The Legacy IRA—Creating a Lifelong Income Stream by Utilizing Your IRA to Fund a Split-Interest Gift Arrangement With Your Favorite Charity

The Legacy IRA—Creating a Lifelong Income Stream by Utilizing Your IRA to Fund a Split-Interest Gift Arrangement With Your Favorite Charity
Bryan Taylor

As we enter 2024, many retirees are already considering how much money they are required to withdraw from their individual retirement account (IRA). That annual withdrawal means more taxable income, something many of us would like to avoid. The SECURE Act 2.0 (setting every community up for retirement enhancement) signed into law by President Joe Biden in late 2022 contained a unique provision which allows retirees over the age of 70½ to use the mandatory annual withdrawal in a single year to fund a charitable gift which will create an income stream over the remainder of his or her life or the life of the IRA holder and his or her spouse! This type of charitable gift is referred to as a split-interest gift arrangement because both the donor and the charity are beneficiaries: the donor receives a lifelong income stream, and the charity receives the remainder after the donor’s death. Creating a “Legacy IRA” through the creation of a split-interest gift arrangement is a great strategy allowing the retiree to defer taxes, receive income, and make a charitable gift, all in one transaction.

For example, John and Lisa are both in their mid-70s, and John’s required minimum distribution (RMD) for 2024 is $70,000. John is required to take that distribution, and it will be treated as taxable income and add to his adjusted gross income (AGI) in 2024. John does not need all the money immediately and wonders if there is a way to defer the distribution and avoid the immediate tax implications?

The Backstory: What Is a Required Minimum Distribution?

An individual retirement account (IRA) allows the investor’s assets to grow tax free. However, at some point the Internal Revenue Service requires the investor to begin taking withdrawals from their IRA. The annual amount that a retiree is required to take from his or her IRA is referred to as a required minimum distribution (RMD). That annual RMD used to begin for retirees at age 70½, but under the SECURE Act 2.0, retirees now have until age 73 to begin taking their RMD. In each subsequent year, this RMD adjusts based on the remaining life expectancy of the IRA owner. The RMD adds to the owner’s annual taxable income. The distribution is treated as ordinary income and raises the retirees adjusted gross income or AGI resulting in a higher tax burden to the individual.

What About the Qualified Charitable Distribution—How Does That Work?

Following the Tax Cuts and Jobs Act of 2017, the standard deduction available to most taxpayers nearly doubled. Ostensibly, this action simplified tax filing for many Americans and resulted in the vast majority of filers taking the standard deduction rather than itemizing individual deductions for tax purposes. One result of this legislation was that far fewer Americans were able to receive a direct tax benefit from their generosity.

For tax year 2024, Americans over 65 who file individually will generally receive a standard deduction in the amount of $16,550, those married and filing jointly may deduct $32,300, and those filing as head of household may take a deduction of $23,850. These standard deduction levels set a relatively high bar for itemization of allowed deductions such as medical expenses, mortgage interest, property taxes, and charitable donations. The same legislation which increased the standard deduction also eliminated or limited many itemized deductions. As a result, many Americans now utilize the standard deduction and no longer deduct charitable gifts on their annual tax return.

However, back in 2006 the Pension Protection Act created a little used strategy called a qualified charitable distribution (QCD). For the next several years, this strategy was rarely used because many tax filers “itemized” and were able to take advantage of many different deduction opportunities when they filed their annual tax return. As taxpayers have adjusted to the higher standard deduction, the QCD strategy has gained significant popularity. The strategy allows the IRA holders over the age of 70½ to give up to $105,000 of their RMD to charity and not have to include that amount as part of their AGI for tax purposes.

Using the QCD to Create a Unique Solution

John and Lisa no longer itemize. Following their retirement and the tax law changes, their CPA advised them that it would be more advantageous for them to take the standard deduction. They give some money to charity each year, but it is not enough for them to take advantage of itemizing on their tax return. John’s investment advisor mentioned a potential solution. He and Lisa could make a gift to charity using a QCD in place of their RMD to fund either a charitable gift annuity or a charitable remainder trust! John’s adviser went on to explain that the amount that can be contributed to fund one of these strategies rose in 2024 to $53,000.

A Charitable Gift Annuity Explained

A charitable gift annuity is a unique split-interest gift arrangement in which a donor gives cash or some other asset to a charity in exchange for an income stream for the remainder of his or her life or sometimes for a joint life term. In the case of a QCD-funded gift annuity, there are some important rules that must be observed when making the gift:
  • The donor must be 70½.
  • The donor and his or her spouse are the only allowed income beneficiaries.
  • The gift annuity must be an immediate pay fixed annuity (not a deferred or flexible deferred annuity contract).
  • No charitable deduction is allowable for the funding of the gift annuity, but the QCD structure allows the IRA distribution to bypass the donor’s AGI excluding it from taxation.
  • The annuity is non-assignable even to the charity, and the payments must continue for the donor’s lifetime or joint life term.
  • The funding limit for 2024 is $53,000, and the donor can only make this election in a single year. (Note: the total amount may be split among multiple charities but all split-interest gifts must be completed in a single year.)
  • When funding a gift annuity from an IRA through a QCD the payout rate must be 5 percent or more to qualify.

A Charitable Remainder Trust Explained

A charitable remainder trust is a more complex arrangement, and there are multiple factors involved. The same QCD strategy outlined above may be utilized to fund either a charitable remainder annuity trust (CRAT) or a charitable remainder unitrust (CRUT). An annuity trust is similar to a charitable gift annuity in that the annual distribution is set when the trust is initiated and does not change. However, unlike a charitable gift annuity, a CRAT is backed only by the assets in the trust and could conceivably run out of funds prior to the death of the income beneficiaries. A CRUT’s payment is reset each year based on the amount of funds remaining in the trust. This can be a good solution, because if the payout rate on the trust is relatively low, then the trust can actually grow over time, allowing the income beneficiary’s income to grow and the charitable beneficiary’s remainder benefit to increase as well. One challenge with funding a CRAT or CRUT is that many charitable trustees require a larger balance to justify setting up a trust. Further, charitable remainder trusts are required to file an annual tax return resulting in a K-1 to the income beneficiary rather than the simpler and more timely 1099 that is generated through a gift annuity arrangement.

Evaluating the Tax Savings

Taking a look back at our example, John and Lisa would incur significant immediate tax impact from John’s 2024 RMD. All of the $70,000 distribution would be treated as income on top of any other income that John and Lisa received during the year, resulting in a sizable tax payment in 2024. Utilizing a split-interest gift agreement allows the couple to avoid recognizing that income on $53,000, thereby avoiding the immediate income tax impact and possibly by lowering the taxability of other income they receive like Social Security. This strategy may also help them avoid other taxes like the 3.8 percent net investment income tax, the surtax on Medicare premiums, etc. Instead, the couple receives income for the remainder of their life and spreads the tax impact out over that entire period. Most charities utilize gift annuity rates suggested by the American Council on Gift Annuities. These rates are structured to help ensure that the necessary funds are available to pay John and Lisa throughout their lives and also to ensure that some value remains in the contract as a gift to the charity. In this way, the couple not only benefits by avoiding current taxes but they also benefit by providing a significant benefit to their favorite charity.

Wrapping It All Up

Remember, an IRA holder can only utilize this strategy in one tax year, so it pays to maximize the amount of your RMD you contribute. In our example, John and Lisa can contribute up to the full $53,000 maximum in 2024 because John’s required RMD is above that amount. However, John can’t use next year’s RMD to add additional split-interest gifts. A key benefit for married spouses is that each spouse can utilize this benefit, and while they can choose to each use the strategy in the same year they are not required to do so.

Creating a split-interest gift through a QCD is often referred to as a Legacy IRA. The strategy comes with significant tax deferral benefits and can provide a positive impact to both you and your favorite charity! As with any tax strategy, you should always check with your tax adviser prior to making a gift to help maximize the value of the gift arrangement.

The Epoch Times copyright © 2024. The views and opinions expressed are those of the authors. They are meant for general informational purposes only and should not be construed or interpreted as a recommendation or solicitation. The Epoch Times does not provide investment, tax, legal, financial planning, estate planning, or any other personal finance advice. The Epoch Times holds no liability for the accuracy or timeliness of the information provided.
Mr. Bryan Taylor is a Cornerstone Principal and currently serves as Chief Executive Officer and Chief Investment Officer of the firm. He has over 25 years of experience in portfolio management and design. Mr. Taylor oversees all operations and is Chairman of the Cornerstone Investment Committee.
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