For those who are required to take a minimum required distribution (“RMD”) from an IRA, charitable donations may be the answer. An individual can offset the tax liability from an RMD by making a qualified charitable donation if he does not need the cash at the time of the distribution.
If an individual takes the RMD in a normal situation, the distribution goes towards taxable income. By using charitable donations, individuals can avoid receiving funds subject to tax while also avoid jumping into a higher tax bracket from the taxable distributions. If the funds are transferred directly to the charity, then the individual does not have to pay tax on the distribution, and the individual’s taxable income does not increase either.
Also, if individuals donate appreciated capital assets, they can avoid paying the capital gains tax and reduce taxable Required Minimum Distributions. Rather than donating plain cash, if individuals donate appreciated securities, they do not have to pay the tax on the gains and still receive the benefit of the fair market value of the donation because this offsets the RMD, and therefore the tax liability associated with the distribution.
There may be timing benefits that could result in major tax savings for 2021 due to COVID-19 that are the exception to the general rule. The government has suspended the requirement for people to take the required IRA payouts for 2020. In other words, you do not have to take your required minimum distribution for 2020 as a way to combat the economic impact of the coronavirus.
This may mean major tax savings for people who typically donate from their IRA to charities. Since there is no RMD for 2020 due to the CARES Act and charitable donations count towards the required distribution, it may be best for individuals to post pone donations until 2021 or later. In other words, rather than donating cash or capital assets in 2020 and having no RMD to offset, individuals could wait and make a larger donation when they are required to take RMD again. This way, taxpayers are able to reduce taxable income when the RMD comes due.
RMD will be required again in 2021 (in all likelihood), but perhaps it may be best to hold off even longer on making qualified charitable donations. For instance, individuals should make the largest donation when the taxable income outside of RMD is the highest. This way, taxpayers are able to take advantage of avoiding an increase in taxable income by offsetting the RMD and avoid reaching an even higher tax bracket.
This strategy to donate a higher dollar value donation may help reduce taxes in 2021 simply by holding off a little bit longer until mandatory distributions kick back in next year. Please remember this article is not intended to be tax or legal advice and you should always consult directly with your tax attorney or tax advisors. You can contact the McGuire Law Firm to speak directly with a tax attorney regarding any of your tax issues.