Americans have several ways they can give to charities, but one, in particular, is growing in popularity among those with income they may not need from their qualified retirement income accounts. It’s called the Qualified Charitable Distribution (QCD), a way to give to qualified charities while lowering your tax bill.
What is a Qualified Charitable Distribution?
If you have traditional (non-Roth) IRAs, once you reach age 72 or 73, you must start taking money disbursements called Required Minimum Distributions (RMDs) each year. (The RMD starting age had been 72, but it was recently raised by the SECURE Act 2.0 to 73 based on your birth date, effective January 1, 2023.) You never paid income taxes on those earnings, so the IRS is eager to get its cut. The money you take out is added to other income you’ve received during the year, and it’s taxed at your current ordinary income tax rate. The extra income could push your income into a higher tax bracket.
A Qualified Charitable Distribution (QCD) is a distribution you take from your retirement account that goes directly to the charity instead of to you: a direct-from-IRA-to-charity transfer. The money must go directly to an approved charity known as a qualified charitable organization: a nonprofit that qualifies for tax-exempt status by the IRS. The IRS offers a searchable database where you can check.
The main benefit of a QCD is that the distribution can be counted toward your yearly RMD without being added as income to your Adjusted Gross Income (AGI). By excluding the RMD income, you’ll lower your tax bill. But you also might avoid having to pay Income Related Monthly Adjustment Amount (IRMAA) surcharges on your premiums for Medicare Part B and Part D. Lastly, you might eliminate the need for the Alternative Minimum Tax (AMT).
QCDs for a calendar year, whether as several QCDs or to multiple charities, cannot exceed $100,000 in total, a limit which may be indexed to inflation after 2023. But for now, any amount beyond that does not qualify toward offsetting your RMD. In addition, it does not roll over to the following year and must be taken as an itemized deduction to have any taxable benefit.
If you file jointly with a spouse, you can make QCDs up to $200,000 in total ($100,000 each) as long as both spouses are age 70½ or over, both have IRAs, and each takes their funds from their own account.
Thanks to SECURE 2.0, starting in 2023, you can make a one-time QCD of up to $50,000 to a charitable remainder unitrust, a charitable gift annuity or a charity remainder annuity trust.
While QCDs were available as of 2006, they finally became permanent in 2015 through the Protecting Americans from Tax Hikes (PATH) Act. Since then, QCDs have been updated through the SECURE Act of 2019 and SECURE 2.0 in 2022.
This article will provide the latest rules around QCDs at the time of writing.
Am I eligible to make a Qualified Charitable Distribution?
To be eligible to make a Qualified Charitable Distribution:
- You must be 70½ or older when you request the QCD, or it will be treated as taxable income.
- The funds must come out of your IRA by your RMD deadline, generally by December 31, to count toward that year’s RMD.
- You must have a retirement account (most IRAs qualify); funds cannot come from SEPs, Simple IRAs or employer-based plans such as 401(k)s or 403(b)s.
Why make a QCD instead of a traditional charitable gift?
By withdrawing funds from a retirement account, then giving the funds to a charity, the withdrawal would qualify as a taxable event. It would be added to your AGI and increase what you owe in taxes. You could claim a charitable tax deduction for your gift, but this may not be the best strategy for your tax situation. With a QCD, even if you have hit your AGI limits for deductions for the year, disbursing funds from your IRA directly to a charity can unlock additional giving without increasing your tax burden. Your tax planner can tell you if a QCD is right for you.
Because the QCD does not trigger a taxable event, you can also give the total amount of what you withdraw to the charity instead of what’s left after taxes have been subtracted from the total.
What can’t I do with a Qualified Charitable Distribution?
You can’t make QCDs to certain entities, such as Donor Advised Funds (DAFs). However, since the organization that sponsors your DAF is exempt as a 501(c)(3), you may still be able to make the QCD to that charity if it doesn’t go into a DAF. QCDs also can’t be made to private foundations or split-interest charitable trusts.
The money you contribute to an IRA can’t also go into a QCD. When the SECURE Act removed the age limit for IRA owners contributing to their accounts, people became simultaneously eligible for QCDs and IRA contributions. That could allow an in-and-out transaction: you could be taking a tax break for contributing funds to your IRA that you’d also be taking out as a QCD. You can still do both but check with your tax advisor about the tax implications.
You can’t receive any benefit in return for your charitable donation made with a QCD. For example, your gift loses its eligibility as a QCD if any part of it covers the cost of any activity, such as a gala or golf tournament.
How do I set up a Qualified Charitable Distribution?
Once you decide you want to make a QCD, choose your charity and check the IRS’s searchable database to be sure it qualifies under the IRS rules. Advise your IRA custodian of the charity’s details and the amount so a check – or electronic transfer – can be made to the charity. Remember that you’ll lose the deduction if you first deposit the funds in your account, then write a new check to the charity.
You can make QCDs even if you choose to itemize deductions on your Form 1040. However, while the amount you transfer as a QCD will not be taxable, it cannot also be applied as a deduction.
You can make part or all your annual RMD distribution as QCDs, but if the QCD total is smaller than your RMD, you will have to withdraw the difference from your qualified retirement account and pay the related taxes.
How do I report a Qualified Charitable Distribution?
The donation amount you designate as a QCD must be substantiated by the receiving charity in writing, stating the date and amount of the contribution and whether you – as the donor – received anything of value in return.
A QCD must be reported on your federal income tax return during that year’s filing season. You will receive a form 1099-R from your IRA’s custodian, and your tax professional can help you report each type of IRA distribution on your tax forms.
If used correctly – and as part of an integrated retirement strategy – QCDs can offer you handy tax deductions while fulfilling your philanthropic mission. We are seeing more and more clients taking advantage of this strategy.
This article originally appeared in the Old Colony Memorial.