the basics of what qualified charitable distributions are. However, there are some key details that you should pay attention to in order to make sure that your donation truly counts as a QCD. Let’s take a look at what they are.
How Are QCDs Made?
In order to make a qualified charitable distribution, you have to transfer money from an IRA account — regardless if it’s a traditional IRA, inherited IRA, inactive Simplified Employee Pension (SEP), or inactive Savings Incentive Match Plan for Employees (SIMPLE) — to an eligible charitable organization.
It’s key to remember that the money must never pass through the hands of the IRA account holder and has to go through a direct transfer straight to the charity. To do that, the IRA account holder can either send a check directly to the charity or to the account owner, who can hand it over to the charity.
Along with that, for a QCD to count towards your minimum annual distribution, it has to be made according to the normal deadline, which is typically the 31st of December in the same tax year.
Who Can Make a Qualified Charitable Distribution?
If you’re 70.5 years old or older, you can donate up to $100,000 in QCDs each year. If you’re married, as a couple, each spouse can contribute up to $100,000 or a total of $200,000.
This $100,000 per person limit is applied to all of the QCDs taken from all IRA accounts in a calendar year. As an individual donor, you can make either one big contribution or several small ones, depending on your preferences (they just have to be done in the same calendar year).
Charities Eligible to Receive a QCD
In the tax code, it is pointed out that QCDs can only be made to particular qualified charitable organizations. These are only 501(c)(3) organizations that have the right to receive tax-deductible contributions. As things stand now, QCDs cannot be made to the following types of charities, even though they get qualified as such:
- All kinds of private foundations
- Supporting organizations, meaning charities that carry out the exempt purposes by supporting other organizations such as public charities
- Donor-advised funds, which get managed by public charities on behalf of individuals or families
All in all, for a QCD to count, it has to be done to an approved organization, be done in the same calendar year, and not go over the limit of $100,000 per individual.
Benefits of Qualified Charitable Distributions
You’ve surely already guessed some of the benefits that come from qualified charitable distributions. With that said, we still would like to go over a few of them in detail.
Donate to Charity, While Saving Money in Taxes
QCDs are a great way to simultaneously donate money to charitable organizations while saving money from taxes. As you already know, there aren’t any charitable deductions for QCDs; however, the amount of money distributed as QCD is not subjected to taxes. For many, the fact that this amount is not a part of their taxable income can provide a good opportunity when planning for the future.
QCDs Can Help Reduce Future RMDs
Along with being a great way to lower taxes while donating to charity, QCDs also provide an opportunity for your future RMDs to be reduced. This is the case with deducting any money from a traditional IRA account; however, QCDs allow you to start earlier (from 70.5 years of age), so you can reduce the RMD amount you’re subjected to before turning 72 years of age.
QCDs Are Helpful for Managing AGI (Average Gross Income)
For many people, not having the QCD amount reflected in their taxable income can provide sufficient planning opportunities when it comes to managing gross income levels. For example, if the cost of your medical plan premiums is determined by your AGI, by giving up some of your money in the form of QCDs, you can minimize your taxable income and so keep your premium costs lower in the upcoming years.
Along with that, in some situations, you might be facing phaseouts because of the level of your AGI. That applies to your eligibility to make Roth IRA contributions, utilizing some specialized deductions and exemptions, as well as managing the net investment income tax. All of that means that keeping your AGI as low as you can serve you well in the long run.
Reporting Qualified Charitable Distributions on Taxes
Now that you’ve learned a good amount about QCDs, let’s take a look at how they have to be reported on taxes. There are two forms that can be used for this purpose. One is Form 1099-R, which is used to report a charitable distribution during the same calendar year when the distribution was made. The other is Form 1040, typically used for tax returns. To report your qualified charitable donation in it, you have to report the full amount of the donation on the IRA distributions line. Then on the line where you have to report taxable amount, write zero if the entire amount was a QCD. Then write “QCD” next to this line.
If you made the QCD from a Roth IRA, you must also file Form 8606 (Nondeductible IRAs). The same applies if you made the QCD from a traditional IRA in which you had a basis and had gotten a distribution from it during the same year, other than the already-mentioned QCD.
In Conclusion
As you can see, incorporating QCDs into your financial planning can be beneficial for many reasons, especially if you’re eligible to do so and are currently doing okay financially. However, you may have also noticed that this operation requires a moderate level of expertise in order to be done correctly, which is why it’s a good idea only to do it with the help of a certified professional.
The financial planners at Alpha Wealth Funds are knowledgeable about helping you reduce your tax bill, which makes them an ideal partner for all those of you who want to do so while giving to charity. Additionally, they can take a look at your overall financial situation and help you find other ways to grow and save your wealth.
Please feel free to reach out to me on this or any of your investment needs or questions. I may not always have the answers at my fingertips, but I promise I will get them for you. Michael Torrence
Calendly link https://calendly.com/mt-awf/intro Work: 435.658.1934 Contact: 330.284.3211
Michael Torrence – Investment Advisor Representative: Michael was born and raised in Ohio and attended The Ohio State University. After College, he was commissioned as a 2ndLt in the United States Marine Corps. He attended his initial training in Quantico, Virginia, then graduated at the top of his Primary Aviator Class and was selected for the Strike (Jet) Platform.
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