Use Required Minimum Distributions (RMDs) For Charitable Gifts To Increase Your Tax Savings In Retirement (Online-Only Article)

By Brett S. Miller August 2017
Tax Individual

By: Brett S. Miller CPA, CFP®

The dental profession is highly active in philanthropy, with many doctors and their spouses giving both of their time and financial resources.  As we often share at our McGill & Hill Group seminars, planning opportunities exist for charitable contributions to maximize the impact of qualified gifts to both the gift giver and the receiving charitable organization.  Most of this focus has traditionally been centered on the pre-retirement strategy of gifting appreciated after-tax securities, wherein doctors can gift appreciated securities held for more than one year and take a deduction for the full fair market value of the securities at the time of the donation.  This strategy averts the payment of capital gains tax and allows doctors to maximize the value of securities donated to qualified charitable organizations.

While the above-mentioned works well for doctors actively practicing, we find that the same set of doctors wish to continue their philanthropic practices into retirement.  Unknown to many of these doctors is that proper gift planning evolves in retirement, especially when doctors and spouses are required to start making Required Minimum Distributions (RMDs) from their Individual Retirement Accounts at age 70 ½.  Largely underutilized is the option for doctors to make charitable contributions directly from their RMDs. 

At the point of taking RMDs, most retirees have little to no debt.  A reduction in income in combination with a lack of mortgage interest deductions result in Schedule A itemized deductions that often fall below the standard deduction threshold.  In this situation, charitable contribution of after-tax cash often become a lost deduction, as the total itemized deductions (including the gifted amounts) does not exceed the standard deduction, which is in turn applied against taxable income.

In lieu of analyzing the impact of gifting in the context of Schedule A deductions, savvy doctors can instead work with their financial advisors to gift directly from their RMDs.  When applied correctly, doctors can effectively “double dip” and remove the charitable contributions from their income while still taking their standard deduction, resulting in enhanced tax savings!

To properly execute a charitable contribution from a Required Minimum Distribution, doctors must follow and satisfy a four-step test:

  1. Individuals must be 70 ½ at the time of the gift and must make the gift as part of their Required Minimum Distribution
  2. The gift must be made in cash and must be the lessor of the calculated RMD or $100,000
  3. No federal or state income taxes can be withheld from the gift
  4. The gift must go directly to an IRC 170(b)(1)(A) qualifying charitable organization.  The IRS does allow the check to be mailed to the individual taxpayer, but it must be made out to and delivered to the qualifying charitable organization 

While this may seem like an additional administrative burden, the concept creates a tremendous planning opportunity for retirees in the right scenarios.  Gifting directly from an RMD effectively removes the contributed amount from the pre-tax income.  Not only does this result in a dollar for dollar reduction in taxable income, but it also reduces the doctors Modified Adjusted Gross Income for the purposes of calculating the taxability of Social Security benefits and the calculation of Medicare premium surcharges.  For doctors who are near one of the income thresholds for either of these calculations, a well-planned gift can generate yet additional cash savings.

As an example, let’s assume a married couple where both 71 years old and are required to take a combined $100,000 Required Minimum Distribution from their IRAs. The couple has an additional $80,000 in income from Social Security, interest, dividends, etc. for the year and $10,000 in miscellaneous deductions from medical expenses, taxes, interest, etc. prior to any charitable contributions.  In this scenario, the doctor and spouse will have an Adjusted Gross Income of $180,000.  If our couple wishes to gift $15,000 to a qualified charitable organization, a dual planning opportunity exists.

First, if the couple makes their $15,000 gift directly from their RMD, they will reduce their 2017 federal income taxes by $1,450.  By utilizing the RMD as the source of their gift, our doctor and spouse were able to reduce their taxable income by $15,000 and still apply the standard deduction of $15,800.

  Gift Made From After-Tax Cash Gift Made From Required Minimum Distribution Difference
Taxable RMD $100,000 $85,000 <$15,000> 
Other Income $80,000 $80,000   
Adjusted Gross Income $180,000 $165,000  <$15,000>
Standard Deduction or Schedule A $25,000 (Sch. A) $15,800 (Std. Ded.)  $9,200 
Personal Exemption $8,100 $8,100  
Federal Tax Due $28.202.50 $26,752.50 <$1,450>

Second, our example couple’s Modified Adjusted Gross Income of $180,000 is just over the $170,000 threshold for the application of additional Medicare Part B and Prescription Drug Premiums.  By making the $15,000 gift directly from the RMD, the couple will reduce their MAGI from $180,000 down to $165,000 and drive their income below the $170,000 threshold.  By adjusting the source of the charitable contribution, our couple will save an additional $1,603.20 in annual Medicare Part B and Prescription Drug Premiums, for total savings of over $3,000!

As the above example illustrates, a tremendous planning opportunity exists for retirees who wish to continue charitable gifting at the time of Required Minimum Distributions.  By tapping into the underutilized strategy of gifting directly from RMDs, doctors can create opportunities to generate additional cash flow in retirement by simply changing the source of their charitable contributions.  When applied correctly, the cash flow savings can be several thousand dollars, which is always a great bonus in retirement!

* Brett Miller is a Wealth Advisor with McGill Advisors, a division of Brightworth. McGill Advisors specializes in providing value-added investment management services to dental professionals on a fee-only basis. For more information, call 866.727.6100.

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