This newsletter is a follow-up to the June 13, 2019 newsletter titled How Qualified Charitable Distributions Can Impact Your Taxes and Favorite Charities. The focus of that newsletter was Qualified Charitable Distributions (QCD). QCDs are distributions to a charity which can be used in place of required minimum distributions (RMD) to eliminate tax on the amount donated. What about accounts other than IRAs that also have RMD requirements at age 70½? These accounts include SEP IRAs, SIMPLE IRAs, 401(k)s, and 403(b)s. Can QCDs be given from these accounts to satisfy RMDs?
Let’s start with SEP IRAs (Simplified Employee Pension Individual Retirement Account). A SEP IRA is a type of retirement plan established by an employer with fewer than 25 employees, including self-employed individuals with no employees. SEP IRAs are adopted by sole proprietors or small business owners to provide retirement benefits for themselves and, if applicable, their employees. SEP IRAs have the same RMD requirement as an IRA. The balance of a taxpayer’s SEP IRA can be aggregated with all of the taxpayer’s other IRA accounts to determine the RMD. The RMD can be taken from any IRA account. A taxpayer could make a QCD from an IRA account that would be large enough to satisfy the RMD from their SEP IRA.
When it comes to making a QCD directly from the SEP IRA, the IRS has said that QCDs are not permitted from ongoing SEP IRAs. An ongoing SEP IRA is one that receives a contribution for the year in which the QCD is being considered. Taxpayers can continue making contributions to SEP IRAs after the age of 70½, provided they have earned income. Therefore, taxpayers who have SEP IRAs that are no longer receiving contributions are clear to make QCDs directly from the SEP. A taxpayer making active SEP contributions would need to move funds from the SEP to a traditional IRA before making a QCD.
Another hybrid IRA is the Savings Incentive Match Plan for Employees (SIMPLE) IRA. A SIMPLE IRA is a type of employer-provided retirement plan available to an “eligible employer”—an employer with no more than 100 employees. The SIMPLE IRA works like a 401(k) by allowing employees to make salary deferrals to contribute to the plan. SIMPLE IRAs have the same RMD requirement as an IRA. The balance of a taxpayer’s SIMPLE IRA can be aggregated with all the taxpayer’s other IRA accounts to determine the RMD. The RMD can be taken from any IRA account. A taxpayer could make a QCD from an IRA account that would be large enough to satisfy the RMD from their SIMPLE IRA.
Just like the SEP IRA, a QCD cannot be done from a SIMPLE IRA that receives a contribution for the year. The workaround is the same as with a SEP IRA except that contributions to SIMPLE IRAs must be held for two years before they can be rolled into a traditional IRA. Once the two-year holding period has been satisfied, a taxpayer could directly transfer funds to a traditional IRA in order to make a QCD.
The tax code does not allow QCDs from any other employer-sponsored plan such as the popular 401(k) or 403(b) plans. It is important to note that a primary difference between IRAs and employer-sponsored retirement plans is that plan participants who are still working get a pass at age 70½ if they don’t own more than 5% of the company. This is called the “still working” exception. The due date for the first RMD from their company plan after reaching age 70½ is April 1 of the year after separation from service.
The balance in a taxpayer’s 401(k) account or 403(b) account cannot be aggregated with other IRA accounts for purposes of calculating the total RMD. Each employer-sponsored plan has its own RMD to satisfy. For example, John’s RMD for his IRA is $10,000 and his 401(k) is $15,000. John cannot take $25,000 from his IRA to satisfy the total RMD. He must take $15,000 from his 401(k) and $10,000 from his IRA separately.
A retired taxpayer could roll over some or all their 401(k) to an IRA and then make a QCD directly from the rollover IRA. If the taxpayer is still working, some employer plans allow for in-service withdrawals. The working taxpayer could take an in-service withdrawal to a rollover IRA and then process a QCD to a charity.
Note, however, that the rollover strategy will not satisfy the current RMD from a 401(k). In the example above, John already has a $15,000 RMD requirement that cannot be satisfied from an IRA. He could not roll over the $15,000 and then do a QCD to meet his RMD. The 401(k) will always have to meet its own RMD requirement. John must take his $15,000 as a taxable RMD from his 401(k) for the current year. He could then roll over his 401(k) balance to an IRA, avoiding this situation next year.
Effective tax planning is a long-term strategy that should be started before reaching age 70½. Talk to your tax and/or financial adviser about your charitable goals to determine the best way to minimize your future tax liability.
Rick’s Tips:
- The balance of a taxpayer’s SEP IRA, SIMPLE IRA, and traditional IRA accounts can be aggregated to determine a total RMD.
- QCDs cannot be made from an ongoing SEP IRA or SIMPLE IRA.
- The “still working” exception allows employees over age 70½ to postpone taking RMDs while they are contributing to their 401(k) or 403(b) accounts.
