January 5, 2018
Authored by: Kathleen Sherby
The Tax Cuts and Jobs Act of 2017 (TCJA) eliminated all miscellaneous itemized deductions that are subject to the 2% floor, capped state and local taxes deduction at $10,000, and doubled the standard deduction for single persons to $12,000 and married couples to $24,000. As a result of this triumvirate of changes, the individual taxpayer who is over age 70½ is now faced with new computation to make to determine how best to report deductions on the Form 1040 beginning this year and a new opportunity, if managed correctly, to maximize deductions and minimize taxable income.
IRC § 408(d)(8) permits anyone who is over age 70½ to transfer up to $100,000 per year from his/her IRA directly to public charities without reflecting the distribution in taxable income on the taxpayer’s Form 1040. This technique allows the IRA owner to satisfy the taxpayer’s charitable giving and his/her Required Minimum Distribution (“RMD”) for the year at the same time without having the taxable income from the distribution appear on his/her tax return. Of course, the use of this technique would preclude deducting that amount as a charitable deduction, but income excluded from income reportable on a tax return is the same as, and often better than, taking that same amount as an income tax deduction.
In using this technique of a direct transfer from an IRA to a public charity, commonly referred to as a Qualified Charitable Distribution (“QCD”), the individual taxpayer could always still use the standard deduction on his/her income tax return, while also getting the benefit of the “charitable deduction” by virtue of excluding the QCD from income altogether. Now that TCJA has substantially increased the standard deduction and has substantially slashed other individual taxpayer deductions, QCD’s can be a much more beneficial means of making charitable gifts for the over age 70½ taxpayer. If the taxpayer’s remaining itemized deduction for state and local taxes (capped at $10,000), medical expenses above 7.5% of AGI and mortgage interest deduction on up to $750,000 debt for one principal residence do not exceed the standard deduction, the taxpayer can use a QCD for charitable gifts (excluding this portion of the RMD from income) AND still use the standard deduction on the taxpayer’s income tax return. Generally, direct transfers from the older donor’s IRA to the older donor’s favorite public charities will be beneficial if the older donor has low or no mortgage interest and does not have medical expenses that substantially exceed the AGI threshold.
Here’s how it works. Dave and Mary are married, have no mortgage, own a home and pay state and local taxes totaling more than $10,000. They are both very healthy so they do not expect to have any significant medical expenses in 2018. Dave has reached his required beginning date and has to take an RMD of $50,000 from his IRA this year. They have other taxable income of $200,000. Dave and Mary have been making contributions of $50,000 each year to their church and want to do that again this year. Dave can direct his IRA plan sponsor to transfer $50,000 from his IRA directly to their church this year in satisfaction of his RMD without having to include this amount in his taxable income. In this way, his income on his Form 1040 will be $50,000 less than it would otherwise have been, which is as good as a $50,000 deduction for the gift to their church. In addition, Dave and Mary will be able to claim the $24,000 standard deduction, for a full tax benefit of $74,000. Dave and Mary’s gross income would be $200,000, and their taxable income after taking the standard deduction would be $176,000, on which they would pay tax. If instead Dave were to take his $50,000 RMD and then, after depositing that RMD amount in their bank account, Dave and Mary were to contribute $50,000 to their church, they could deduct a total of $60,000 in itemized deductions on their income tax return for this year, but could not take the standard deduction. In this case, their gross income would be $250,000 (the $200,000 of other income and the $50,000 RMD), and after taking their $60,000 in itemized deductions, their taxable income would be $190,000, on which they would pay tax.