Each of us is generally required to pay “income taxes” on the money we earn each year.
However, the government allows us to preclude some of that earned money from being taxed. The amounts for which tax is not required to be paid are called deductions, because their amounts are deducted from the total income that is taxed.
In calculating the amounts of the deduction, we have two primary choices. First, we can choose to “itemize deductions,” which is often done by people who farm, own businesses or make large charitable contributions. The amount deducted from the total income that is taxed is calculated as the amount invested to operate the business or give to charity. Notably, the 2017 Tax Cuts and Jobs Act eliminated several items from being deductible when itemizing deductions.
Thus, I may earn $40,000 in a certain year. If I have $15,000 in charitable contributions and proper business expenses in that year, I could deduct that $15,000 and be left with $25,000 for which I will pay tax.
The second method of calculating deductions is to simply deduct a flat amount each year. That process is defined as taking the “standard deduction.” In 2019, the standard deduction for individuals is set at $12,000.
In other words, I may earn $40,000 in a certain year. If I take the standard deduction of $12,000, I would be left with $28,000 for which I will pay tax.
The Tax Cuts and Jobs Act almost doubled the annual standard deduction. For single filers like me, the standard deduction went from $6,500 to $12,000.
This significant increase in the standard deduction, coupled with the new limits on itemized deductibility, means more people than ever do and are expected to take the standard deduction.
The potential downside of more people taking the standard deduction is that more people may no longer be as motivated to make charitable contributions, since taking the standard deduction necessarily means that there will not be a direct, corresponding decrease in taxable income for each charitable gift.
Fortunately, there is a tool that allows some people to still effectively itemize charitable contributions while also taking the standard deduction. The tool is called a qualified charitable distribution, and it only applies to people who are at least age 70½ who have one or more IRAs.
Essentially, a person age 70½ can remove up to $100,000 per year from his or her IRAs to be paid to one or more charities (such as a church), have that amount count toward the person’s annual required minimum distribution and not pay tax on that amount. The deduction applies even if the person uses the standard deduction.
The tool must be set up properly, and the charitable donation must be made directly from the IRA to the charity.
If you or someone you know is age 70½ or better and has an IRA, please check with your financial advisor, charity or church to see how to establish and use a qualified charitable distribution.
Lee R. Schroeder is an Ohio licensed attorney at Schroeder Law LLC in Putnam County. He limits his practice to business, real estate, estate planning and agriculture issues in northwest Ohio. He can be reached at Lee@LeeSchroeder.com or at 419-659-2058. This article is not intended to serve as legal advice, and specific advice should be sought from the licensed attorney of your choice based upon the specific facts and circumstances that you face.