Giving Through Retirement Plans

Millions of Americans have taken advantage of generous tax incentives provided by Congress to encourage saving for retirement years through contributions to Individual Retirement Accounts (IRAs), 401(k)s, and similar plans.

These options have traditionally featured income tax savings at the time contributions are made to such plans. The assets in the plans then build tax free over time for future enjoyment.

Amounts in these plans are typically not subject to income tax until they are actually withdrawn from the plan by the plan owner or surviving heirs.

Making gifts today

You may find that your retirement plan can be an excellent additional "pocket" from which to make all or a portion of your charitable gifts each year.

If you are over the age of 59½, and can make withdrawals from your IRA or other retirement plan without triggering an "early withdrawal" penalty, you may wish to make withdrawals from retirement plans in amounts sufficient to fund all or a portion of your charitable gifts.

Although you will be required to report the income on your tax return, you are then allowed a corresponding charitable deduction for your cash gifts up to 50% of your adjusted gross income (AGI).

If you are able to deduct the full amount of the gift/withdrawal, this can amount to a "wash" for tax purposes and ensure these funds will, in effect, never be subject to gift, income, or estate taxes.

You should seek assistance from your accountant or other advisor when determining the optimum amount to give from retirement plan accounts under federal and state tax laws.

Give from mandatory withdrawals

If you are at the point in life, normally age 70½ and older, when you are required to take mandatory taxable withdrawals from your retirement account even if you do not need the funds, consider the possibility of charitable gifts as an integral part of planning for those withdrawals.

You may find that by using all or a portion of your IRA distributions to make charitable gifts, you may be able to completely eliminate tax on the amount donated.

Special tax-free gift option

As part of 2008 tax legislation, Congress has renewed a special tax provision for those over the age of 70½. It is once again possible to make completely tax-free gifts from traditional IRA and Roth IRA accounts.

You may direct that all or a portion of your mandatory withdrawal (or any other amount up to a total of $100,000 per year) from a traditional or Roth IRA be given directly to charity without worry about normal deduction limitations, additional taxes on Social Security benefits, state income taxes, or other adverse tax consequences that might otherwise apply. These benefits only apply to gifts completed during 2008 and 2009.*

*Gifts must be made directly to qualified charities and may not be made to donor advised funds, private foundations, or supporting organizations.

Example

John, age 74, enjoys making charitable gifts each year. He is also required to take a mandatory withdrawal from his IRA this year even though he does not need the additional income. The withdrawal amount will be added to his other taxable income and push him into a higher tax bracket. The increase in his AGI will also result in higher taxes on his Social Security benefits. Additionally, John does not have sufficient deductions to itemize his charitable gifts.

He decides to contact his IRA administrator and request that a portion of the withdrawal amount instead be used to make gifts directly to charities he names. By making his gifts in this way, John does not report the withdrawal amount on his tax return, his tax bracket is not affected, additional tax is not incurred on his Social Security income, and the amount of his gift is not taxed, thereby reducing his income taxes.

Additional details

To qualify for the benefits of making gifts in this manner, it is important that tax-free gifts from your IRA not be withdrawn by you, but instead distributed directly to one or more qualified charities from your IRA. Check with your IRA administrator or other advisors for more information.

Avoid double taxation

You may also want to consider including charitable gifts as part of your plans for the future distribution of any balances remaining in your retirement plans.

Because they are included as part of one's estate at death, the assets in tax-favored retirement plans such as an IRA, 401(k), SEP, and others can be subject to federal (and perhaps state) estate taxes.

Additionally, when heirs receive the balance of retirement plans after payment of estate taxes, income tax will also be due—up to 35% or more—depending on state income taxes and other factors. Thus, the combination of income and estate taxes that could eventually be levied on retirement accounts may, in some cases, amount to 64% or more of an account's value.

Rather than allowing retirement assets to be largely absorbed by a combination of estate and income taxes, you can direct that such assets be used to fund charitable gifts from your estate. This can actually result in more assets being received by loved ones than if retirement assets were left to family and charitable gifts were made from other funds.

Copyright (c) 2014 The Sharpe Group, Inc.