Older taxpayers who plan to use IRA distributions to make charitable contributions should bear in mind that the favorable tax provision for doing is slated to expire at the end of this year (2013). This provision, allows taxpayers age 70 ½ or older to take advantage of an up-to-$100,000 annual exclusion from gross income for otherwise taxable IRA distributions that are qualified charitable distributions.
Such distributions aren’t subject to the charitable contribution percentage limits and aren’t includible in gross income. Since such a distribution is not includible in gross income, it will not increase adjusted gross income (AGI) for purposes of the phase-out of any deduction, exclusion, or tax credit that is limited or lost completely when AGI reaches certain specified levels.
To constitute a qualified charitable distribution, the distribution must be made after the IRA owner attains age 70 ½, directly by the IRA trustee and to a qualified charitable organization. Also, to be excludable from gross income, the distribution must otherwise be entirely deductible as a charitable contribution deduction without regard to the charitable deduction percentage limits.
Even though a direct distribution from an IRA to a charity is not included in the taxpayer’s gross income, it is taken into account in determining the owner’s required minimum distribution (RMD) for the year.
As shown below, making direct contributions under this provision will save more taxes than taking an IRA distribution and making a contribution from the proceeds. Qualified charitable contributions aren’t available for distributions made in tax years beginning after December 31, 2013. Thus, unless the provision is extended as it has been in the past when it expired, this may be the last opportunity to achieve the tax savings offered by this provision.
For Example: Jason, who is age 73, is the owner of a traditional IRA with a balance of $300,000, consisting solely of deductible contributions and earnings. He wants to make a contribution of $100,000 to his college before the end of 2013 to mark the 50th anniversary of his graduation. Jason, who is a widower and files his tax return as a single taxpayer, expects to have AGI of $110,000 in 2013, itemized deductions of $25,900 (before taking the $100,000 contribution to his college into account), and a personal exemption of $3,900 in computing his taxable income. The itemized deductions of $25,900 include $20,000 of other contributions to public charities.
If Jason takes a distribution of $100,000 from his IRA, his AGI for 2013 will be increased to $210,000. If he then contributes the $100,000 to his college, it will only increase his total charitable deduction by $85,000 ($105,000 [1/2 of AGI of $210,000] less the $20,000 of other charitable contributions he has made). His itemized deductions will be $110,900 ($25,900 plus $85,000), and his taxable income will be $95,200 (AGI of $210,000 less itemized deductions of $110,900, and less personal exemption of $3,900). Jason’s income tax for 2013 will be $19,949.25.
If instead, Jason had the Trustee of his IRA transfer the $100,000 directly to his college, his AGI would not increase and he would not be entitled to a charitable contribution deduction for the amount transferred from the IRA. His AGI would remain at $110,000, his taxable income would be $80,200 ($110,000 less itemized deductions of $25,900, and less his personal exemption of $3,900), and his income tax for 2013 would be $15,978.75, or $3,970.50 less than under the scenario where he takes a distribution of $100,000 from his IRA and then contributes it to his college.
If you have any questions, please give our office a call, we are here to help!