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George F. Bearup, J.D. Senior Legal Trust Advisor

22-Oct-18

Qualified Charitable Distributions and Charitable Designations

Take-Away: While there are many good tax and philanthropic reasons for clients over the age of 70 ½ to make charitable gifts using their traditional IRAs,  a couple of unanswered questions linger with regard to the implementation of that  qualified charitable distribution strategy.

Background on Qualified Charitable Distributions: You know from prior ‘missives’ that a qualified charitable distribution must be a direct gift from the traditional IRA custodian to the charity.

  • Penalty: When that qualified charitable distribution gift is completed is important. The failure to take a required minimum distribution before the end of the calendar year triggers a 50% penalty on the undistributed required minimum distribution amount.
  • Substantiation: While no charitable income tax deduction is available for a qualified charitable distribution, the IRS still requires a substantiation of the charitable gift if it is more than $250. [IRS Publication 590-B.]
  • Inherited IRAs: The IRS has held that a required minimum distribution from an inherited IRA can be satisfied with a qualified charitable distribution. But the beneficiary of the inherited IRA must then be over the age of 70 ½ for the distribution from the inherited IRA to satisfy that beneficiary’s required minimum distribution. [Notice 2007-7, Q&A 37.]
  • Pledges: The IRS says that a qualified charitable distribution can be used to pay a pledge (even a contractually enforceable pledge!) [Notice 2007-7, Q&A 44.]

Lingering Gift Questions: That requirement for a direct payment by the traditional IRA custodian creates two separate questions: (i) when is the qualified charitable distribution complete for tax reporting purposes (and thus satisfies the IRA owner’s required minimum distributions for the calendar year)?; and (ii) what is the day used to value transferred stock or assets from the IRA account for purposes of determining the amount of the qualified charitable distribution (which satisfies the IRA owner’s required minimum distribution for the calendar year)? There are no answers to these questions in the IRS’ Regulations with regard to qualified charitable distributions. These questions become important if the IRA owner waits until the very end of the calendar year and directs the charitable gift from their traditional IRA in order to satisfy their required minimum distribution (RMD) for the calendar year.

  • Example: Assume the IRA custodian is asked to write a check from the IRA account payable to the charity in late December 2018. The check is delivered to the IRA owner who then mails the check to the charity, which receives the check in January 2019. When is the qualified charitable distribution completed? December or January?
  • Example: Assume the IRA owner has check-writing privileges associated with his/her traditional IRA. Late in December 2018 the IRA owner writes a check from the IRA account made payable to the charity. The check is then either handed to the charity or mailed to the charity, which is received in January 2019. When is the qualified charitable distribution completed for tax reporting purposes? Added to this unanswered question is how will the IRA custodian know how to report the qualified charitable distribution to the IRS, considering the check will be presented to it for payment by the charity in January 2019?
  • Example: The IRA custodian is directed to wire stock to the charity on December 30. The charity receives the stock on January 2. What day is used to value the wired stock- December 30 or January 2?

Tentative Answer: The IRS Publication cited earlier views the qualified charitable distribution as being subject to the date-of-gift rules as deductible charitable contributions, much like writing checks to a charity at the end of a calendar year- the date of the check, not the date the check is cashed, is used for the charitable income tax deduction. Those rules imply, but do not come right out and say,  that a gift made via a check mailed to a charity is complete for income tax deduction purposes on the date of mailing, provided that check clears the donor’s bank account in due course. [Treasury Regulation 1.170A-1(b).]

Background on Charitable Beneficiary Designations: Often a charity is named as the beneficiary of an IRA. This is a popular approach to carrying out charitable bequests on death for a few reasons. First, the distribution from the IRA to the charity while normally a taxable event is paid to a tax exempt charity- no income tax is paid by the charity. Second, rather than changing a Will or Trust where the charitable bequest is located, it is much easier to simply change an IRA beneficiary designation if the decision is made to change the identity of the charitable recipient. Finally, by not naming the charity in either a Will or Trust, using the IRA beneficiary designation in lieu of those governing instruments, the charity is not treated as an interested party in the decedent’s estate or a qualified trust beneficiary under a trust which would otherwise require a copy of the trust and other information with regard to the trust’s assets to be delivered to the charity.

  • Charity’s Perspective: Apparently there is a lot of confusion with regard to distributions from the charity’s perspective especially when a charity is the named beneficiary of an IRA on the owner’s death. Specifically on death distributions, some IRA custodians: (i)believe that the transfer is subject to mandatory tax withholding, ignoring the fact that charities as a general rule do not pay income taxes; (ii) believe the transfer of large cash sums is subject to the Patriot Act [Section 326) which in turn triggers the custodian’s ‘know your customer’ rules, but the charitable recipient is not a customer of the IRA custodian-rather,  it is named solely as a beneficiary of the IRA; and (iii) require the charity to open an ‘inheritor IRA’ into which the IRA distribution is deposited, but the charity is not subject to any required minimum distribution rules, and only individuals, not charities or other legal entities, can own an IRA.

Conclusion: The key points to remember regarding distributions from IRAs to charities include:

  • do  not wait until the bitter-end of the calendar year in which to implement a qualified charitable distribution from a traditional IRA, if the goal is to apply the distributed amounts to the IRA owner’s required minimum distribution obligations for that calendar year (and avoid the 50% penalty for not taking the required minimum amount.)
  • the first dollars distributed are subject to the required minimum distribution rules for the calendar year, so distributions earlier in the year, and later spent, are not available to be classified as qualified charitable distributions for the year in satisfaction of required minimum distributions;
  • while individual stocks and other assets can be the subject of the qualified charitable distribution, if it is possible it is better to use cash in order to avoid any questions as to the value of the assets transferred in satisfaction of the required minimum distribution.; and
  • if possible, a wire transfer from the IRA custodian to the charity from the IRA is a much ‘cleaner’ way to facilitate the transfer to the charity as opposed to the physical delivery of a check, especially if the end of the calendar year looms on the horizon and inclimate weather delays the hand-delivery of that check.