New rule under SECURE Act blocks tax abuses using QCDs

Bill Cass, CFP®, CPWA®

Bill Cass, CFP®, CPWA®, 02/19/20

New rule under SECURE Act blocks tax abuses using QCDs

While the age for required minimum distributions (RMDs) from individual retirement accounts increased to age 72 under the SECURE Act, the age for the charitable donation provision remains the same, age 70½. In addition, the SECURE Act repeals the age limit for traditional IRA contributions, allowing those who have reached age 70½, or their spouses, to make a traditional IRA contribution, provided they have earned income. Previously those over age 70½ were not able to contribute to a traditional IRA

To prevent potential abuses of deducting traditional IRA contributions and subsequently requesting a qualified charitable distribution (QCD), the SECURE Act introduced a new “anti-abuse” rule.

Charitable distributions from an IRA

  • This provision allows retirees to donate up to $100,000 out of an IRA each year, provided the distribution is sent directly to a qualified charity (private foundations or donor-advised funds are not eligible). Since the distribution is not included in taxable income, taxpayers avoid the negative consequences that IRA withdrawals can create, such as taxation of Social Security benefits or higher Medicare premiums. In addition, this strategy offers the tax benefits of a charitable contribution, without having to itemize deductions on the tax return.
  • For more detail on QCDs, read our investor education piece, "Donating IRA assets to charity."
  • The use of QCDs applies only to traditional IRAs. SEPs and SIMPLE IRAs are generally excluded.*
New anti-abuse rule under the SECURE Act
  • The new law includes an “anti-abuse” provision designed to address the situation in which an older IRA owner makes a deductible IRA contribution and subsequently requests a QCD.
  • Without this anti-abuse provision, an individual could make a traditional IRA contribution, deduct the contribution from income on their tax return, and then distribute the income taxfree to a charity using a QCD. The taxpayer could benefit twice from a tax perspective: once with the deductible IRA contribution and again when the funds are distributed tax free to charity.
How the anti-abuse provision works

Under the new law, the amount of the QCD is decreased by the cumulative amount of deductible IRA contributions occurring after the account owner reaches age 70½.

Consider this example:

  • An IRA owner contributes and deducts on his or her tax return $7,000 a year into a traditional IRA at ages 71, 72, and 73, for a total (tax deductible) contribution of $21,000 over the three-year time frame.
  • The following year, the IRA owner requests a QCD of $50,000 out of the traditional IRA. For that tax year, the amount of the charitable distribution ($50,000) would be reduced by the amount of the deductible IRA contributions already made ($21,000) for a net, tax-free QCD of $29,000. Generally, the remaining $21,000 directed to the charity in excess of the tax-free QCD could be claimed as an itemized deduction on the tax return.
Planning consideration

Individuals who are planning to use the QCD provision to donate to a charity, may not want to deduct traditional IRA contributions on their tax returns after reaching age 70½. This would trigger the anti-abuse rule upon distributing the QCD. When making a traditional IRA contribution after age 70½, it may be preferable not to deduct it. Instead, choose to make a non-deductible IRA contribution or contribute to a Roth IRA. Investors should consult with a tax professional with understanding of their specific situation.

 

* A qualified charitable distribution (QCD) is permitted from a SEP IRA or a SIMPLE IRA that is not considered “ongoing.” Per IRS Notice 2007-7, a SEP IRA or a SIMPLE IRA is treated as ongoing if it is maintained under an employer arrangement under which an employer contribution is made for the plan year ending with or within the IRA owner’s taxable year in which the charitable contributions would be made.

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