Don’t Let a Simple Mistake Foil Your Client’s QCD Plans

Failure to follow the rules can result in loss of the tax benefits associated with qualified charitable distributions.

Qualified charitable distributions (QCDs) have become more valuable since the 2017 tax reform legislation was put into place. Many taxpayers can no longer itemize deductions to take advantage of the federal tax deduction for charitable donations due to the expanded standard deduction. As such, older taxpayers have begun to explore a different option to reap tax benefits for their charitable giving.

The QCD strategy can be valuable from a tax minimization standpoint for charitably minded clients. Still, the rules for removing those distributions from income are detailed — and many mirror the strict rules that apply to any ordinary charitable contribution. As recent court decisions have illustrated, courts enforce those rules strictly, and even an innocent mistake can result in loss of the tax benefits associated with QCDs.

QCDs: The Basics

Under rules put into place about a decade ago, charitably minded clients can direct up to $100,000 in IRA funds per year to charity and reap the tax benefits of a charitable contribution deduction. The $100,000 cap is per person, so married taxpayers can direct up to $200,000 to charity each year, as long as each spouse has their own IRA.

If a client is over age 70 ½, a transfer made directly (via a trustee-to-trustee transfer) from the client’s IRA to a qualified charity — generally, 501(c)(3) organizations, but not donor-advised funds, foundations or charitable gift annuities — will count toward the client’s RMD and is entirely nontaxable (thus also allowing the taxpayer to reduce their taxable income for the year).

Beneficiaries who are over age 70 ½ are also permitted to make QCDs, so long as the beneficiary also meets all other basic requirements for the transaction.

QCDs can only be made from a traditional IRA or an inherited IRA. Tax-preferred accounts such as SIMPLE IRAs, SEP IRAs and Roth IRAs generally do not qualify, although QCDs can be made from SEP IRAs and SIMPLE IRAs that are not ongoing. To be ongoing, an employer must have made a contribution to the SEP or SIMPLE IRA for the plan year when the contribution would be made.

In order to have the distribution counted as a QCD, the client must have the amount transferred directly to charity and report that amount on his or her tax return as a QCD. The full amount is reported on the client’s Form 1040 under IRA distributions, but the client enters “0″ if the entire amount was a QCD (noting “QCD” next to that line).

Recent Court Guidance on CWAs

The requirement that the taxpayer obtains a contemporaneous written acknowledgement applies to any donation valued at $250 or more.

As with any other charitable contribution, the client should obtain substantiation from the charity that confirms the transaction. The documentation should state that no goods or services were provided in exchange for the donation (the donation will not qualify as a QCD if any goods or services are obtained in exchange for the donation). It’s important that the client save all documentation relating to the transaction.

A recent court case involving an itemized charitable contribution deduction illustrated the importance of the written documentation specifically stating that no goods or services were received in exchange for the donation. Although there was no question that the taxpayer had made the donation directly to the charity, that language was missing from the CWA.

The judge had no choice but to disallow QCD treatment for the taxpayer’s charitable contribution because the latest that a taxpayer can receive the CWA is on or before the earlier of (1) the date the taxpayer files their federal income tax return for the year or (2) the due date, including extensions for filing that return. There is no option to allow the taxpayer to request the written documentation after the earlier of those two dates has passed.

Conclusion

The rules governing QCDs are detailed and the courts have indicated their willingness to enforce them even if it might seem like a mere technicality. To make sure clients are able to reap the benefits of the QCD, it’s important to follow the rules meticulously.

___________________

Recommended Stories