Read what Guest IRA Expert Natalie Choate, Esq. Wellesley, MA, has to say in Ed Slott’s IRA Advisor:
The qualified charitable distribution (QCD) is an understandably-popular tax saving device available to older IRA owners. Created by Section 408(d)(8) of the tax code, a QCD allows an IRA owner over age 70½ to make charitable gifts directly from his or her IRA, up to $100,000 per donor within a calendar year. Assuming the donor is age 72 or older, the gift counts towards the IRA owner’s required minimum distribution (RMD) for the year and yet is excluded from gross income.
An IRA owner who has few itemized deductions other than charitable gifts (e.g., no major medical expenses, no mortgage interest deduction, state tax deduction limited by the tax code) can use the standard deduction on his federal income tax return and still effectively get the income tax benefit of a charitable contribution deduction by using QCDs. What’s not to like?
On the way to such a successful outcome, qualifying IRA owners must avoid many pitfalls.
Here are 10 mistakes unwary taxpayers can make with a QCD…
1) Wrong Age
The IRA owner must be age 70½ or older. This is confusing for two reasons.
First, the rule refers to the donor’s actual age 70½ birthday, not the year of reaching 70 years and six months of age.
Example 1: Delia was born on June 30, 1952, and will turn age 70½ on December 30, 2022. She can make a QCD on December 30 or 31, 2022. Because December 31, 2022, is a Saturday, as a practical matter Delia is limited to just one possible day for her 2022 QCD!
Another confusing aspect of this age requirement is that it does not conform with the RMD age, which is now 72. Delia can make QCDs in 2022 (one day!) and 2023 (all year), even though she will not be subject to RMDs until 2024.
2) Wrong Account
QCDs can be made from a traditional IRA but not from an “ongoing” SEP-IRA or SIMPLE IRA.
A SEP-IRA or a SIMPLE IRA is treated as ongoing if it “is maintained under an employer arrangement under which an employer contribution is made for the plan year ending with or within the IRA owner’s taxable year in which the charitable contributions would be made,” according to IRS Notice 2007-7, A-36.
It’s easy to make this mistake if the IRA owner has multiple IRAs, one of which is a SEP-IRA. Say the IRA owner is the only “administrator” of the SEP-IRA and has different checkbooks for each of his various IRAs. If he grabs the wrong checkbook to write his QCD checks….Whoops!
QCDs normally cannot be made from a Roth IRA due to the requirement that a QCD must be made only from amounts otherwise includible in gross income.
Additionally, QCDs absolutely cannot be made from a qualified plan, such as a 401(k). An owner with substantial funds in a 401(k) who would like to make QCDs can transfer money from the 401(k) to an IRA — but only after taking the applicable RMD for the year (if any) from the 401(k) plan. Why is that? Because if the 401(k) plan participant is subject to RMDs, any money he takes out of the plan is applied first to his RMD. Only after the RMD from the 401(k) plan is satisfied can money be transferred or rolled over into an IRA, for an allowable QCD.
On the bright side, a beneficiary, age 70½ or older, can make QCDs even from an inherited IRA. Of course, the $100,000 annual limit would apply to his total QCDs from his own and any inherited IRAs.
3) Wrong Person
As mentioned, QCDs are subject to a $100,000 per year limit per IRA owner. This is not $200,000 per married couple.
Instead, a husband and wife who both have IRAs and who are both age 70½ or older can each make QCDs up to $100,000 per year. But if spouse #1 chooses not to do so, spouse #2 can’t borrow #1’s limit and make $200,000 of QCDs.
4) Wrong Charity
QCDs can be made to most kinds of public charities but a few are off limits:
- QCDs cannot be made to a donor-advised fund (DAF) even though DAFs are “public charities.”
- Ditto “supporting organizations” (public charities that exist solely to support a particular school or other charitable institution).
- Certain kinds of private foundations may be eligible; consult a private foundation specialist.
5) Wrong Transmission
A QCD must be paid directly from the IRA to the charity.
This can be done by having the IRA provider write a check from the IRA payable to the charity and then mailing it to the charity. Alternatively, the IRA provider can give the check to the IRA owner, who’ll deliver it to the charity. A QCD also can be done with a “checkbook IRA” if the IRA owner writes a check to the charity from the IRA checkbook and delivers that check to the charity.
If the money that comes out of the IRA is via check or other distribution method that is payable to the IRA owner, that distribution will not qualify as a QCD, even if the IRA owner endorses the check over to the charity.
6) Wrong Reciprocity
A QCD receives favorable tax treatment only if the entire amount transferred to the charity would qualify for the federal income tax charitable contribution deduction (without regard to the percentage-of-income limits on such deductions).
This means that if the IRA owner gets something back in exchange for his charitable gift, the entire gift will not qualify as a QCD — unless the “something” received can be disregarded under IRS rules for charitable gifts.
What goods and services are disregarded under IRS rules? These are specified in various IRS regulations and publications, including “intangible” religious benefits, certain “membership benefits,” and certain items with insubstantial value (calendars, coffee mugs, etc.).
If the gift entitles the donor to be eligible to purchase tickets to a sporting event, the contribution is not tax-deductible, period. Therefore, the transaction cannot be a QCD.
Even after years of experience with QCDs, some answers are unknown. For example, if the IRA owner makes a $10,000 donation and in exchange is entitled to attend the $50 annual dinner, can he make a $9,950 check payable from the IRA and write a personal check for $50 to pay for the dinner, in order to avoid the “getting something back” pitfall?
Regardless of the answer to such conundrums, it is clear that no “split interest gift” can be made via a QCD. For example, a donation in exchange for a life income annuity cannot be a QCD.
7) Wrong Paperwork
All of the requirements applicable to the regular income tax charitable deduction also apply to QCDs (except the percentage-of-income limitation).
This means the IRA owner must obtain a receipt for any QCD in excess of $250, acknowledging the gift and certifying that no goods or services were provided in exchange for the gift. The receipt must be in hand before the donor files a tax return claiming the deduction or a QCD. No receipt, no deduction…and no QCD.
8) Wrong Tax Shelter
If an IRA owner wants to make QCDs in excess of her RMD for the year, she should first confer with her tax advisor to make sure this is the most tax-advantaged way to make the charitable gift for that year. Perhaps a donation of appreciated assets held outside the IRA would be more tax-efficient.
9) Zinger: Deductible IRA Contributions After Age 70½
This nasty little provision targets double dipping.
If an IRA owner has made any deductible IRA contributions in or after the year of reaching age 70½, the QCD income exclusion to which he otherwise would be entitled is reduced, dollar for dollar, by the amount of those deductible contributions. (IRA contributions at age 70½ and older have been permitted since 2020.)
Example 2: Al, age 73, makes a $10,000 QCD in 2022, his first QCD since 2019. Because Al made a $6,000 deductible IRA contribution back in 2020, only $4,000 of the 2022 QCD will be excluded from his income. The tax benefits of deductible IRA contributions after age 70½ effectively cancel the tax benefit of equivalent QCDs made in the same or any later year.
As the years go by this rule will require tax preparers to become detectives, grilling their elderly clients about any possible tax-deductible IRA contributions made at age 70½ or later!
10) Forgetting to Take the Benefit!
When the IRA provider sends out its 1099-R for the year, guess what? This form just shows the gross distribution from the IRA, without any clue that any part of the distribution was made directly to charity!
Therefore, if the IRA owner merely hands a pile of tax forms to his tax preparer, the preparer will have no way to know that the reported IRA distribution was partly or wholly nontaxable as a QCD. The bottom line is that clients must be proactive about informing the preparer about the QCD—and preparers must be proactive about asking whether a tax-favored QCD was executed.
Aside from these 10 pitfalls, QCDs are a simple and powerful tax-saving tool for the over-70 crowd!
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Copyright ©2022, Ed Slott and Company, LLC Reprinted from Ed Slott’s IRA Advisor, October 2022, with permission. [“10 Ways to Ruin a Qualified Charitable Distribution”] Ed Slott and Company, LLC takes no responsibility for the current accuracy of this article.
This information is not intended to be a substitute for specific individualized tax or legal advice. We suggest that you discuss your specific situation with a qualified tax or legal advisor. Traditional IRA account owners have considerations to make before performing a Roth IRA conversion. These primarily include income tax consequences on the converted amount in the year on conversion, withdrawal limitations from a Roth IRA, and income limitations for future contributions to a Roth IRA. In addition, if you are required to take and required minimum distribution (RMD) in the year you convert, you must do so before converting to a Roth IRA. The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. Ed Slott is not affiliated with LPL Financial.