Retirement accounts can be subject to a combination of federal and state income and estate taxes that can seriously erode their value. Retirement savings are subject to federal and state income tax as received, either by the retiree or the retiree’s heirs at the heirs’ ordinary income tax rate. Because retirement assets are included as part of the taxable estate at death, the assets in qualified retirement plans can also be subject to federal and state estate taxes.
While retirement assets are often overlooked as potential charitable gifts, they can be a convenient, tax-favored giving option for charitably minded individuals. Careful planning for the disposition of retirement plan assets can help to avoid undesirable tax costs. Properly structured gifts of retirement account balances can improve the donor’s overall tax consequences, increase the amounts passing to heirs and escape income and estate taxes.
Ann, a widow, has recently died. She has one surviving child. Her estate assets include her home, valued at $300,000 and an individual retirement account (IRA) of $300,000. Ann’s will divides her estate equally between her child and the University of Maine Foundation, specifying that her child will receive the IRA account, and that her house will go to the University of Maine Foundation for the benefit of the University of Maine.
The house will pass to the Foundation with no income tax consequences. However, the amounts paid from the IRA will be taxed at the child’s income tax bracket when received. If the child is in the 32% tax bracket, the amount remaining after income taxes of $96,000 will be $204,000. The child’s inheritance has been depleted by nearly 1/3.
• Better result:
Ann should leave her house to her child, who can sell it immediately, with no federal income tax or capital gains taxes if it is sold at Ann’s date of death value. The child will receive approximately $300,000. The Foundation should be designated as beneficiary of the IRA account worth $300,000. Because the Foundation is a tax-exempt organization, it will not be subject to income taxes on the IRA distributions. This simple rearrangement saves $96,000 in taxes and increases the amount passing to Ann’s heir.
The University of Maine Foundation has professional giving officers ready to work with you and your advisors. We may be reached Monday-Friday between the hours of 8 am and 5 pm by calling 1.800.982.8503 or via email at firstname.lastname@example.org.