Charitable Contributions Using Tax-Deferred Account

Old Mission Santa Barbara 1786

When one reaches the age were Required Minimum Distribution (RMD) goes into effect it is wise to alter where charitable contributions originate.  In this blog I will explain why writing contribution checks on a tax-deferred account makes more sense than writing a check on a taxable account or from a checking account.  Here is an example using place holder values.

Assume the RMD for a given year is $30,000 and the Federal tax obligation is 30% while the State tax rate is 10%.

• Amount paid to Federal tax is:  $30,000 x 0.30 = $9,000
• Amount paid to State tax is:  $30,000 x 0.10 = $3,000
• Total taxes is $12,000 leaving $30,000 – $12,000 = $18,000 to put back into a taxable investment account.

Now suppose you donate $5,000 to charity out of the tax-deferred account.  Instead of an RMD of $30,000 the RMD is now $25,000.  Now we go through the same calculations using the lower RMD dollar figure.

• Amount paid to Federal tax is:  $25,000 x 0.30 = $7,500
• Amount paid to State tax is:  $25,000 x 0.10 = $2,500
• Total taxes is $10,000 leaving $25,000 – $10,000 = $15,000 to put back into a taxable investment account.

Donating $5,000 out of a tax-deferred account actually costs $18,000 – $15,000 or $3,000 instead of $5,000 if donated from a taxable checking account.

There are limits to the amount one can donate without penalty.  Check with your tax accountant if this might be an issue.  Also, different states may have different requirements.  Do your own investigations and check my figures carefully.