Congress recently passed the Secure 2.0 Act of 2022 (the “Act”); it became law on December 22, 2022. The Act is designed to encourage retirement saving and really has very little practical effect on estate planning in general, but it does contain some advantages to those who are charitably inclined.

One of the provisions of the Act encourages people over age 70 ½ to make distributions from their IRA directly to qualifying charities (a QCD) up to $100,000 per year. Notably, this minimum age for QCDs did not increase to age 72, nor age 73 or 75, as other required minimum distributions (RMD) provisions have. Qualifying sources include inherited IRAs but do not include a 401(k), 403(b), 457, or other similar accounts. It also includes Roth IRAs, even though it would rarely make sense to make distributions from such accounts. This threshold of $100,000 will be indexed for inflation (rounded to the nearest thousand) starting next year. For example, if there is an inflation adjustment of 6% for next year, the limit maybe $106,000 in 2024.

The Act also allows for a one-time election to treat a distribution to a charitable gift annuity (CGA) or a charitable remainder trust (CRT) as a qualified charitable distribution with a limit of $50,000. These distributions can count towards someone’s RMD. However, distributions to donor advised funds, supporting organizations or other private foundations are not eligible. In addition, the income from QCD-funded CGAs is subject to the 3.8% net investment income tax. Unlike most annuities, the IRS would treat the QCD-funded CGA as if no money would be invested in the contract. All of the annuity payments would be ordinary income, even if the money used to fund the annuity came from an IRA with non-deductible contributions (a not-too-common situation). Finally, the commonly used deferred annuity is not an option because QCD-funded-CGAs must start the annuity payments within one year of funding.

QCD-funded CRTs are not recommended, as they do not benefit from the “worst in, first out” tax system and have an additional requirement that the income interest in the trust is non-assignable. The income tax treatment of a QCD-funded CRT is the worst possible. If someone funds a CRT via a QCD with $50,000 and eventually receives $100,000 over their (and/or their spouse’s) lifetime, all $100,000 of distributions would be taxed as ordinary income, even if a portion of this (up to $60,000 in this example) is attributable to long-term capital gains and qualified dividends that would ordinarily be taxed to the beneficiary at much lower tax rates. Not a good result!

One might consider instead a testamentary (at-death) funded CRT. If a taxpayer leaves a $50,000 traditional IRA to a CRT, the CRT will liquidate, reinvest, and pay out $100,000 over the beneficiary’s lifetime and the remainder to charity. The first $50,000 will be reported as ordinary income on Form K-1, and the remaining amount will be eligible to be taxed at lower long-term capital gains and qualified dividend rates. This is known as the “worst in, first out” system; this system is better than the income tax treatment of a QCD-funded CRT.

The CGA option is probably not available to persons under age 61 because there is a 5% minimum payout rate. Most charities use the American Council on Gift Annuities (ACGA) recommended payout rates because this rate has been calculated to minimize the risk that the annuitant will outlive the actuarial projections. For a person under age 61, the ACGA recommended rate would be under 5%. Also, if the CGA is structured as a joint annuity, the ACGA recommended payout rate for someone age 71, with a spouse aged 64 or younger, would also be under 5%.

It will be hard to find the appropriate candidate for a QCD-funded CRT or CGA. The CGA option might be more useful as CGAs are often funded with $50,000 or less. It is much rarer to find a CRT funded with $50,000, and the new law does not let you combine non-IRA assets with the QCD-funded CRT.

Given the complexity of the Act’s retirement planning laws, one needs to be careful in taking advantage of the charitable gifting provisions of the Act. You do not have to go it alone—the Attorneys at Strauss Attorneys are happy to assist clients to navigate these decisions successfully.

*Special thanks to Edwin Morrow and Leimberg Services for their contributions to this content

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