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Understanding Qualified Charitable Distributions (QCDs): A Tax-Smart Way to Give

Understanding Qualified Charitable Distributions (QCDs): A Tax-Smart Way to Give

August 12, 2024

Summary

  • Qualified Charitable Distributions provide a tax advantaged way to give to charity for those subject to Required Minimum Distributions (RMDs).
  • QCDs are a great fit for people who are 70 ½ or older, who actively donate to charity, and have a traditional IRA.
  • QCDs reduce your taxable income, without relying on itemizing your taxes.
  • There are limitations and logistical considerations, such as reporting the QCD accurately when filing taxes, and sending the funds directly from the IRA to the charity.

Qualified Charitable Distributions

A Qualified Charitable Distribution (QCD) is a way to gift funds to charity in a tax advantaged way. Retirees are able to directly donate their Required Minimum Distributions from their traditional Individual Retirement Account (IRA) to charity in exchange for tax advantages.

Required Minimum Distributions

To understand the potential benefits of QCDs, we need to have a basic understanding of RMDs. RMDs are required minimum annual withdrawals from applicable retirement accounts, including:

  • IRAs
  • SEP IRAs
  • SIMPLE IRAs
  • 401(k)s
  • 403(b)s
  • And 457(b)s

Roth IRAs are not subject to RMDs. As of 2023, RMDs apply to retirees age 73 and older and the amount of the RMD is calculated based on the account balance, marital status, and life expectancy. RMDs reflect the minimum amount a retiree is required to withdraw from their retirement account in a given year, but that retiree is welcome to withdraw more. The RMD amount as well as any amount withdrawn above the RMD is all taxed as income. Unless you utilize QCDs, which we will get into shortly.

Failure to take your RMD can result in a 50% tax penalty on the amount not withdrawn.

Tax Advantages of QCDs

Here is where QCDs come into play. If a retiree donates their RMD directly to a 501(c)(3) charitable organization, it’s considered a QCD and they do not have to pay income taxes on the RMD, up to $100,000 or their individual RMD amount for the year, whichever is greater.

One strategic feature of QCDs is that a retiree has the option to utilize a QCD even before they are required to take an RMD, as long as they are at least 70 ½ years old. Remember from the section on RMDs above that the annual RMD amount is calculated based on account balance; if a 71 year old retiree makes a QCD and reduces the balance of their retirement account before turning 73, their RMD at age 73 (and the years beyond) will be smaller than if they hadn’t made the QCD. Of course, a smaller RMD means less income tax.

Another significant benefit to QCDs is that you do not need to itemize your deductions instead of taking the standard deduction when filing your taxes to receive the tax incentive. You are allowed to take your standard deduction AND the amount you give via QCDs.

Requirements and Limitations

There are requirements and limitations to making QCDs:

  • The retiree/donor must be 70 ½ years old at the time of the QCD.
  • The limit on the tax advantage is $100,000 per individual or their RMD amount, whichever is greater. Any amount donated to charity from a retirement account above $100,000 or the individuals RMD amount will still be taxed as income.
  • QCDs must be made from eligible retirement accounts (the same list of retirement accounts that are subject to RMDs).
  • The QCD must be made to an eligible charity (the charity must be a 501(c)(3) organization).
  • The funds must be transferred directly from the retirement account to the charity – if the RMD amount hits the retiree’s bank account and then they donate the funds to charity, they will NOT qualify for tax benefits.

Steps to Making a QCD

  1. Decide on what charity(ies) you’d like to gift to
  2. Find out how the charity(ies) can receive funds, i.e. check, electronic transfer, etc.
  3. Connect with the West Invest team to:
    1. Confirm RMD amount,
    2. Decide on how much to give: the entire RMD amount or a specified other amount?
    3. If you have multiple IRAs, decide if you’d like the funds to come from one account or multiple.
    4. Discuss logistics on how make the transfer to the charity
  4. Send funds directly from IRA to Charity
  5. Confirm with the charity that they received the donation.
  6. Make sure QCD is input correctly when filing taxes

Example

Jane is 72 years old and has a traditional IRA from which she is required to take a minimum distribution each year. For 2024, her RMD is $10,000. Jane has a favorite charity to whom she donates money every year. With the help of West Invest, Jane decides to use a Qualified Charitable Distribution to continue her charitable giving in a tax efficient manner. A QCD allows her to donate her $10,000 RMD amount directly from her IRA to the qualified charity of her choice, which satisfies her RMD requirement without the distribution being included in her taxable income for the year.


Important Disclosures:

This information is not intended to be a substitute for specific individualized tax advice. We suggest that you discuss your specific tax issues with a qualified tax advisor.