Using IRAs for Charitable Gifting

The Pension Protection Act of 2006, enacted into law in 2006, provides a potentially valuable tax planning opportunity for individuals over the age of 70 ½. In order to take advantage of the planning opportunity, action must be taken before the end of 2007.

Prior to the new law, if an individual wanted to make a charitable contribution from his or her IRA, he or she would have had to make a withdrawal first and make the contribution from the withdrawn funds. Although, in theory, this should have the effect of offsetting the income associated with the withdrawal with the deduction associated with the contribution, that is not the case for a number of reasons.

First, the charitable contribution deduction is limited to a certain percentage of an individual’s gross income. If the contribution exceeds this limitation, the deduction in the year of the contribution is denied, although the deduction can be carried forward to a future year.

Second, higher income individuals who itemize their deductions may be limited in the amount of charitable deduction allowed as the distribution will increase the individual’s alternative minimum taxable income and, therefore, may increase his or her AMT exposure.

Third, individuals who do not itemize their deductions and, instead, utilize the standard deduction, would receive no income tax benefit from the charitable deduction.

The Pension Protection Act of 2006 allows, on a temporary basis for 2006 and 2007 only, an individual to make a charitable contribution directly from his or her IRA. This would have the effect of excluding the distribution from the individual’s income and avoiding the potential pitfalls as described above. It should be noted that the charitable IRA rollover provision is only available to individuals over the age of 70 ½.