Thursday, May 24, 2007


The Pension Protection Act of 2006 created a special provision to allow taxpayers age 70½ and older the ability to directly transfer up to $100,000.00 tax-free from an IRA account to a qualifying charity. These charitable transfers can be used to satisfy the taxpayer's “required minimum distribution” (RMD) for the tax year. However, this special provision is only in effect for 2006 and 2007 – so, unless Congress acts, this is your last chance to take advantage of this unique tax break.

Here is how it works:

Let us say that Ely Mosynary, age 72, must take a fully taxable required minimum distribution of $4,263.00 from his IRA in 2006. Ely also owes $5,000.00 on a pledge to the Visual Art Center of New Jersey building fund. Ely can contact the trustee of his IRA account and request that $5,000.00 be sent directly from the account to the Visual Art Center of New Jersey to cover both his required minimum IRA distribution for 2007 and his outstanding pledge. The $5,000.00 is not reported as income on his 2006 Form 1040, and he cannot deduct the $5,000.00 as a charitable contribution on his 2007 Schedule A.

Before PPA Ely would have had to claim $4,263.00 as gross income on Page 1 of his Form 1040 and claim a $5,000.00 charitable deduction on Schedule A. The $4,263.00 would increase his Adjusted Gross Income (AGI) and could, as a result, increase the taxable portion of his Social Security (or Railroad Retirement) benefits by as much as $3,624.00, reduce his medical and miscellaneous itemized deductions by up to $405.00, and reduce or eliminate a number of other deductions and credits that are affected by AGI, and could cause him to fall victim to the dreaded Alternative Minimum Tax (AMT).

Under PPA, the $5,000.00 IRA transfer is tax-free, and does not increase his AGI. Plus the additional $737.00 represents a tax-free withdrawal from his IRA.

There is nothing in the law that limits the number of transfers that can be made during the year, or the number of charities to which the money can be transferred. So during 2007 Ely can chose to transfer $1000.00 each to four different churches or charities and $263.00 to a fifth. The only requirements are –

· the taxpayer must be at least 70½ years old and subject to the required minimum distribution rules,

· the distribution must be a direct trustee-to-trustee transfer. The IRA trustee must transfer the money directly to the charity – the taxpayer cannot receive the distribution in his/her hands and then donate the money to the charity.

· the full amount of the transfer (100%) must qualify as a charitable contribution eligible to be deducted on Schedule A.

· the maximum amount that can be excluded from taxable income for the year is $100,000.00.

Many retired taxpayers who must take required minimum distributions from an IRA are not able to itemize, due to the additional standard deduction for age 65 or older and the fact that their mortgage is paid off, and therefore get no tax benefit from their charitable contributions. By using a direct transfer to the charity of their choice to satisfy their annual required minimum distribution they will be able to get the full tax benefit for their contribution, as well as possibly reducing their taxable Social Security.

What if there is a “tax basis” in Ely’s IRA from non-deductible contributions, and part of his RMD is tax-free. If Ely decides to transfer his entire $4,263.00 RMD to various charities during 2007, but the calculation from Form 8606 indicates that only $3,950.00 of the distribution would have been taxable, Ely can claim the $313.00 “return of basis” as a charitable contribution on Schedule A.

Be advised that charitable distributions should only be made from a “traditional” IRA. Because qualified distributions from a ROTH IRA are totally tax-free both to the owner as well as his or her beneficiaries there is no tax benefit in a direct transfer of funds from a ROTH IRA to a charity. In such a case it would be “more better” to take a distribution from the ROTH and make a cash contribution to the charity. The ROTH distribution is not included in taxable income, and the contribution can be claimed as a deduction on Schedule A.

Qualifying taxpayers may also want to consider making a direct transfer from a traditional IRA to a charity now, instead of having a cash bequest made from their estate. As beneficiaries will be taxed on monies received from an inherited traditional IRA, by making the contributions as a direct transfer now one will -

· reduce the tax cost to the beneficiaries of their inheritance,

· reduce the balance in the traditional IRA, which will in turn reduce taxable required minimum distributions,

· get the money to the charity sooner,

· enjoy the appreciation of the charity during one’s lifetime, and

· see how the contribution is put to use.

FYI, the direct tax-free transfer to a charity is not available from SEPs or SIMPLE IRAs.

To be continued......


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