Are You Maximizing the Tax Benefits of Your Charitable Donations?

Over the past year, non-profits of all types have been dealing with the perfect storm – either being forced to close, losing valuable operating income, or having resources drained as they shouldered the increased burden of the struggling communities they serve.

Many of these non-profits are relying on annual donations from local members of the community to make up for the lost income and depleted reserves.

Now more than ever, it’s essential to support our local non-profit organizations to help them weather this storm – which many people do through annual charitable donations. There are several ways to donate to charity, ranging from cash to physical supplies, and some donations can even create favorable tax advantages, such as donating appreciated stocks.

In this article, I want to highlight a unique strategy you can use to maximize the tax benefit of your annual charitable donations known as a Qualified Charitable Distribution or QCD.

The way it works

There are a couple of specific rules when doing a QCD, and admittedly, this strategy is not available for everyone.

First, to do a QCD, you must be taking Required Minimum Distributions (RMDs) from a qualified retirement account like a Traditional IRA. RMDs are the government’s way of forcing retirees to begin withdrawing from their pre-tax retirement accounts, and subsequently beginning to pay ordinary income taxes on those withdrawals.

The age requirement for taking RMDs has recently increased to 72, but for those who were 70.5 before January 1, 2020, RMDs are in effect as well. 

The way that this strategy works is: rather than donating to charity with after-tax dollars as most people do, you are able to contribute to charity using your RMD, up to a specific limit per year.

Doing a QCD allows you to avoid paying the ordinary income tax you would typically be charged on the RMD, giving you a nice tax break and keeping more money between you and the charitable organization. This is a great way to maximize your gifts while minimizing your taxes.

The best thing about this strategy is that I’ve met many people who are already taking required minimum distributions and also donating to their local non-profit or charities each year. By merely changing the way they contribute and having the donation come directly from their RMD, rather than from their checkbook, they can save serious money in taxes each year.

Most Retirees Take the Standard Deduction

In many instances, retirees either don’t have a mortgage, or if they do, it’s a smaller mortgage. Either they pay no tax-deductible home mortgage interest, or the amount they pay each year is low. As a result, it’s very common for retirees to take the standard deduction when filing their federal income taxes.

This means that they are not itemizing their deductions, and would typically be unable to claim their charitable contributions since those are an itemized deduction.

Therefore, in many instances, when retirees donate to non-profits, they receive no tax deduction for the contribution.

While some people feel there’s nothing wrong with donating money to a non-profit and getting no tax deduction since it’s for a noble cause, wouldn’t it make more sense to use pre-tax dollars and give yourself a tax break, if all that’s required is a minor adjustment to how you donate? If you don’t want the additional tax savings, you can simply give the extra amount to charity, increasing your total gift!

An example about the benefits

To illustrate this strategy, I advised someone who was taking RMDs from her Traditional IRA and also donating to charity each year.

I asked her how she contributes to charity, and she explained that she just writes a check out of her checkbook each month. After I explained the QCD strategy and the potential tax savings, she was ecstatic and immediately chose to implement it.

Through this approach, she now saves $4,000 each year in taxes by simply shifting how she donates the same amount she had already been donating. That’s a savings she gets year after year with each donation!

The best part is, she decided to use the part of the savings to increase her charitable contributions by $2,000 a year and is using the extra $2,000 towards a trip to visit her grandkids.

To me, that’s what financial planning is all about — a perfect trifecta whereby you can save money on your taxes, potentially provide additional resources to the non-profits you support, and shield your money from the IRS because, let’s face it, once you’re retired, you’ve paid your fair share of taxes throughout your lifetime. 

Depending on your age and financial situation, you may or may not be able to do a Qualified Charitable Distribution, but keep in mind that you may have parents or grandparents that are eligible for these annual tax savings. Don’t hesitate to ask them about this strategy if they are donating to charity each year – it can be a great way to save money in taxes with a simple shift.

If you’re interested in exploring this strategy for your unique situation or would like to refer someone to discuss it, feel free to Schedule Time on my calendar for a complimentary call.

There are some very, very specific rules that must be followed when doing a Qualified Charitable Distribution. I can help navigate and explain the details. 

Lastly, keep making a difference with your charitable donations as we all play a part in helping our local non-profit organizations through these challenging times.

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