Under the normal rules, an IRA distribution is included in the gross income of a donor, who then may claim a charitable income tax deduction if she contributes that money to charity. There has been a special rule for qualified charitable distributions, which has been extended on a temporary basis every two years, with the last such extension expiring at the end of 2014. This special rule, which has proven to be very important for charitable gift planning, has finally been made permanent by the Protecting Americans from Tax Hikes (PATH) Act, signed by President Obama on December 18, 2015, effective for distributions made in 2015.
Qualified Charitable Distributions
Otherwise taxable IRA distributions are excluded from gross income if they meet the definition of qualified charitable distributions:
Up to $100,000 excluded, to the extent otherwise includible in gross income
The distribution must be made directly from the IRA trustee to a publicly supported charity other than a supporting organization described in IRC §509(a)(3) or a donor advised fund defined in §4966(d)(2)
Distribution must be made after the donor attains age 70-1/2
Exclusion applies only if a charitable deduction for the entire distribution would be allowed (i.e., no quid pro quo from the charity and donor must receive sufficient substantiation)
Qualified charitable distributions are excluded from gross income and are not taken into account in determining the donor’s charitable income tax deduction.
Let’s remind ourselves why this charitable IRA rollover provision is so important. First, some donors do not itemize deductions because they claim the standard deduction instead, and for this group the ability to exclude a qualified charitable distribution from income is a much more valuable tax incentive than a charitable income tax deduction.
For donors who do itemize their deductions – typically homeowners with higher income – the importance of the charitable IRA rollover is illustrated with this example:
Example: John has AGI from other sources of $50,000 in the year in which he instructs his IRA trustee to distribute $100,000 directly to his alma mater.
Result without the charitable IRA rollover provision:
The transfer from the IRA to charity would be treated as a distribution to John, followed by his contribution to the university. The deemed distribution would increase his AGI from $50,000 to $150,000. The contribution would be allowed as a deduction up to 50% of AGI, or $75,000, leaving him with additional AGI subject to tax resulting from the IRA distribution to the university of $25,000, even though the entire distribution went to charity.
Result with the charitable IRA rollover provision:
Under the special charitable IRA rollover provision, the distribution from the IRA trustee to the university would not increase John’s AGI (nor would it entitle him to a charitable contribution deduction), with the result that he makes a gift in the same amount, but ends the year with AGI of $50,000.
The permanent charitable IRA rollover is good news for donors like John and the charities they support, since the IRA rollover has proven to be a popular fundraising vehicle due to the vast amount of assets held in IRAs, and the fact that holders of those accounts are required to take distributions that they may not necessarily need to spend themselves but would rather have go to charity.