Tax Free IRA Distribution
When you reach age 70-1/2, the IRS says you must begin taking distributions from your IRA (unless it’s a Roth IRA—for those, only your death triggers required distributions). And since the IRA we’re talking about here isn’t a Roth, the distribution is taxable.
Let’s say you’ve made it to 70-1/2 (congrats!) and you’ve been living quite comfortably without taking any IRA distributions. Now you’re looking at being forced to take out money you don’t need from your IRA, and paying tax on it. That doesn’t feel so good, but it’s all part of Congress’ Grand Plan.
IRA Contributions After Age 70-1/2
If you don’t need any money from your IRA to pay living expenses but are subject to required minimum distributions because of your age, your first thought might be: “I’ll show them. I’ll take the distribution, then just put the money right back in my IRA!”
Clever, but Uncle Sam’s way ahead of you.
First, you can’t make further regular (i.e., non-rollover) contributions to a traditional IRA beginning in the year you turn 70-1/2. Curses.
However, you can contribute to a Roth IRA at any age. But, as you know, Roth IRA contributions are made with after-tax money, so you’re not going to recover the tax bill on your mandatory traditional IRA distribution by turning around and putting the distribution into your Roth.
(This is not to say you shouldn’t recycle some or all of a required IRA distribution back into a Roth IRA. Doing so might make a lot of sense if you don’t need the cash to live. You can build tax-free earnings on the money if it’s in your Roth.)
So there’s no way to avoid the tax on a required IRA distribution you don’t want or need? Wait—there is one way!
Donate Your Required IRA Distribution to Charity
You probably already make annual donations to various charitable organizations. Your donations might be tax deductible, but if you’re age 70-1/2 or more this year, there’s a sure-fire way to cut your tax bill, support your favorite charities, and take the tax-free IRA required distribution.
To make this work, the funds must be transferred directly by your IRA trustee to the charity. If you follow these rules, you may exclude the distribution from your income, and—double bonus—the distribution is counted against your required minimum IRA distribution.
Charitable Donation From an IRA Isn’t All or Nothing
Let’s say your 2016 required minimum IRA distribution is $7,000. You don’t have to decide between transferring all or none of this to charity. You could, for example: donate $1,000 by direct transfer to the Red Cross; recycle $4,000 into your Roth IRA; and spend $2,000 on liposuction. You would then be allowed to exclude $1,000 (the Red Cross donation) of the $7,000 distribution from your 2016 income.
For everything you’d ever want to know about IRA distributions, written in the IRS’ charming if impenetrable style, read Publication 590-B, “Distributions from Individual Retirement Account Arrangements”.