Many of our clients are both intentional and generous when it comes to charitable giving. Some of us also received a larger tax bill in 2022 than we expected. If you are looking for ways to reduce tax exposure and at the same time maximize the impact of your charitable giving, we have a couple ideas. Of course, please discuss these with a tax professional to determine the best options for you.
Offset the tax liability on a retirement account withdrawal.
If you itemize deductions on your tax returns, you can use charitable deductions to offset the tax liability on the amount you withdraw, including a required minimum distribution (RMD). Only use this approach if you are over age 59½ (to avoid an early withdrawal penalty). A withdrawal offers the additional tax benefits of potentially reducing a donor’s taxable estate and reducing tax liability for account beneficiaries.
Donate appreciated assets instead of cash.
Donating assets such as stocks, real estate, and other holdings held for more than a year could eliminate the capital gains tax that would otherwise apply if you were to sell the assets and then donate the proceeds.
If you itemize, you may also be eligible to claim a charitable deduction based on the fair market value of these assets.
This not only helps your chosen charity but can also increase the total amount available for charitable giving by potentially up to 20% due to the elimination of the capital gains tax and the enhanced deduction.
Offset the tax obligations associated with converting a retirement account to a Roth IRA.
Clients with tax-deferred retirement accounts, such as traditional IRAs, may be able to use an itemized charitable deduction to counter the tax liability on the amount converted to a Roth IRA. The key advantages of a Roth IRA are potential for tax-free growth, tax-free withdrawals (subject to meeting holding period and age criteria), no annual RMD, and no tax liability for beneficiaries (if account assets are passed to heirs).
Meet your IRA RMD with a non-taxable qualified charitable distribution (QCD).
At age 73 the IRS mandates IRA owners begin taking annual RMDs. Failure to take annual withdrawals could result in substantial penalties. But if you already have sufficient income or find the withdrawal pushes you into a higher tax bracket, that can even affect Social Security and Medicare benefits.
If you are 70½ or older, you can make QCDs up to $100,000 annually from traditional IRAs to operating charities (excluding donor-advised funds), reducing your taxable income. A QCD can satisfy all or part of your annual RMD, is not taxable income, and is not eligible for a charitable deduction.
Since assets go directly to charity, QCDs are not considered taxable income and there are no taxes on the QCD, even if you do not itemize deductions. Some find that QCDs provide more tax savings than donating cash and claiming the charitable tax deduction.
Establish a donor-advised fund account.
If you itemize, there’s an option to open a donor-advised fund. This account allows for contributions of cash and non-cash assets, making them eligible for charitable deductions. These contributed assets can also be invested, potentially yielding tax-free growth.
Donate cash, appreciated assets, or investments held for more than a year without incurring capital gains taxes.
Contributions to your account can be made into grants to charitable organizations at any time, not just at year-end. At Brixton, we can set up an account of this nature as part of your comprehensive portfolio.
Tax deduction considerations for charitable giving
Donations are deductible for clients who itemize when filing their income tax returns. Overall deductions for donations to public charities, including donor-advised funds, are generally limited to 50% of adjusted gross income (AGI). Discuss your particular situation with your tax advisor.