retirement planning

Help Retired Donors Avoid Overpaying Taxes


Clients who are 72 or older can qualify for a charitable deduction given with money taken out of their tax-deferred IRA. Attorney Julian Block discusses this little-known tax break in detail in his latest column.

Aug 11th 2020
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Our lawmakers are aware that older persons consistently turn out for elections, which is one of the reasons why legislators stuff the Internal Revenue Code with breaks for the elderly, such as with inherited IRAs. One precisely-worded break is solely for seniors who remove funds from their tax-deferred IRAs and contribute the withdrawals to religious organizations, educational institutions, and other charities.

Seniors qualify for this often-overlooked tax trimmer only if they’re at least 72 and must begin to make annual withdrawals from their IRAs. Previously, the starting age for required withdrawals was at least 70 1/2.

How do account owners determine how much they’re supposed to list on 1040 forms as withdrawals from IRAs? They get the numbers from the custodians of their IRAs. The custodians calculate subtractions on the basis of clients’ life expectancies and the value of their accounts on December 31 of the preceding year.

Some seniors would prefer to skip withdrawals, because they receive enough from other sources. But the IRS won’t let them do that. Seniors still must make required minimum distributions (RMDs), which is the IRS’s clunky designation for those yearly subtractions.

Cue QCDs. Seniors who are at least 70 1/2 sidestep taxes on RMDs that go directly from their IRAs to charities. The IRS refers to such transfers as qualified charitable distributions (QCDs), another designation that doesn’t roll off the tongue.

Let’s pivot from the basic rules for IRAs, RMDs and QCDs and focus on how seniors save taxes when they make IRA-to-charity transfers. When they’re done correctly, two breaks kick in.

First, QCDs count towards the RMDs that donors must otherwise receive from their IRAs for the year and include in income. Second, QCDs aren’t taxed.

What happens when donors receive RMDs and then send the proceeds to charities? The IRS dings them for taxes on their RMDs.

Dollar limits and other stipulations. An annual dollar limit lets donors make QCDs of up to $100,000.

Ditto for married persons’ spouses who are at least 70 ½. They, too, can transfer as much as $100,000 to charitable organizations, though, cautions the IRS, a spouse whose QCDs exceed the limit can’t use part of the other spouse’s $100,000.

The IRS demolishes donors’ tax breaks when they’re heedless of paperwork requirements. It reminds donors that QCDs must be properly substantiated.

For instance, many wannabe donors have learned the expensive way about a receipt-in-hand rule. Before donors file their 1040s, they’re supposed to be in possession of written statements from the charities.

The IRS’s preternatural fondness for boilerplate. It requires charities’ statements to mention that they received the QCDs and they didn’t provide any goods or services to the donors in consideration of those QCDs.

Put more plainly, the IRS places charities on notice that providing benefits is verboten. Not even modest dinners or the right to receive them.

Reporting QCDs the right way on 1040 forms. Donors who forget or misunderstand the reporting rules needlessly overpay their taxes.

Filers’ first stop: 1040’s line 4a for “IRA distributions.” Filers use it to report the full amounts of RMDs, including any QCDs. Those amounts are the same as the amounts that IRA custodians list on 1099-R forms when they send them to clients and to the IRS.

What should filers who receive RMDs and make QCDs keep in mind when they review their 1099-Rs? What the forms disclose and don’t disclose.

1099-Rs show how much was distributed from IRAs and should be entered on line 4a. But they fail to mention that some withdrawals are supposed to be reported as RMDs that are taxable and other withdrawals are supposed to be treated as QCDs that aren’t taxable.

After filers enter numbers on line 4a, those who made QCDs then go to line b for “Taxable amount.” Their “QCD” entries explain why the amounts listed on 1099-Rs aren’t fully taxable.

Filers finish their task on line 4b. They subtract any QCDs and enter the remaining amount of RMDs.

A trifecta of examples for 2020. Patti’s 1099-R shows she received RMDs of $20,000. Her QCDs are $5,000. She supplies her tax software program with the RMD and QCD amounts. It lists $20,000, QCD, and $15,000 on lines 4a, b, and 4b, respectively.

Maxene’s 1099-R shows she received RMDs of $15,000. Her QCDs are $15,000. She reminds her paid preparer that the correct entries are $15,000, QCD and zero on lines 4a, b, and 4b, respectively.

Unlike Patti and Maxene, LaVerne receives no RMDs for 2020. That’s because she exercises her option (authorized by recent legislation, but only for 2020) not to receive any. QCDs are $10,000. They exceed RMDs, which is okay.

Her 1099-R shows she received distributions of $10,000. LaVerne lists $10,000, QCD and zero on lines 4a, b, and 4b, respectively.

Additional articles. A reminder for accountants who would welcome advice on how to alert clients to tactics that trim taxes for this year and even give a head start for next year: Delve into the archive of my articles (more than 350 and counting). 

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