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Charitable Contributions From Your IRA – 2012 and Beyond

K S Hegde Charitable hospital
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January 1, 2013 update: Passage of the American Taxpayer Relief Act of 2012 has extended the QCD through the end of 2013.  See this article for more details.

At the end of December, 2011, the provision for Qualified Charitable Distributions (QCD) expired.  That provision allowed the taxpayer age 70½ or older to make direct distributions from an IRA account to a qualified charity, bypassing recognition of the distribution as income.  For more information on the expired provision, see the original article about charitable distributions from your IRA.

With the expiration of this provision, you can still make charitable contributions of money distributed from your IRA.  The difference is that these contributions are no different from a contribution that you’ve made from your savings account or regular income.  In order to achieve a tax advantage from the contribution, you will itemize the charitable contribution on your tax return.  Of course, in addition to this, if the money is from your IRA you’ll also have to recognize the distribution as income.

Let’s look at both ways to fully understand what’s different now.

The old way

Under the expired provision if you qualified, you could make a direct distribution from your IRA account to the qualified charity of your choice.  Then when you were ready to file your tax return for the year, you wouldn’t include the amount of the direct distribution to the charity as income.  This could also include your Required Minimum Distribution (RMD) for the year, as well.

By doing this, you didn’t have to recognize this income at all – which doesn’t seem so important until you see how it works in the new way.

The new way

Now that the QCD provision has expired, you can still make charitable contributions from your IRA, but it’s not as advantageous as the old way.  Under this method (which can be enacted by anyone over age 59½ without penalty) you take a distribution from the IRA, and then send it to the charity of your choice.

(In actuality, the distribution doesn’t have to be from an IRA, but we’re doing a compare and contrast against the expired QCD arrangement, so that’s what we’ll use for the examples.)

When you get around to filing your tax return for the year now, you’ll have to recognize the distribution from your IRA as income.  Later on the return, you can include the charitable contribution as an itemized deduction, eventually lowering your taxable income by the same amount.  However, since you have to include the distribution as income, this will increase your overall income (unless you have Net Operating Losses from your business to offset the income), and will therefore also increase your Adjusted Gross Income (the bottom line of your Form 1040).  The significance to this is that many tax provisions depend upon the Adjusted Gross Income (AGI) figure.

An example is deductible medical expenses – these are only deductible to the extent that they are in excess of 7.5% of your AGI.  Miscellaneous Itemized expenses are subject to a similar “floor”: they must be greater than 2% of your AGI in order to be deductible.  In addition, certain phase-outs are impacted by AGI level as well.

So you can see that increasing your income can have a significant impact on your overall tax return.  Here’s a quick example of how this could impact a taxpayer.

Example

Taxpayer is single, age 73, and is subject to RMDs from his IRA.  He wishes to make a charitable contribution of $10,000 from his IRA funds to his church.  If this were 2011, he could make his distribution directly from the IRA to the church. Here’s how his tax return worked out:

Income (pension and IRA)

$50,000

Adjusted Gross Income

$50,000

Medical Expenses

$10,000

Deductible Medical Expenses (above 7.5% of AGI)

$6,250

Charitable Contributions (beyond the direct QCD)

$1,000

Exemption

$3,700

Taxable Income

$39,050

Tax

$5,888

Under the 2012 method, Taxpayer takes the distribution from his IRA and then sends it to his church.  Here’s how the tax return works out now:

Income (pension and IRA, plus his $10,000 additional distribution)

$60,000

Adjusted Gross Income

$60,000

Medical Expenses

$10,000

Deductible Medical Expenses (above 7.5% of AGI)

$5,500

Charitable Contributions (includes the additional $10,000 distribution)

$11,000

Exemption

$3,800

Taxable Income

$39,700

Tax

$5,955

Under the new method in our example, the tax cost was increased by $67.  This doesn’t seem like a lot, but if the circumstances were a bit different this could become sizeable – and who likes to pay extra taxes of any amount?

Bear in mind that this provision has expired and subsequently been extended in the past, so it’s possible that it could be extended again at some point in the future.  Stay tuned.

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14 Comments

  1. [...] Charitable Contributions From Your IRA – 2012 and Beyond [...]

  2. 2012 Sees New Tax Rules for IRAs | Ally Straight Talk says:

    [...] on December 31, 2011. The QCD provision had let taxpayers at least 70-1/2 years old make direct distributions to a qualified charity without recognizing that distribution as income. With that provision expired, any such charitable [...]

  3. Marshall AbramsNo Gravatar says:

    I’ve seen advice that it makes sense to make the charitable contribution from an IRA now, in case Congress acts at the last minute, as they have done previously, to permit GCD in 2012. My problem is that two different IRA custodians have said that “they are not able to make the distributions as the legislation has not been approved for the 2012 tax year at this time. The only time we can make a payment to a third party as required by the legislation for a charitable contribution is if the legislation is approved for the 2012 tax year.”
    Is this correct? If not, do you know of any custodians who will make the payment directly to charities?

    1. jblankenshipNo Gravatar says:

      Sorry, but I can’t confirm whether or not this is a requirement of the law, and as such I don’t know for sure if any other custodian allows a direct payment to someone other than the account owner (or the IRS). I’ll continue my research and if I turn up anything I’ll reply to you again.

      jb

  4. [...] This law expired at the end of 2011, but in years past Congress has acted very late in the year and retroactively reinstated this provision.  For more detail on how this provision (if not reinstated) can impact your taxes, see the article Charitable Contributions From Your IRA – 2012 and Beyond. [...]

  5. EphNo Gravatar says:

    Like many retirees, I have a pension, SS, and RMD from my IRA. If I make a charitable donation of $5000, I get no deduction on my federal income tax, since this is not above the 2% of AGI. If I use the QCD, I get a deduction of $1500. I take the standard deduction. Will our partisan legislators in Washington extend this benefit for 2012 and beyond? Our charities are suffering and can use the donations, which government has limited.

    1. jblankenshipNo Gravatar says:

      Eph,

      I don’t know if Congress will extend this benefit in 2012, it’s hard telling what they’ll do.

      One thing I must point out is that a charitable contribution doesn’t have to be more than 2% of AGI to be deductible. Charitable contributions of cash are deductible at any amount. The only limit is that all of your itemized deductions should be more than the Standard Deduction, which might be the limiting factor for your situation.

      jb

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  7. ChiefNo Gravatar says:

    Very detailed post that clearly shows the impact. Thanks.

  8. Bill CampNo Gravatar says:

    The impact is more significant if you are receiving Social Security Income. In the example you used the MAGI would be increased by $5000.

  9. From the rightNo Gravatar says:

    Most seniors take the standard deduction so there’s no subtracting the MRD as an itemized deduction.

    1. jblankenshipNo Gravatar says:

      I agree that many seniors (most?) don’t itemize deductions, but if they’ve made a significant charitable contribution I’m sure that they would itemize in order to take advantage of the additional deduction.

      jb

  10. clydewolfNo Gravatar says:

    This 73 year old tax payer is probably collecting SS Retirement benefits too.
    When his gross income increases because of the distribution from his IRA, the taxable amount of of his SS Retirement benefit will also increase.

    And depending on his AGI, charitable contributions may be limited. But if that were to happen, there could be a charitable deduction carried forward to future years.

    1. jblankenshipNo Gravatar says:

      Great points, Clydewolf. Thanks for sharing.

      Social Security benefit taxation is one of the “surprises” that many folks don’t account for when planning IRA distributions.

      jb