Accounts like IRAs, 401(k)s, and 403(b)s often represent a significant portion of your retirement assets. Did you know these accounts can also be a powerful tool for charitable giving? If you want to include your philanthropic values in your financial goals, considering whether to donate retirement assets makes sense. While it’s always possible to donate retirement assets by cashing them out, paying the required income tax, and then contributing the proceeds to charity, this approach often provides little to no tax benefit. However, with some strategic financial planning, you can use your retirement assets to make a meaningful impact in a tax-efficient manner.
Choosing How and When to Give
Donating During Your Lifetime
It’s important to understand the tax implications of donating retirement assets, as they differ depending on how and when the donation is made. If you’re considering using your retirement assets to give back during your lifetime, the process typically involves withdrawing funds from your retirement account, including the distribution in your income for that year, paying for any taxes associated with the distribution, and then contributing cash to the charity—with one exception.
If you’re age 70 ½ or older, you can take advantage of a qualified charitable distribution (QCD). This allows you to contribute up to $100,000 per year directly from your IRA to a charity without including the distribution in your taxable income. This option can be a game-changer for retirees looking to support causes they care about while avoiding additional income taxes. Keep in mind, though, that QCDs are only available for IRAs and have specific rules and limitations to consider.1
Incorporating Giving into Your Estate Plan
While the tax burden may make donating during your lifetime less attractive, there are estate planning strategies that can offer significant benefits for you, your heirs, and the causes you care about. It’s worth noting that distributions from inherited retirement plans are treated differently than other inheritances. While many assets passed to heirs can be received free of income tax, distributions from inherited retirement accounts are taxed as ordinary income to the recipient.
Donating retirement assets as part of an estate plan can be an incredibly tax-efficient financial strategy. Additionally, supporting a cause you care about as part of your estate plan allows you to leave a lasting impact aligned with your values. You can potentially reduce the income tax burden on your heirs and estate by designating a charity as the beneficiary of some or all your retirement accounts. As tax-exempt organizations, charities can receive the full value of these accounts, avoiding the taxes that individual beneficiaries might otherwise have to pay. This approach comes with several advantages:
- Flexible Allocations: You can divide your retirement assets between charities and heirs in whatever percentages you prefer.
- No Income Taxes: Neither you, your heirs, nor your estate will pay income taxes on the distribution of the retirement assets through charities.
- Estate Tax Deduction: While the value of the donated assets is included in your gross estate, your estate will receive a tax deduction for the charitable contribution, which can help offset estate taxes.
- Full Charitable Benefit: Since charities are tax-exempt, the full value of your retirement account will go directly to the organization you choose, maximizing the impact of your gift.
Designating a Charity as the Beneficiary of Your Retirement Assets
Designating a charity as the beneficiary of your IRA or 401(k) is a simple process. To get started, you must complete a beneficiary form that your employer or plan administrator can provide. If you’re married, checking whether spousal consent is required to name a charity as the beneficiary is important. Without proper consent, the designation could be disqualified. Share your intentions and provide copies of completed forms with your spouse, attorney, and financial advisors to ensure everyone is aligned. Once the beneficiary forms are in place, your retirement assets will generally pass directly to your chosen beneficiaries—whether individuals or charities—bypassing probate.
Using a Donor-Advised Fund as a Retirement Account Beneficiary
If you’re looking for even greater flexibility in your charitable giving, consider naming a public charity with a donor-advised fund (DAF) program. According to the National Philanthropic Trust, “DAF accounts allow donors to make a charitable contribution, receive an immediate tax deduction, and then recommend grants from the fund over time. Donors can contribute to the fund as frequently as they like and then recommend grants to their favorite charitable organizations whenever it makes sense for them. This allows donors to give when they can, then grant when it’s needed.”2
A donor-advised fund acts like a tax-advantaged charitable checking account designed specifically for giving. If incorporated into your estate planning, your IRA or retirement account assets can fund the donor-advised fund upon your passing. The fund can then distribute the assets to charities immediately or over time, allowing for a more strategic approach to giving. You can designate a trusted friend or family member to recommend grants from the fund, ensuring your charitable intentions are carried out over time. The fund can be divided among multiple heirs, each receiving their own giving account to support their individual philanthropic goals. This creates a lasting legacy of generosity.
Final Thoughts
Naming a charity as the beneficiary of your IRA or other retirement assets after your passing can be a highly efficient way to make a meaningful impact while maximizing tax benefits. Whether you choose a direct charitable beneficiary or a donor-advised fund, incorporating your retirement assets into your charitable giving plan ensures that your financial legacy reflects the values you hold dear. With a thoughtful approach, you can make a difference for the causes you care about while providing clarity and benefits to your heirs.
Sources:
1 Internal Revenue Service. (2022, November 17). Reminder to IRA owners age 70½ or over: Qualified charitable distributions are great options for making tax-free gifts to charity. https://www.irs.gov/newsroom/reminder-to-ira-owners-age-70-and-a-half-or-over-qualified-charitable-distributions-are-great-options-for-making-tax-free-gifts-to-charity
2 National Philanthropic Trust. What is a Donor-Advised Fund (DAF)? https://www.nptrust.org/what-is-a-donor-advised-fund/
