Christine Benz: Hi, I'm Christine Benz for Morningstar.com. Congress made the qualified charitable distribution permanent at the end of 2015. Joining me to discuss how retirees can use this strategy is IRA expert Ed Slott.
Ed, thank you so much for being here.
Ed Slott: Great being here. Thanks.
Benz: Let's talk about a provision that Congress made permanent at the very end of 2015. It's called a qualified charitable distribution. It affects people's distributions from their IRAs. Let's talk about at a very basic level what this QCD is.
Slott: They are called qualified charitable distributions. It's a fantastic tax provision that's not used enough, yet everyone can benefit from it. There's no downside to it. So, I love provisions like this. I think there is a lack of understanding both by people, their advisors and even the charities. I'm surprised more charities haven't jumped on this and put it together with their contributors, their donors and their IRAs.
Benz: The basic idea there is that if I'm post age 70 1/2 and I'm required to take these distributions from my traditional tax-deferred accounts, the idea is that I can chunk that money directly to the charity of my choice. Why is that more advantageous than making the contribution to the charity and then deducting it on my tax return?
Slott: Well, let me just say who qualifies. Not everybody qualifies, because you said tax-deferred plan. This is only for IRAs--not 401(k) or 403(b)s--only for people who are 70 1/2, IRA owners or IRA beneficiaries who are 70 1/2 years old or older. So, that's the only people that the provision applies to. If you're over 70 1/2 and you have an IRA, obviously, you have a required minimum distribution.
Now, the benefit here is if you transfer to charity, the amount you're going to give--I'm not saying to give more to get the tax benefit, I'm saying take the amount you're already giving--but just do it a different way and you'll have a lower tax bill. Because the amount that goes to the charity--and it has to be a direct transfer from your IRA to the qualified charity--it is excluded from your income and the amount that goes out satisfies your RMD. So, it's a way of excluding your required minimum distribution from your income.
Now, on the other side, going to the charity, you don't get a charitable deduction. So, people say, well, isn't that a wash? No, it isn't. That's the secret here.
Benz: It's better to do the QCD.
Slott: It's always better to do the QCD because, let's say, your income is lower by the amount but you also don't get the deduction--that is not a wash. Once your lower your income, more deductions, exemptions, credits, Medicare premium, Social Security--all tax benefits or costs that are based on a level of income are lowered. So, you get more tax benefits. For example, Medicare premiums can go down substantially because of that. Less of your Social Security maybe taxable. You may get higher medical deductions or itemized deductions that are often limited when your income is higher, and this can be done per person up to $100,000 a year. So, that should cover most people.
So, if you take that--if you really went to the extreme and you took $100,000 that you were going to give anyway, and let's say, just to make the example easy, your required minimum distribution was also $100,000 and that's what you give. You take $100,000 off your income, and for retirees, that may be a big chunk of the income. All of a sudden, all of these other tax benefits start to flourish and your tax bill is lower than if you included the income and got the charitable deduction.
Another benefit is that for some people that don't itemize their deductions because they don't have enough deductions …
Benz: Which is the case for a lot of retirees.
Slott: Right. So, this is a way of actually getting the standard deduction and the charitable deduction in effect by excluding it from income. So, you end up better tax-wise in just about every case.
Benz: If I'm working with a charity to get this QCD done, I don't have to choose just one, right?
Benz: I can split my …
Slott: That's up to you.
Slott: But it has to be a direct transfer from your IRA to the charity. In other words, you can't take a check made out to yourself and then give it to the charity. Then you are back to the other system. You have to include it in income and see if you get a charitable deduction. And some of the big givers have their charitable deductions limited by certain limitations in the tax code. I just gave the example of $100,000. You may not get that whole deduction if you just try to deduct it based on your income levels where here it's totally excluded.
Benz: The basic idea is that I have my financial provider, the place where I hold my IRA work with the charity of my choice to get this distribution?
Slott: Right, and if charities are watching this, which they should be, this is a fantastic way to get more donations and have it on almost automatic pilot each year now that the provision is permanent. But it's the setting it up. There's a disconnect. I see most people not using that and most people who have IRA RMDs will benefit from it.
Benz: IRAs are owned by individuals, so, it's not just on a per-household basis. Couples can take advantage of this to both use the QCD …
Slott: But it's individual.
Slott: The limit applies separately.
Benz: Right. Ed, thank you so much. I know that people are really interested in these qualified charitable distributions. Thank you so much for being here to explain it to us.
Slott: It will save them money. Thanks, Christine.
Benz: Absolutely. Thank you. Thanks for watching. I'm Christine Benz for Morningstar.com.