Charitable giving in retirement

Sep 26, 2019

Jim and Kate are moved by many charitable appeals.  They give a variety of small contributions throughout the year.  They have thought about giving more but are held back by two major concerns.  First, they do not want to run out of retirement money themselves and become dependent on their children or social welfare programs.  Second, they want to give the bulk of their inheritance to their children who could really use it.

Waiting to give charity until death has the advantage of giving the money when you no longer need it.  The disadvantage of waiting is missing out on the joy of giving.  Many people do some of both.

The choice between children and charity is to some extent a false choice.  Consider some of the details of Jim and Kate’s situation.

Jim and Kate have two children and an estate worth approximately $500,000 – half investments and half equity in their home.  They would really, really like some of their money to go to solve world hunger issues, particularly to benefit children.  They have identified the charity that most closely matches their objectives.

 Jim and Kate ask themselves the question, “What if our children were to inherit $200,000 each instead of their full share of $250,000?  Would the $50,000 difference materially affect their lives?”  They conclude that the $50,000 would not make much difference to the children.  Jim and Kate realize that they have just effectively found $50,000 X 2 = $100,000 to benefit world hunger upon their deaths.

By far the most common approach to contributing to charity is to write a check or use a credit card to pay.  However, there is an alternative approach that may have some tax advantages.

If your IRA permits it, you can set up a checkbook that draws against it.  If you use those IRA checks to pay bills, they are deemed to be IRA withdrawals, fully taxed, and possibly subject to penalties and fees.  But if those checks instead go to standard (501c3) charities, they are not.  You can effectively use pre-tax dollars for your charitable giving.

Furthermore, if you are age 70½ or greater and taking your Required Minimum Distributions, then such charitable checks count towards your RMD.  You have thereby reduced the rest of your RMD owed and saved some taxes.

You can use a comparable approach to making charitable contributions upon your death.  If your estate contains both retirement and personally held investments, it matters which assets go to your children and which to charity.  If the retirement money through its beneficiary goes to your family, it is taxed; if it goes to charity, it is not.  So to some extent, the charitable contribution pays for itself through a reduction in taxes.

You should integrate this approach to charitable giving with your other planning.  See a professional for details.

The author does not provide tax, legal or accounting advice. This material has been prepared for informational purposes only and is not intended to provide, and should not be relied on for tax, legal or accounting advice. You should consult your own tax, legal, accounting and financial advisors before engaging in any transaction or taking any actions regarding the content discussed above.

If you have comments or questions, contact me at Mark@SeriousAboutRetiring.com

Start Now to Reduce Taxes in Retirement

Mar 20, 2019

Is there any way to reduce your tax burden post-retirement? After all, income taxes will be one of your largest expenses in retirement, particularly after you turn 70½.

Upon retirement you will most likely need some income from your investments.  It is less expensive to take money from personal investment or savings accounts, rather than retirement plans, because you would pay no income taxes on some or most of that money.  You would then let your IRAs grow for later on.

However, that is no longer possible after 70½.  When you are retired and age 70½ or older, you are required to take at least a minimum amount of money as a distribution (RMD) out of your IRAs and retirement plans.  These distributions, which start at 3.65% of the total value in retirement plans and IRAs and increase each year, are taxable, whether you need the money or not.

One approach to reduce taxes is to reduce the amount of money in your traditional IRAs by converting them to Roth IRAs, which do not have RMDs.  Like traditional IRAs that grow tax deferred, you get no 1099s for income taxes and pay no taxes until you take money out. Unlike traditional IRAs, Roth IRA distributions are not taxed, so you can let them grow untaxed, even through the next generation if set up properly.

This approach does not eliminate taxes, but it’s possible to come out ahead in actual money to spend, plus reduce you RMDs and their associated taxes.  A Roth conversion requires paying taxes on all of the IRA money being converted.

So why would you want to pay taxes much earlier than you need to?

1. Total taxes are lower if done before investments in the IRA have grown substantially later on.
2. If you have “extra” cash to pay the taxes for the Roth conversion, you are effectively converting lower paying taxable cash into higher-earning non-taxable investments. See the example below*.

If you have substantial IRA assets that you want to convert, the tax bill for doing this can be substantial, particularly if you are thrown into a higher tax-bracket.  You may be able to keep out of the higher bracket if you convert a smaller amount each year.  To accomplish the conversion of a substantial amount overall, you need to start early,