For the past few years, Congress has created a temporary rule that allowed traditional IRA owners to exclude their required minimum distributions (RMDs) from their adjusted gross incomes if they transferred this amount to a qualified charitable organization. But this rule has previously always been renewed at the last minute by Congress, and it made future planning difficult for advisors and their clients.

But late in 2015, Congress finally made this charitable provision permanent, thus allowing taxpayers to create long-term planning strategies around this rule. The regulations that govern how this rule can be used have remained largely intact.

Read on for the lowdown on the qualified charitable distributions (QCD) rule. (For related reading, see: Top Tips to Reduce Required Minimum Distributions.)

Who's Eligible

Any traditional IRA owner or beneficiary who is at least 70.5 years old can use the QCD rule to exempt their required minimum distributions from taxation. The age limit here applies literally to the exact date on which the IRA owner turns age 70.5; the QCD cannot simply happen in the year that the taxpayer turns this age. For example, if an IRA owner turns 70 on February 15, then he or she cannot make a QCD until August 15.

Roth IRA owners are also allowed to use the QCD rule, although they will not see any benefit from doing so as their distributions are already tax-free.

Eligible Distributions

All contributions and earnings that accumulate inside a traditional IRA are eligible for QCDs. The exception is nondeductible contributions, as they are considered a tax-free return of basis. (This is also why Roth contributions are ineligible, because they were also made on an after-tax basis). SEP and SIMPLE plan distributions can qualify as long as the employer did not make any contributions into the plan during the plan year that either ends with or in the year of the QCD.

QCDs cannot be taken from any other type of qualified or employer-sponsored plan. The amount that can be taken as a QCD is capped at $100,000 per taxpayer per year. Joint gifting strategies are also not available for the purpose of QCDs; a couple cannot take both of their aggregate RMD amounts from a single account and exclude the entire amount from their AGI. Each of them must take their RMD from their own accounts in order for both to qualify.

The QCD strategy can also benefit traditional IRA owners who want to convert their balances to Roth accounts, as the QCD will reduce the amount of taxable money in the account. (For related reading, see: Give to Charity, Slash Your Tax Payment.)

The AGI Advantage

One of the biggest advantages that the QCD rule provides is the ability for taxpayers to lower their adjusted gross incomes. This is much more valuable than taking an itemized deduction, which merely lowers taxable income. Because the AGI number is the one used for many tax calculations, having a lower number can allow the donor to stay in a lower tax bracket, reduce or eliminate the taxation of Social Security or other income and remain eligible for deductions and credits that might be lost if the taxpayer had to declare the RMD amount as income.

Another key advantage is that the donor does not have to itemize deductions in order to qualify for this deduction since the exclusion applies to adjusted gross income and not taxable income. This ultimately lowers the real cost of the donation for the donor, because having a lower AGI is more effective in some ways than merely having a lower taxable income.

Payout Rules

The key rule to remember when it comes to QCDs is that the distributions must be made directly to the charity and not to the owner or beneficiary. Distributions checks need to be made payable to the charity or else it will be counted as a taxable distribution. The owner or beneficiary can receive this check and deliver it to the charity, but he or she cannot deposit the check and then make out another one to the charity. (For related reading, see: Donations: How to Maximize Your Tax Deduction.)

Of course, any distributions in excess of $100,000 that are taken can still be contributed to charity, but they will not be excluded from AGI, and the taxpayer must qualify for itemized deductions in order to deduct the excess contribution. The receiving charity must also be a qualified 501(c)3 organization; vehicles such as charitable gift annuities will not qualify.

The donation amount must also be substantiated by the charity with a written receipt.

The Bottom Line

IRA owners who wish to lower their adjusted gross incomes can use the qualified charitable distribution strategy to efficiently disperse money to a charity of their choice. This strategy is superior to taking constructive receipt of the distribution and then donating that to charity because that will not reduce the donor’s AGI. Now that Congress has made this rule permanent, it will be much easier to plan for in the future and should provide charitably-minded IRA owners with a convenient tax deduction for years to come. (For related reading, see: Tips on Charitable Contributions: Limits and Taxes.)

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