By: Dan Johnson, CFP® and Sayre Payne, CFP®, JD
As our clients aim to maximize the impact of their charitable gifts, it is important to recognize the benefits of using qualified charitable distributions (QCDs) from retirement accounts. Many of us are already familiar with the facts and figures around IRA QCDs that are outlined in this Dayton Foundation information sheet. This article will highlight some of the practical ways you can help your clients maximize their ability to give to charitable causes important to them while integrating the gifts into their overall financial plan.
1. Giving While in a Flow State: Retirement Cash Flow Planning
Since QCDs are only available once a client reaches the age of 70 ½, most donors are already retired. Retirees often supplement their fixed income sources, like pensions and Social Security, with withdrawals from their savings portfolio. As planners, we understand the order in which clients withdraw from various savings buckets—taxable, pre-tax retirement, and Roth retirement accounts—requires careful consideration. Our job is to guide clients in using their assets as efficiently as possible to maximize the value of their accounts.
Unlike other strategies for charitable donations, the QCD allows clients to exclude otherwise reportable, taxable income from their tax return entirely.
Let’s look at this in two scenarios:
- Client is 70 ½ and hasn’t reached required minimum distribution (RMD) age yet. Although the SECURE Acts pushed the RMD age back, the individuals still may take advantage of the QCD at age 70 ½. Many planners view the QCD strictly as an RMD management tool. For clients with other income streams covering their retirement expenses, it may be wise to reduce the amount they’ll have to withdraw as RMDs before they reach RMD age. To illustrate, a $100 QCD decreases the RMD by roughly $4 in the first year and each year after, with adjustments for life expectancy and possible growth. You’ve heard of compound returns. Now we’re talking compound tax savings.
- Client has reached RMD age. Once a client attains RMD age, he or she may not need or want that forced distribution from their IRA. However, it must be distributed. One possibility is to take the amount required, donate it to charity, then take a deduction. In contrast, the QCD provides the only option to reduce this income off a client’s tax return altogether, eliminating the need for a deduction.
2. Letting the Tax Tail Wag the Dog: Tax Planning Strategies
Speaking of tax returns, there are some more nuanced tax planning strategies to discuss with your clients and their tax advisors. With the progressive structure of our tax system, we’re all too aware of higher taxable income leading to higher marginal tax rates. However, more money means more taxes and potential complications.
Utilizing QCDs in conjunction with undesired RMD income can help manage those marginal tax rates. Lowering adjusted gross income (AGI) also opens up other planning opportunities.
Harvesting Gains: Although most planners are familiar with advising clients about opportunities of harvesting capital losses in a taxable portfolio, i.e. “making lemonade out of lemons,” some may not be as familiar with harvesting gains.
In 2024, married taxpayers filing joint returns can have upwards of $94,000 of taxable income before their long-term capital gains and qualified dividends are taxed. It follows that clients stand to benefit if they can stay below that income threshold. If there is room in that bracket before the end of the year, and the client is sitting on appreciated positions they’d like to part ways with, this could be the ideal scenario in which to do it.
It’s also worth noting, when you sell an investment and realize a capital gain, you can turn around and buy the same security immediately. Not the case when you are harvesting capital losses. If you sell a security and realize a capital loss, you must wait 30 days to repurchase the security to avoid the wash-sale rule. This makes harvesting capital gains a more straightforward strategy to realize a gain on paper, yet not affect the holdings of an investment portfolio.
In the same vein, for those inclined to recommend Roth conversion strategies for their clients, the QCD can offer a way to leave room in a lower rate tax bracket for use with those conversions.
Lastly, most folks of QCD age will also be on Medicare. For relatively high-income clients, QCDs can help manage Part B and Part D premiums related to Medicare’s income-related monthly adjustment amount (IRMAA) by keeping income low, thus keeping their premiums lower too.
3. Proceed with Caution! QCD Processing Pitfalls to Avoid
No planning strategy worth its salt comes without some caveats and “gotchas.” Keep the following in mind to help your clients implement a successful QCD giving strategy:
Don’t ignore proper documentation. Recommend your client maintains solid records of the gift, including the charity’s acknowledgement of receipt and the IRA custodian’s documentation, such as a transaction confirmation or statement showing the activity. If using a Dayton Foundation IRA Designated Fund to process the QCD, your client need only keep track of one gift acknowledgment letter from The Dayton Foundation instead of from multiple charities, as it is a public charity. Additionally, The Dayton Foundation can request the receiving organizations provide receipt of the grants.
Coordinate with a client’s CPA. Planning strategies should be made in partnership with the client’s tax advisor. One common mistake is assuming the IRA custodian’s 1099R will reflect the QCD. In fact, the 1099R will reflect the gross distribution from the IRA and the client must report and reflect the QCD on their tax return. If the tax preparer is unaware of the QCD when filing, the client will miss the tax benefit or be required to file an amended return.
Don’t get buried in the administrative processes. Keep in mind QCDs can’t be made to donor-advised funds. However, The Dayton Foundation offers a variety of charitable fund options for clients who enjoy donating to numerous charitable organizations or those who prefer spreading their QCD over multiple years. The Foundation staff will work with your client to identify which option best suits the client’s needs and will administer their many individual gifts or predetermined gift schedules.
In conclusion, QCDs offer a simple and effective way for clients to support their favorite charities while maximizing their tax benefits. By directly transferring funds from their retirement accounts, clients can use their assets in an intentional way to gain the most bang for their buck. By understanding how these strategies work, we advisors can help create a win-win scenario for both our clients’ overall financial plans and the causes they care about.
Dan Johnson, CFP®
CEO and Wealth Advisor
Birchcreek Wealth Management
Dan founded Birchcreek to serve families as a steward of their financial lives, in a structure that ensures their interests are always placed first. With nearly two decades of experience working with families and business owners on planning for their futures, he cites helping clients navigate the Great Recession as giving him important perspective on managing risk associated in one’s investment portfolio. Originally from Florida, Dan is a business finance graduate of the University of Florida and holds the CERTIFIED FINANCIAL PLANNER(TM) certification.
Sayre Payne, JD, CFP®
Wealth Advisor
Birchcreek Wealth Management
Sayre helps families navigate the complexities of living in a globalized world. He has over a decade in the wealth management and legal industries having served as a financial advisor at a prominent Wall Street firm, then as a practicing attorney at a full-service, national law firm. Sayre obtained his undergraduate degree from The Ohio State University and his law degree from the University of Dayton School of Law. In addition to his law degree, he holds the CERTIFIED FINANCIAL PLANNER(TM) certification.
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