We discussed the IRA Charitable Contribution option for folks age 70½ or better, and it’s possible from that article that you got the impression that if you are younger than 70½, you are not able to make charitable contributions with money from your IRA. Nothing could be further from the truth! You can always make charitable contributions of any money you wish… the question is, what will such a move do for you tax-wise?
If you’re under age 70½
You can make charitable contributions from your IRA account – the only problem is that you must first count the distribution from your IRA as income, and then you account for the charitable contribution among your Schedule A Itemized Deductions. The end result is the same, right? O contrare, Mona Me*.
The problem is that, by having to count your IRA distribution as income, you will increase your Adjusted Gross Income (and therefore your Modified AGI), both of which can have a significant impact on other items on your tax return.
Let’s run through an example: you’re retired, age 72, have an IRA worth $50,000, and you want to contribute the entire amount to your favorite charity. Your other income, along with your spouse’s income, totals $70,000. Included among your tax return items is $10,000 in medical expenses, along with other deductions (real estate tax, home mortgage interest, etc.) amounting to $15,000. You had no other charitable contributions for the year.
Under the QCD rules, your AGI is $70,000. Your itemized deductions amount to $19,750 – because your medical expense deduction is limited to the amount over 7.5% of your AGI. Since 7.5% of $70,000 is $5,250; we subtract that amount from $10,000 and come up with $4,750, which we then add to the rest of your itemized deductions for a total of $19,750 in deductions.
Subtracting the itemized deductions from your AGI ($70,000 minus $19,750) equals $50,250. Then subtract your personal exemptions of $7,300 from that and you get $42,950 in taxable income. Tax on this amount is $5,607.50.
If you were younger than age 70½, your AGI is $120,000. (The IRA distribution of $50,000 is added to the rest of your income.) So if you were age 65 for example, itemized deductions are now $66,000, because your medical expense deduction was reduced to $1,000 – $120,000 times 7.5% equals $9,000, subtracted from $10,000 equals $1,000. We add the rest of your itemized deductions (including the $50,000 charitable contribution deduction) and come up with $66,000 ($15,000 plus $1,000 plus $50,000).
Subtracting the itemized deductions from your AGI equals $54,000, and then we subtract the personal exemptions of $7,300 (it didn’t change for 2010) to come up with taxable income of $46,700. Tax on this amount is $6,167.50.
Under these rules, you just lost $560. Or rather, you paid 10% more in taxes than you would have if you were 70½ or older, with the same circumstances as before. So, while it’s possible to make a charitable contribution from your IRA account when you’re younger, it’s more costly to do so.
Other items affected by AGI
There is a significant number of items on your tax return that are impacted by the amount of your AGI – listed below are some of the more common ones:
- taxable amount of Social Security (or Railroad Retirement) benefits
- allowable losses from rental real estate activity with active participation
- deductible traditional IRA and spousal IRA contributions
- ability to contribute to a Roth IRA
- miscellaneous itemized deductions, including non-reimbursed employee job expenses
- and a number of miscellaneous credits
These and many other components of your tax return can be impacted by an increase in your AGI.