For years, Ann Gerhart of Shaker Heights, Ohio, was a shoebox saver. She documented every donation, no matter how small: Extra change dropped in a church basket. Dollars tossed into a hat at a charity event. A small contribution given to the public library. And now, with all four children grown, Ann and her husband, Peter, feel ready to give more to charity, including supporting the 10 different schools that her family has attended, plus other religious and cultural causes close to their hearts, such as the local museum and orchestra. “It’s always been important to us to make charitable gifts,” she says.
But the Gerharts don’t have Bill Gates kind of money to give away, and Ann feels a little bit “devastated” over the new tax law, which caps the couple’s state and local tax deduction at $10,000 and makes it unlikely they’ll itemize. Instead, for 2018, Ann, 71, and Peter, 73, will opt for the higher standard deduction—$26,600 for married couples, which includes $1,300 extra per person for married filers age 65 and older. (For singles 65 and older, the standard deduction totals $13,600.) But that means the Gerharts won’t get a financial benefit from their donations, which usually total about $13,000.
So Ann and Peter are trying a different approach. They are tapping their IRAs to transfer money to the charities they support. Using the qualified charitable distribution, or QCD, strategy, IRA owners 70½ and older can transfer up to $100,000 per year per IRA owner to a qualified charity. Do the QCD before satisfying your required minimum distribution, and it will count toward part or all of your RMD.
The QCD move allows the Gerharts to lower their taxable income, even without itemizing. And it’s made the couple think more strategically, rather than responding to solicitations or making spur of the moment gifts. Their IRA custodian, Vanguard, requires them to fill out a distribution form to qualify each donation as a QCD. “It does require more planning than I’m used to,” Ann says.
Retirement often is a pivotal time for charitable decisions, since older adults are moving into a new phase of their lives. And retirees typically are reliable donors, happy to open their wallets even in their later years. Most maintain their previous charitable giving levels in retirement, even as they cut back on other kinds of spending, according to a new study by the Women’s Philanthropy Institute at the Indiana University Lilly Family School of Philanthropy.
To keep giving successfully later in life, you’ll want to find ways to donate based on your philanthropic goals, while maintaining the income you need for retirement. You can aim to balance your charitable instincts with some smart tax-saving strategies: utilizing QCDs, giving to donor-advised funds and donating appreciated stock.
Before you begin, ask yourself some basic questions, such as how much you want to give, for how long and the types of charities you want to support. And start slowly, advises Maureen Hackett, of Houston, Tex., who has more than 40 years of experience as a charitable donor and philanthropist. Volunteer first for an organization you might be interested in. If you’d like to support pediatric oncology, for example, ask a local hospital if you can help read to young patients, deliver flowers or help with other tasks. See how the charity you support uses your donation before moving on to making larger gifts. “You really need to know where your money goes,” Hackett says.
The next step: Review your giving choices, and weigh the pros and cons of each approach. Then make sure to follow the tax rules and other requirements for donating, so you get full credit for your gift.
Use a QCD Strategy
PROS: Reduces taxable income without itemizing and can satisfy an IRA required minimum distribution.
CONS: Limited to $100,000 per individual, and tax reporting can be a little confusing.
Like the Gerharts, retired certified public accountant Joseph Namath of Estero, Fla., recently switched to the QCD strategy because he won’t be able to itemize deductions this year. Namath and his wife have donated regularly to charities, including the local church and greyhound rescue organizations. But now their income is lower. And a hurricane last year caused enough damage that they had to replace their roof, so the couple are cutting back a bit on their giving.
By using the QCD strategy, Namath can still lower his taxable income without itemizing. And because he has less taxable income than he would if he had taken the RMD and then made the contributions, he also can avoid a possible increase in the portion of Social Security benefits that are taxable or an income-related surcharge on Medicare premiums.
“There are a lot of incentives if you can do 100% of your charity out of QCDs from your IRAs,” says Namath, 73, who sold his Bethesda, Md., accounting practice and retired in 2014.
Namath also can write a check directly from his Schwab IRA to satisfy his QCD, an option that wasn’t available to him until November of last year. It’s simplified the process for Namath, but contact your IRA custodian first to be sure you can do the same and aren’t required to fill out a distribution form or make a phone call to request a transfer.
If you take out your full RMD and then do the QCD, the QCD won’t count toward your RMD because you already satisfied it. Be careful to report your QCD correctly on your tax return. Your IRA custodian will send you a 1099-R form, but it won’t specifically identify the distribution as a QCD. Instead, you will report the distribution on line 15a of your Form 1040 as a gross distribution. Subtract the amount of your QCDs and put the remainder on line 15b—that is the taxable amount. If you donate your entire RMD, for instance, that line would be zero. Then write “QCD” next to that line.
Open a Donor-Advised Fund
PROS: Can help “bunch” deductions so you can itemize. The money grows tax-free, and you can donate anonymously.
CONS: You can recommend grants to charities, but you don’t have absolute control. Accounts may have minimum initial investments and ongoing fees.
Donor-advised funds are charitable accounts set up in your name but held by a large nonprofit organization or qualified charity. You can donate cash or assets, such as appreciated securities and real estate, to your fund for causes you care about and take an immediate tax deduction in the same year. You can then direct gifts of the money to charity over several subsequent years.
Donor-advised funds are especially useful when you need to lower your tax liability after a major financial event—whether it’s receiving a large bonus, selling your company, rebalancing your portfolio or converting money to Roth accounts. “You can continue to be charitable in an account in which the assets grow tax-free,” says Ken Nopar, senior philanthropic adviser at the American Endowment Foundation, the nation’s largest independent sponsor of donor-advised funds. “Many donors understand the benefits of donating to a DAF while they are in a higher income tax bracket.”
Donor-advised funds are not difficult to establish and use, and they have grown in popularity in recent years, getting an additional boost after the tax law limited itemizing. Half of all new donor-advised-fund accounts opened in 2017 at the American Endowment Foundation were opened in November and December, says Nopar. And with 2018 tax planning well under way, donations to new and already-established donor-advised-fund accounts for the first six months of this year were 140% ahead of last year.
You can use a donor-advised fund to help maximize charitable giving in the years you plan to itemize. Instead of giving $10,000 every year to charity, you could give, say, $40,000 in one year to a donor-advised fund. By “bunching” all your charitable deductions, you could itemize in that one year but still direct $10,000 a year to charity from your donor-advised fund in the following years even if you are taking the standard deduction.
You have many choices when it comes to setting up a donor-advised fund, including financial-services firms such as Fidelity or Schwab; community foundations; or independent nonprofits, such as the American Endowment Foundation, which will allow your financial adviser to manage the assets in your account.
Maureen Hackett and her husband, Jim, opened their first donor-advised fund in 1998 at the Greater Houston Community Foundation. Since then, they’ve used it to support a mobile classroom on a campus for teenage unwed mothers, a retirement home for Jesuit priests, an education service program at Notre Dame and other initiatives. They also involved their four children, now all in their thirties. The children added concerns of their own: early childhood education, autism, sex trafficking and more. “We have always wanted to concentrate on the causes that are most meaningful to us, so our money can make a measurable impact,” Maureen says.
If you prefer to donate anonymously to your fund, you can do so by just checking a box. But be sure you understand that your contribution is irrevocable: You can’t take some or all of it back if you suddenly need money in the years after your donation. The IRS also won’t allow you to do a QCD from your IRA and transfer it straight into your fund.
You can recommend which nonprofits you want to support from your fund and how much to give, but you are ceding final decision making to the organization controlling the fund. There are administrative and management fees based on account size, typically up to 1%. You can’t use your donor-advised fund to buy tickets or auction items at fundraising events.
You can open a self-directed donor-advised fund with minimums as low as $5,000. For some advisor-managed fund accounts with individual investment and planning advice, minimums can run much higher. Fiduciary Trust Charitable recently lowered its required minimum from $250,000 to $50,000, but that still requires five figures of liquid assets that you won’t need for any other reason.
Donate Appreciated Assets
PROS: You avoid a tax hit on highly appreciated assets.
CONS: Heirs lose the chance for a step up in basis by inheriting appreciated assets.
You can avoid long-term capital-gains tax of up to 20% by donating appreciated stock and property to charity. “They can be the financial gifts with the most power,” says Paula Hogan, founder of Hogan Financial, in Milwaukee, Wis. You get the full market value of the appreciated securities as a tax deduction. And the charity can sell the securities and not be liable for any capital-gains tax, either.
Mark Miller, a tax partner and certified public accountant with Sikich LLP, in Brookfield, Wis., offers this example: Say you bought stock for $10,000 a decade ago, and it’s now worth $50,000. If you donate the $50,000 of stock to a donor-advised fund and then make grant requests to charities, the full $50,000 can be given to charitable causes. You would pay no taxes on the $40,000 gain. If instead you first sold the appreciated stock and donated the proceeds, you would have to pay long-term capital-gains tax on the $40,000 gain, and that would reduce the amount you could donate.
Miller has high-net-worth clients who review their portfolios and designate the most appreciated positions for donor-advised funds or other charities. “You can use it as a vehicle to purge capital gains,” he says. “And it’s leveraging the value of the gift.”
In some cases, instead of doing a QCD, you may be better off taking your IRA payout as taxable income and offsetting it with a charitable deduction from the donation of appreciated assets. That strategy works best if you have substantially appreciated securities in a taxable account to donate, you are able to itemize and taking the RMD wouldn’t push you into a higher tax bracket. With the extended bull market, you could find yourself in just that position, says Michael Kitces, a partner with Pinnacle Advisory Group, in Columbia, Md. Your deduction is limited to the lesser of the donation’s fair market value or 30% of your adjusted gross income, which could affect how much you can benefit from your gift.
You might consider the QCD if you can’t itemize, you have most of your assets in your IRA and taking the RMD would place you in a higher tax bracket, according to an analysis by Alliance Bernstein, an investment research and management firm. Taking the new tax law into account, you’ll need to review your overall financial situation before making a decision.
Also consider your potential heirs: Inheriting a traditional IRA means inheriting its tax bill when the money comes out of the account. But heirs get a step up in basis on appreciated assets, such as stock and real estate, to the market value on the date of the original owner’s death. That means heirs owe no tax on the appreciation up to that date, even if the original owner held those securities for decades. If you give away appreciated assets, that tax break for your heirs is given up, too.
With all these options, it’s easy to feel in over your head, Hogan says. Handle the deluge of solicitations you regularly receive by putting them into a file that you pull out just once a year, when you are ready to make donation decisions. But don’t wait until the last minute to use one of these tax-saving charitable moves as financial firms and charities are often overwhelmed at year-end.
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