After a lifetime of working, saving, and investing for a comfortable retirement, you can take advantage of your retirement income, savings, and investments and help the less fortunate. The psychological benefits of being charitable are backed up by studies that show giving to others can increase happiness and well-being, reduce stress, improve social connection, and increase empathy and compassion.
There are also tax incentives and benefits that can help you reduce your taxable income through charitable giving. Those incentives include strategies that go beyond just direct cash donations.
Before you begin reading this article, take a few moments to consider how your charitable giving can support the causes you care about. What are you most passionate about? Do you have appreciated assets that are in excess of your retirement needs? Did you know that you can donate those assets without cashing out and save both income and capital gains taxes?
In this article, you will learn charitable-giving strategies:
- Qualified Charitable Distribution (QCD) for individuals aged 70½ directly through your regular IRA
- Bunching charitable giving
- Donating highly appreciated assets like stocks and mutual funds
- Donor-Advised Fund as a vehicle to make a charitable contribution to a fund
- Beneficiary designations for after-death giving to avoid death and income taxes on your estate
FIRST THINGS FIRST: WHAT THE IRS SAYS
The IRS provides detailed guidance for charitable giving. The key is, in the words of the guide, "Only qualified organizations are eligible to receive tax-deductible contributions." You need to do your research and make sure the charity is registered with the IRS.
Next, you need to keep meticulous and accurate records of charitable donations for any contribution of $250 or more. You must get a receipt and that receipt must "say whether the organization provided any goods or services in exchange for the gift, along with the fair market value of those goods, if any.
Then there's this kicker. If you receive a benefit as a result of the charitable donation—"merchandise, goods or services, admission to a charity ball, banquet, theatrical performance, or sporting event"—you can only deduct the amount of your donation that exceeds the value of the benefit you received.
Finally, to claim the deduction, with the exception of bunching charitable giving, you must make the donation by the end of the tax year.
Now, let's explore the charitable giving strategies in the bullet list above:
QUALIFIED CHARITABLE DISTRIBUTIONS (QCD) FOR INDIVIDUALS AGED 70½
What it is: A QCD is a tax-efficient way for older taxpayers to donate money to a charity directly through their regular IRA.
Tax advantages of a QCD: QCDs can be credited toward your Required Minimum Distribution of funds from non-Roth IRAs after you reach your required minimum distribution age. QCDs are also excluded from your taxable income.
Caution: It is important to know that QCDs can only be made from traditional IRAs, rather than employer-sponsored retirement plans and Roth IRAs. The QCD must be made directly from the IRA to the registered charity, and not directly to the account owner.
BUNCHING CHARITABLE GIVING
What it is: Bunching charitable giving with your other itemized deductions in the same year can be a good tax strategy. Rather than making small charitable donations each tax year, you can bunch your donations and make a larger donation every few years. This will allow you itemize your deductions instead of taking the standard deduction for that year.
Tax advantages of bunching charitable giving: Bunching charitable giving allows you to take advantage of the standard deduction in some years while itemizing your deductions in other years when you make larger donations that exceed the standard deduction limit when combined with other expenses eligible for itemization.
Caution: Bunching deductions requires careful planning and consideration of your overall financial situation. Work with a tax professional or financial planner to determine whether bunching deductions is the best strategy and to calculate the tax benefits and best timing for your charitable donations.
DONATING HIGHLY APPRECIATED ASSETS
What it is: Donating highly appreciated assets from taxable accounts is a tax-efficient way to support your charity and reduce your tax burden. Appreciated assets are stocks, mutual funds, or real estate. When you donate those assets, you can deduct the fair market value of the asset as a charitable donation. This can give you a larger tax benefit than if you sold the asset and donated the cash proceeds.
Tax advantages of donating highly appreciated assets: You can avoid capital gains taxes on the appreciated asset by donating it to direct to your charity, rather than cashing out and paying the capital gains taxes.
Caution: As in bunching your deductions, donating highly appreciated assets requires careful planning. You'll need to work closely with the charity to make sure they can accept the asset. Again, consult with a financial planner or tax professional to maximize the tax benefits of the donation.
DONOR-ADVISED FUNDS (DAF)
What it is: A donor-advised fund is a way to make a charitable contribution to a fund, get an immediate tax benefit, and then recommend grants from the fund to charities over time.
Tax advantages of donor-advised funds: When you contribute to a donor-advised fund, you can recommend grants to any IRS-qualified public charity at any time. By waiting to consider which charities you want to support and how much to give, you still receive the tax benefit up front.
Also, most donor-advised funds allow you to invest your contributions, which can grow tax-free over time. This results in a larger pool of funds to donate to charities in the future. While you cannot always control the investments made with your contribution, you can recommend which charities receive grants, which, in turn, provides a sense of control and involvement in the charitable venture.
Caution: There are administrative and investment management fees associated with donor-advised funds. You should use caution when recommending grants from your DAF. Your goal is to choose charities that are reputable and effective.
BENEFICIARY DESIGNATIONS FOR AFTER-DEATH GIVING
What it is: Beneficiary designations are an effective and simple way to ensure your assets are distributed to your wishes after death. In the case of charitable giving, you can designate a charity as a beneficiary for certain assets like retirement accounts or life insurance proceeds.
Tax advantages of beneficiary designations for after-death giving: Tax advantages include:
- Reducing the size of your taxable estate: whatever asset you designate, its value is removed from your estate for tax purposes
- Income tax savings: Charitable donations made through beneficiary designations can be exempt from income taxes. When you name a charity as the beneficiary of a retirement account, for example, the distribution is not subject to income tax. This can result in significant tax savings compared to leaving the retirement account to a non-charitable beneficiary.
Caution: As with any complex tax planning, it is crucial to work with a qualified financial or tax professional. There are tax and legal implications of your beneficiary designations, and your charitable donations need to align with your overall estate planning.
WHY WORK WITH A FINANCIAL PLANNING PROFESSIONAL?
A common thread through each of the above-mentioned ways to manage your retirement charitable giving is that you need a professional to maximize the benefits of each and avoid audits and penalties. There are four more reasons, namely:
- A financial professional can help you navigate the complex tax rules and regulations that apply to charitable giving. You need strategies for maximizing your tax benefits and help to avoid the pitfalls involved in leveraging tax-deferred distributions, for example.
- You need to be compliant with tax laws and the strict IRS rules and requirements. Claiming charitable deductions can sometime be an audit flag, and you need to be ready to defend your claim with professional advice and support.
- You'll want to integrate your charitable giving with your overall retirement planning. It's a tax strategy requiring a professional. Balancing your charitable giving goals with other income-generating goals is what professionals do best.
- Charitable giving, as discussed previously, has estate planning implications. An attorney specializing in estate planning law, along with your financial planner and tax preparer are good to have on your tax planning team.
You need to plan your post-retirement charitable giving. If you've planned your retirement well, you have multiple sources of income from Social Security, IRAs, and other investments. With wise charitable planning, you can meet your self-actualization needs as well as get some significant tax breaks.
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