A Tax Smart Way to Take Money Out of Your Retirement Accounts

We often receive a lot of calls at the end of the year from clients about specific actions they should take to minimize the taxes they will owe. We're happy to do detailed tax planning, but we also want to share answers to the most commonly asked questions to give everyone general ideas on actions that they can consider.

The 2019 most frequently asked question sounds like this one a retired executive posed:

"I am old enough to have to take a distribution from my 401k account. I have been fortunate and don't really need the income. How can I take the required amount from my account without having to give the government more in taxes?"

The government requires that you take a Required Minimum Distribution from your IRA April 1 of the year following the calendar year in which you reach age 72 (before January 1, 2020 the age was 70 1/2). For 401ks, 403(b)'s and other defined contribution plans, the age is the same, assuming that you are retired. 

The first thing you should do is determine the minimum you need to withdraw – it's based on your age. (See the IRS worksheets at https://www.irs.gov/retirement-plans/plan-participant-employee/required-minimum-distribution-worksheets .)

Normally withdrawals from retirement accounts are treated as taxable income. If you simply take the minimum required distributions you will be taxed on that income at your ordinary income tax rates. There is another option.

If you typically make charitable contributions each year, you can make charitable contributions directly from your retirement account to a charity. The result is the charitable portion of the minimum required distributions is not taxable income. 

That means if you are required to start taking minimum required distributions from your retirement account, consider direct transfers from that account to your favorite charity. Most brokerage firm provide checks that you can give to your charity.

This action will give the charity the money you want them to have without increasing your taxable income.

This is especially important as many taxpayers are no longer receiving a benefit from taking their itemized deductions.  With the recent tax law change, many taxpayers that itemized their deductions due to state and property tax payments are now taking the standard deduction. By taking the standard deduction, the charitable deduction is essentially lost. In 2019 a 71-year old married couple, filing jointly, could take a standard deduction of $27,000 on Federal taxes.

By doing a direct transfer from your retirement account to your charity, you may receive the benefits of making a charitable contribution and taking the standard deduction. (By the way, you cannot both do a direct transfer from a retirement account AND claim the charitable deduction on your schedule A. That would be double counting!)

Our FAQ responses are not advice for your specific situation. Please engage a tax professional to obtain assistance for your return.